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Surging Inflation Sends Dollar Higher

by Karl Schamotta | May 12, 2021

What happened: US consumer prices rose more quickly than expected last month, underscoring the stresses emerging in the economy as manufacturers, shippers and retailers struggle to meet soaring post-pandemic demand. The Bureau of Labor Statistics reported a 4.2% year-over-year increase in its benchmark Consumer Price Index in April, well above market forecasts – and the highest recorded since September 2008.

Headline prices rose 0.8% month-over-month, beating consensus estimates that had been set closer to 0.2%.

Core prices, which exclude highly-volatile food and energy categories, rose 3.0% in April from a year before – smashing forecasts for a 2.3% increase. On a month-over-month basis, the core consumer price index rose 0.9% – the largest monthly jump since April 1982.

Why does it matter? It doesn’t, at least not for now.

Base effects played a significant role: Last year’s plunge in consumer spending and commodities depressed price measures across the spectrum, arithmetically making today’s numbers appear larger.

An increase was widely expected: Central bankers and economists have long anticipated a “transitory” surge in prices as demand recovers and pandemic-disrupted supply chains are brought online. The Federal Reserve has repeatedly pledged to look through near-term inflation data, keeping accommodative monetary policy settings in place for years to come.

Yes, but: Skyrocketing costs for basic economic inputs like corn, copper, and lumber point to a more sustained rise in prices. Inflation expectations are mounting across the business landscape, and consumers are increasingly expressing worries about too much money chasing too little supply. 5- and 10-year breakevens – which reflect investor inflation expectations over longer time horizons – have crept upward, suggesting that investors expect the Federal Reserve to tolerate higher price gains over the coming decade.

Markets are on edge: 10-year yields jumped from pre-release levels, and the trade-weighted dollar violently spiked more than 0.5% higher.

Bottom line: Today’s release brings us no closer to understanding whether higher inflation is here to stay – and market reaction could fade quickly. But it is clear that valuations are becoming increasingly vulnerable – particularly ahead of the Federal Reserve’s August conference. If Powell & Co. choose to respond to rising prices, a tapering in asset purchases could be telegraphed at the Jackson Hole Economic Symposium.
Karl Schamotta
Chief Market Strategist

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