Skip to main content

People walk past a COVID-19 testing station, in New York, on Jan. 4.ANGELA WEISS/AFP/Getty Images

U.S. consumer prices rose solidly in January, leading to the biggest annual increase in inflation in 40 years and fuelling financial markets speculation that a hefty 50-basis-points interest-rate hike can be expected from the Federal Reserve next month.

The broad increase in prices reported by the Labour Department on Thursday was led by soaring costs for rents, electricity and food, and could heap more political pressure on U.S. President Joe Biden, whose popularity has been declining amid anxiety over the rising cost of living.

High inflation, which has overshot the Fed’s 2-per-cent target, threatens to imperil Mr. Biden’s economic agenda. It is overshadowing a strong economy, which grew at its fastest pace in 37 years in 2021 and a labour market that is rapidly churning out jobs.

“For the Fed, this report provides another wake-up call. Inflation is here and it continues to make its presence known everywhere,” said Alexander Lin, an economist at Bank of America Securities in New York. “We believe that today’s print endorses the Fed to move more quickly, and the market will likely encourage the Fed to hike 50 basis points at the next meeting.”

The consumer price index gained 0.6 per cent in January after a similar increase in December. Food prices rose 0.9 per cent, with the cost of food consumed at home increasing 1.0 per cent. There were strong increases in the prices of cereals and bakery products, dairy, fruits and vegetables. Meat prices rose moderately.

Electricity prices jumped 4.2 per cent, offsetting cheaper gasoline and natural gas.

In the 12 months through January, the CPI jumped 7.5 per cent, the biggest year-on-year increase since February, 1982.

That followed a 7.0-per-cent advance in December and marked the fourth straight month of annual increases in excess of 6 per cent. Economists polled by Reuters had forecast the CPI rising 0.5 per cent on the month and accelerating 7.3 per cent on a year-on-year basis.

Effective with the January report, the CPI was reweighted based on consumer expenditure data from 2019-20. That increased the goods weight and trimmed services.

The economy is grappling with high inflation, caused by a shift in spending to goods from services during the COVID-19 pandemic. Trillions of dollars in pandemic relief fired up spending, which ran against capacity constraints as the coronavirus sidelined workers needed to produce and move goods to consumers.

The Fed is expected to start raising rates in March to rein in inflation. Financial markets are predicting nearly even odds of a 50-basis-points increase, according to CME’s FedWatch tool.

Market predictions are partly driven by the fact that price pressures are broadening, with several measures of wage inflation increasing strongly in recent months.

But not all economists are saying the Fed would move so aggressively, arguing that it would cause economic growth to stagnate. Many expect the central bank to raise rates by 25 basis points at least seven times this year.

“In this environment, an overreactive Fed that starts tightening too much and too fast might mean that we end the year with much slower growth to accompany lower inflation,” said David Kelly, chief global strategist at J.P. Morgan Asset Management in New York.

Excluding the volatile food and energy components, the CPI increased 0.6 per cent last month, matching December’s rise. It was the seventh time in the past 10 months that core CPI has increased at least 0.5 per cent.

Underlying inflation last month was driven by a 0.5-per-cent increase in rents, the largest rise since May 2001.

It was also boosted by strong gains in the prices for household furnishings and operations as well as used cars and trucks. Healthcare costs rose 0.7 per cent, lifted by hospital services and prescription medication. New motor-vehicle prices were flat.

In the 12 months through January, core CPI jumped 6.0 per cent. That was the largest year-on-year gain since August, 1982, and followed a 5.5-per-cent advance in December.

Monthly inflation could slow in the coming months amid an easing in supply bottlenecks as coronavirus infections driven by the Omicron variant subside. With core goods now having more weighting in the CPI, the anticipated shift in spending back to services should also help to moderate inflation.

Goods imports increased to a record high in December as ships off-loaded their cargo after months of delays because of labour shortages at ports. Wholesale motor-vehicle inventories increased by the most in 10 years in December.

Still, inflation will remain high for a while, in part reflecting the delayed impact of rising wages. Employers are boosting compensation as they compete for scarce workers. There were 10.9 million job openings at the end of December.

“It will take much cooler inflation data than what we saw in today’s report to meaningfully bring inflation down closer to the Fed’s 2-per-cent target,” said Sarah House, a senior economist at Wells Fargo in Charlotte, N.C. “As the most immediate price distortions brought on by the pandemic and initial policy response unwind, wage pressures continue to build and point to a more persistent source of inflation.”

That was underscored by a second report from the Labour Department showing initial claims for state unemployment benefits fell 16,000 to a seasonally adjusted 223,000 for the week ended Feb. 5. Claims had jumped to a three-month high in mid-January as Omicron raged across the country.

Though wages are soaring, those gains are being wiped out by inflation. Average hourly earnings adjusted for inflation fell 3.1 per cent in January. According to economists at Moody’s Analytics, inflation was costing the average household over $250 a month.

Be smart with your money. Get the latest investing insights delivered right to your inbox three times a week, with the Globe Investor newsletter. Sign up today.