Fresh economic data released Thursday showed that inflation cooled more than expected in October, a hopeful development for American consumers and welcome news for the Federal Reserve and White House after months of stubbornly persistent price increases.
While inflation is still rapid and painful for many households, it is finally beginning to show signs of turning a corner. The consumer price index slowed to a 7.7% gain in the year through October, less than the 7.9% that analysts had expected and down from 8.2% in the year through September.
After stripping out food and fuel costs, both of which jump around, prices rose by 6.3% on an annual basis, down from 6.6% in the prior reading. And that core inflation measure pulled back sharply on a monthly basis, posting its slowest increase in more than a year.
The report provides early evidence that the Fed’s campaign to slow rapid inflation may be helping to ease price pressures, working alongside recent healing in supply chains. The central bank has lifted interest rates from near zero to nearly 4% this year as it tries to slow consumer and business demand and give supply a chance to catch up.
Stocks surged on the news, as investors took it as a sign that Fed officials might raise rates less aggressively and inflict less economic pain in their quest to tame inflation. The S&P 500 soared 5.5%, its best one-day performance since April 2020, which marked the early market recovery from a coronavirus-induced meltdown.
But a chorus of central bankers emphasized Thursday that there is more work to do to ensure that price increases return to a normal pace — and uniformly said that they are not done raising interest rates.
“This morning’s CPI data were a welcome relief,” Lorie K. Logan, the president of the Federal Reserve Bank of Dallas, said in a speech shortly after the report was released. “But there is still a long way to go.”
While Fed officials regularly emphasize that they are dedicated to wrestling inflation down even if that process proves painful, President Joe Biden has expressed optimism that the central bank can slow down the economy without tipping it into an outright recession. On Thursday, he heralded the data as evidence that his and the Fed’s policies are working.
“Today’s report shows that we are making progress on bringing inflation down, without giving up all of the progress we have made on economic growth and job creation,” Biden said.
The fresh report capped a good week for the president and his party, after midterm elections showed that Republicans had failed to turn popular angst over rising prices into widespread victories at the ballot box.
Republicans tried to use the new data to emphasize that inflation remains rapid, and faster than pay growth.
“With persistent and high inflation for the foreseeable future, American workers saw yet another pay cut in their real wages last month,” Rep. Kevin Brady, R-Texas, the ranking member of the House Ways and Means Committee, said in a statement.
While Fed officials welcomed the inflation slowdown, they did so in a far more muted way than the White House: A single month of moderate improvement in the data was not enough to make central bankers confident that still-rapid price increases will quickly fade, especially after more than a year and a half of stubborn inflation and frequent false dawns.
The new data is still “far from a victory,” Mary C. Daly, the president of the Federal Reserve Bank of San Francisco, said during a question-and-answer session in a webcast with the European Economics & Financial Centre. She and her colleagues made clear that the path back to normal is a long and uncertain one.
Central bankers have signaled that they would like to slow their rate increases soon, and investors heavily expected that step-down to come in December after the new inflation figures.
But markets also dialed back how many rate moves they anticipated next year following the release, and Fed officials seemed to push back on that idea in remarks Thursday. A number of them suggested that interest rates will still need to rise to a level where they are clearly weighing down the economy, even if at a slower pace. Once rates are high enough, officials expect to hold them there for some time.
“The pace of hikes is less important than the strength and communication of this commitment,” Esther George, president of the Federal Reserve Bank of Kansas City, said during a speech Thursday afternoon.
In their latest economic projections, central bankers estimated that rates would move above 4.5% next year. Fed Chair Jerome Powell said during a news conference last week that they would likely need to go even higher, given how resilient the economy and inflation have proved since those estimates were released.
“We need to do more, and we will,” Loretta Mester, president of the Federal Reserve Bank of Cleveland, said Thursday.
The Fed aims for 2% inflation on average over time, using a measure that is related to the consumer price index but comes out later in the month. Price increases remain far faster than that — and are expected to remain abnormally brisk through the end of this year.
Still, the underlying details of Thursday’s CPI report showed encouraging trends that, if they continue, could help inflation cool down more meaningfully in 2023. A slowdown in goods inflation that economists have long anticipated finally showed up, with prices for clothing and used cars falling markedly.
“It shows some broad-based deceleration, which is helpful from the Fed’s perspective,” said Matthew Luzzetti, chief U.S. economist at Deutsche Bank. “It was about the details of the report: Many of them were supportive if they were to continue.”
Housing inflation remains rapid for now, but that is expected to change next year. Economists at firms including TD Securities and JPMorgan predict that rent inflation could begin to slow notably as early as the first three months of 2023.
Health insurance, which has been slightly adding to inflation, is now beginning to slightly subtract from it because of the way it is calculated, and that is expected to continue. That health insurance decline only matters for CPI, though. It will not feed into the personal consumption expenditures inflation index that the Fed officially targets.
And risks that could keep inflation sharply elevated persist, especially as consumer demand proves resilient and the labor market remains strong. A big question going forward is what will happen in services outside of housing: pet care, child care, health care, manicures, meals out and the like.
Prices for services are closely tied to wage gains, which have been climbing swiftly in recent months. If that continues, it could be hard for inflation to fall the whole way back to the roughly 2% pace that was normal before the pandemic. Companies are likely to try to pass rising labor bills along to consumers in the form of higher prices.
“Services inflation, which tends to be sticky, has not really shown signs of slowing,” said Mester, from the Cleveland Fed. “Inflation continues to be broad-based.”
While Fed officials do not want to tighten policy so much that they unnecessarily harm growth and cost American jobs, they are also wary of doing too little.
The central bank has learned from the experience of the 1970s, when officials were never resolute enough in raising interest rates to fully stamp out price increases. As inflation remained high for years, businesses and consumers came to expect it and adjusted their behavior in ways that made inflation even harder to control.
Back then, “the Fed said: ‘Well, OK, we’ve got it coming down, so now we’ll stop raising rates, stop trying to fight it back,’ and then it sort of reared its ugly head again and got embedded in psychology,” Daly said. “I’m not prepared to make that mistake.”