US: Higher inflation might prompt a larger rate hike – UOB

Senior Economist at UOB Group Alvin Liew and Rates Strategist Victor Yong review the latest release of US inflation figures for the month of June.

Key Takeaways

“US headline consumer price inflation accelerated more than expected, to 9.1% y/y in Jun (from 8.6% y/y in May), ahead of Bloomberg estimates of 8.8% and a fresh 4-decade high since Nov 1981 (9.6%). On a m/m basis, the headline CPI rose at a faster clip of 1.3% in Jun (versus 1.0% in May), fastest since 2005 and matched the top end of the forecast range in the Bloomberg survey.”

“Core CPI inflation (which excludes food and energy) continued to ease from its high recorded in Mar (6.5% y/y), coming in at 5.9% y/y for Jun, from 6.0% y/y for May but it was nevertheless above Bloomberg estimate of 5.7%. But of greater concern was that on a sequential basis, core inflation rose by 0.7% m/m in Jun, above May’s 0.6% m/m and Bloomberg estimate of 0.5%.”

“We expect US inflationary pressures to stay elevated into 3Q 2022, underpinned by upside to commodity prices (especially energy and food), supply chain disruptions while housing costs pressure also remained on the upside although the jump in mortgage rates in recent months may help to slow the price increases. Most concerning is that inflation has yet to peak as it remains very broad-based, extending into higher services cost, and that certain CPI sub-indices which have been prominent inflation drivers and considered a bellweather of the latest round of inflation surge, such as the index for used cars and trucks, continued to see the spring in prices in them. We expect inflation to head higher in 3Q before some easing in 4Q 2022, and as such, we will further raise our headline CPI inflation forecast to average 8.5% (from 7.5% previously) while keeping our core CPI inflation forecast at 6.5% for 2022. Subsequently, we still expect both headline and core inflation to ease in 2023 to average 2.5%.”

“With Jun US headline CPI inflation coming in well above our and market forecasts, this will mean a stronger response from the Fed is required. As such, we expect the Fed Funds Target Rate (FFTR) to be hiked by 100bps in 26/27 Jul FOMC (previous forecast 50bps).”