US (CPI)

US June Consumer Price Index (CPI) will be released on July 15th. The CPI is seen as the most important measure of inflation and measures the price level of goods and services purchased at the consumer level. CPI can be greatly influenced by movements in the volatile "food and energy component." Therefore it is important to look at the CPI excluding food and energy which is known as the "core rate" of inflation. The most closely watched components of the core rate are apparel, tobacco, airfares and new car sales. May CPI dropped 1.3%. This was the biggest annual CPI decline since 1950. Excluding food and energy, May core prices rose just 0.1% compared to a 0.3% rise in April. The decline in May CPI and the modest rise in the core rate suggest that inflation remains low and businesses are having difficulty passing on costs to consumers. Food prices fell 0.2% reflecting lower costs for meats, dairy products, fruits and vegetables. New car sales rose 0.5%. The core inflation rate was limited by weaker costs of apparel, tobacco, transportation and rents.
The June CPI is expected to rise 0.2% m/m compared to a seasonally adjusted 0.1% last month. June annual inflation rate is expected at -1.6% compared to -1.3% last month. Core inflation is expected at 0.2% compared to 0.1% last month. The trade will look to the June CPI report for signs of deflation or if the data suggests a rising risk of inflation. The report may have implications for Fed policy and whether the Fed has leeway to increase quantitative ease if inflation risk remains low. If the report shows increased inflation risk the report might encourage the Fed to consider moving up its timetable for an exit strategy from quantitative ease. The Fed has implemented quantitative ease and pledged to buy $1.75 trln in mortgage backed securities, Treasury notes and agency bonds to boost liquidity and combat the US recession. This large amount of liquidity may increase inflation risk as the Fed's balance sheet expands and the economy recovers. At some point the Fed will have to implement an exit strategy from quantitative ease to mop up this liquidity and reduce its balance sheet. The Fed may elect to execute reverse repurchase agreements, consider sales of short term debt to sterilize reserves or pay interest on the reserves as part of a plan to exit quantitative ease. Fed Chairman Bernanke testifies before Congress on July 21st. His testimony may include some details of the Fed's plans for an exit strategy from quantitative ease. The impact of the June CPI report should be limited unless there is a major divergence from market expectation in the core CPI.