As inflation in the US ramped and then rolled over, it was typical to get massive market moves on CPI data but as prices have cooled, so has the market reaction.
Unfortunately, the magic is gone -- and now rests with non-farm payrolls as the Fed focuses on its employment mandate -- but it's still a market mover and certainly the most-important data point this week.
The consensus on the headline number is +0.2% m/m and +2.6% y/y. The latter would be the lowest since 2021. In fact, anything below last month's 2.9% reading will be the lowest since 2021.
It's a reminder that inflation is almost back to target. Another helping hand for inflation is currently coming from the oil market, where prices have plunged in the past week and at $65.80 are more than 25% below where they were at this time last year. That will drive some valuable downward momentum in next month's report and should help the market look past a 0.1 or 0.2 pp upside surprise in this month's data.
More importantly will be the core number, which excludes food and energy. The consensus there is for a 0.2% m/m reading and a 3.2% y/y/y reading, in part because home prices and rents are taking some time to filter through. Another metric the Fed will be watching is 'supercore' inflation, which is CPI services ex-housing. It was at 4.5% y/y last month and that's a reminder that goods are doing all the heavy lifting in the report at the moment, in part because insurance rates take a long time to be passed on.
Digging deeper into the consensus, the core number is well-balanced with a roughly equal number of economists expecting upside and downside surprises but on the headline y/y print, there is a downward bias.
Why I think this report might be more-important than some recent editions is the FOMC decision on September 18. The market is struggling to decide whether Powell will go by 50 bps or 25 bps. Current pricing is 33% for 50 bps but that could rise to 40% if both core and headline undershoot, even slightly.
There is a consistent consensus of economists saying the Fed should cut 50 bps but probably won't. I sense a strong desire from Powell and other top FOMC officials to be proactive and get ahead of the kind of economic softness that was flagged in the Beige Book.
Moreover, the bond market is screaming that inflation is no longer a problem, with US 5-year yields today hitting the lowest since 2023.
Five year breakevens are also at 1.88% (lowest since Dec 2020), suggesting the bigger risk is a Fed undershoot on inflation.
FX market reaction
Overall, I see downward risks to the US dollar and the potential for a rise in risk assets on this report. A upside miss should be easily brushed aside because of the pressure from oil and raw materials that's looming. Meanwhile, a downside miss will raise the possibility the Fed could tag 2% inflation this year. There are some base effects that reverse late in the year that will add some pressure but the lower track will underscore that inflation is yesterday's problem.