December inflation report likely to show prices eased further but remain high

A high-stakes inflation report due Thursday is expected to show that price gains slowed further in December thanks to a decline in gas and energy costs, but still remain historically high. 

Economists expect the consumer price index, which measures a basket of goods, including gasoline, health care, groceries and rent, to show that monthly price gains were flat in December, down from an increase of 0.1% November. On an annual basis, inflation is projected to have climbed by 6.5% at an annual rate, a decline from 7.1% in November and a high of 9.1% in June. 

When excluding the more volatile measurements of food and energy, prices are expected to climb by 0.3%, or 5.7% annually, suggesting that underlying inflationary pressures remain strong. 

"I think inflation peaked a good long time ago, in the early to mid-part of last year," Luke Tilley, the chief economist at Wilmington Trust, told FOX Business. "The question has always been how quickly will it come down. Clearly monetary policy is working and has hit shelter."

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While consumers have recently gotten a relief from inflation in the form of lower gas prices, the latest CPI report will likely show that food and rent costs remain uncomfortably high. That is a concerning development because higher housing and food costs most directly and acutely affect household budgets.

The report is the last before the Federal Reserve's next policy-setting meeting on Feb. 1 and will have major implications for the U.S. central bank, which is tightening monetary policy at the fastest rate in decades as it tries to crush out-of-control inflation. Officials already approved seven straight rate increases in 2022, lifting the federal funds rate to a range of 4.25% to 4.5%, well into restrictive levels. Officials have since indicated that further increases are coming this year and that they intend to hold rates at elevated levels for some time. 

Wall Street firms and investors are keenly watching to see whether the Fed sticks with another 50-basis-point hike when policymakers meet in February or instead approve a smaller 25-basis-point increase. Stocks rallied on Wednesday ahead of the report. 

The CME FedWatch tool shows a 77% chance of a quarter point increase and a 23% chance of a half point hike.

"A weaker inflation report on Thursday morning doesn’t really change their near-term outlook that much, or their language," said Tilley, who is anticipating a peak rate of about 5%. "It basically validates where they have been coming from with wanting to slow down the pace of hikes."  

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The Fed is also watching other economic indicators, including job growth and consumer inflation expectations. In another welcoming sign for the central bank, there were some signs of the labor market softening and rapid wage growth cooling in the December jobs report last week. 

"Overall, this report should serve to reassure the Fed that an ongoing slowdown in the pace of monetary policy tightening – featuring a 25bps rate hike in early February – is appropriate, although expectations of a dovish pivot would still be misguided," Gregory Daco, EY Parthenon chief economist, said on Friday after the jobs report.

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