Forget Rising Core Inflation, It's The Hot 'Supercore' Inflation That's Keeping The Fed Up At Night

What is the rate of inflation? It's a simple question, but can be surprisingly ambiguous.

For investors wondering when the Federal Reserve will start cutting rates, understanding the inflation reading that the Fed pays the most attention to to get to its stated 2% goal could be the key to predicting its next policy move. 

To understand what the 2% inflation target means, it's worth understanding the different ways inflation can be measured.

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Core inflation is the change in the costs of goods and services, excluding traditionally more volatile categories such as food and energy. Core inflation rose 3.9% year over year in the January consumer price index report, the same pace as the prior month, but still well above 2%. It was also above the 3.7% economists forecasted, which sent the S&P 500 down 1.37% on the day of the report.

Food and energy are excluded from this calculation because their prices are too volatile, and the Fed has much less direct control over them with their monetary policy tools than it does other categories. Also, raising interest rates has less of an impact on these staples because regardless of prices for food or energy, consumers still need to eat and fill up their cars. 

Consumers still feel the impacts of rising food and energy prices and so they are included in another measure: headline inflation. Headline inflation had a better showing than core inflation, rising a relatively less 3.1%, even though it was still above the 2.9% expected by economists.

However, to some economists, the 3.9% rise in core inflation is even worse than it appears because of what's known as supercore inflation, which clocked in at 4.4%, the fastest uptick since April 2022.

Supercore inflation is the category that Fed Chairman Jerome Powell has stated could be the most important way to understand the future evolution of inflation.

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Supercore inflation takes core inflation, and then additionally strips out housing, which makes it an even stronger indicator of inflation in the services economy.

Stephen Stanley, chief economist at Santander Capital Markets, calls supercore inflation "the thing the Federal Reserve is focused on," making the Fed further from its target than it may otherwise appear to be.

Given its recent rise, predictions for the Fed to start cutting rates have been getting pushed back, especially if the trend continues.

Peter Cardillo, chief market economist at Spartan Capital Securities, summarized the situation, saying, "If this keeps up with another month or two of inflation staying high, you can kiss a June (rate cut) goodbye and we're probably looking at September."

For consumers anxiously anticipating lower interest rates to take on new debt such as to buy a home or refinance their existing debt, more hot inflation readings could force the Fed to put a damper on those plans.

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