How the Latest Inflation Data Plays Into the Fed's Thinking

Customers shop at an IKEA store in Brooklyn, N.Y. ENLARGE
Customers shop at an IKEA store in Brooklyn, N.Y. Photo: Michael Nagle/Bloomberg News

Thursday’s inflation figures were a bit stronger than economists expected. But not strong enough to make the Federal Reserve feel comfortable raising interest rates.

The Labor Department said its consumer-price index fell 0.2% in September from August, putting it even with a year earlier. The core measure, which excludes often volatile food and energy prices, picked up by 0.2% from August. This put it up 1.9% on the year, marking its biggest gain in over a year.

Much of that, though, was driven by a 3.2% increase in shelter costs. These are largely made up by owners’ equivalent rent—the Labor Department’s calculation of what it would cost homeowners to rent their homes. Since rents have been rising so, too has owners’ equivalent rent.

Shelter costs represent a far smaller portion of the Commerce Department’s core inflation gauge the Fed prefers—about 20% versus about 40% within the core CPI. So it is unlikely it got any closer to its 2% inflation target in September. Indeed, economists at J.P. Morgan calculate that under the Commerce Department’s measure, core prices remained up just 1.3% on the year.

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Nor is it likely core inflation will make much progress toward the Fed’s target in the months ahead. Not with overseas weakness and dollar strength pushing import prices and so consumer-goods prices lower. Not with services prices away from shelter remaining muted despite steady labor-market improvement.

Indeed, more Fed officials seem to be coming around to the view that the relationship between falling unemployment and rising inflation isn’t as strong as they supposed. The result: chances of them raising rates before the year is out have diminished.

It would take a stronger inflation report than Thursday’s for those odds to change.

Write to Justin Lahart at justin.lahart@wsj.com


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