Headline Consumer Price Inflation (CPI) slowed slightly in September, but core inflation, which excludes food and energy, continued to rise from a year ago. The persistence of high inflation will continue to yield rapid increases in interest rates, and will trigger a recession in the coming months.

Insights for What’s Ahead

1. These September readings are consistent with our expectation that topline year-over-year CPI growth probably peaked in Q2 2022, but we maintain that high inflation will remain an issue throughout 2022 and 2023. The improvement in headline year-over-year inflation reading was largely due to falling energy prices, with a large drop in gasoline prices leading the way (this reprieve may be reversing). However, these gains were offset by intensifying inflation in other categories, including shelter, food, and medical care indexes.
    
2. Given the current inflationary environment, we expect the Fed will hike by 75 bp in November and will raise the federal funds rate to 4.25-4.50 percent by the end of the year and then up to 4.50-4.75 percent in early 2023—deep into “restrictive” territory. Even with this degree of monetary policy tightening, key consumer price indexes, specifically the personal consumption expenditure deflator, will likely remain above the 2 percent target (we forecast 2.5 year-on-year) by the end of 2023.
    
3. Borrowing costs will remain elevated in the near term as the Fed battles inflation. These two forces will weigh on consumer spending and business investment over the next 12 to 18 months and will likely trigger a US recession. Anemic growth and elevated inflation before and after this recession will exhibit stagflationary characteristics.

September Inflation Highlights

Headline CPI slowed slightly to 8.2 percent year-over-year in September, vs. 8.3 percent in August near 40-year highs. In month-over-month terms, however, this topline inflation metric rose 0.4 percent—up from 0.1 percent the month prior. While falling energy prices remained a factor in this month’s reading, inflation in other parts of the economy remained robust. Gasoline prices fell 4.9 percent from the prior month, but food prices were up by 0.8 percent.

Core CPI continued to intensify in September. The core index, which is total CPI less volatile food and energy prices, rose by 0.6 percent month-over-month in September, vs. 0.6 percent in August, and 0.3 percent in July. Additionally, shelter prices rose 0.7 percent, and medical care rose 1.0 percent. In year-over-year terms core CPI was rose to 6.6 percent from 6.3 percent in August.