Expect disinflation to kick in soon as pressure on prices builds - which would allow the Fed to pivot to smaller rate hikes, top economist says
- A "disinflationary wave is building" in the US, according to Capital Economics' Paul Ashworth.
- Falling gasoline and food prices will cause headline inflation figures to fall soon, he said.
The Federal Reserve will soon be able to hike interest rates less aggressively as the US experiences a period of disinflation, a Capital Economics strategist said.
The research firm's chief US economist predicted that sliding food and gasoline prices will cause headline Consumer Price Index prints to fall over the rest of 2022.
"If we're right that inflation will fall back soon, officials will quickly pivot to much smaller hikes," Paul Ashworth said in a research note Tuesday. "The continued drop in gasoline prices and easing food inflation will weigh on headline CPI over the next month or two."
Average national gas prices have fallen to $3.68 a gallon after peaking at over $5 a gallon in June, according to the AAA. Some economists argue that food prices have also peaked, but others have suggested that there's further pain to come for US shoppers.
August's 8.3% inflation print rattled markets after missing economists' expectations by 0.2 percentage points. But Ashworth said that there was some good news in the latest batch of data, which appeared to show supply-chain issues easing.
"Despite the larger-than-expected 0.6% rise in core prices in August, there are mounting signs of disinflation there too," he wrote. "Supply shortages have normalized, with our product shortages indicator now suggesting that core goods inflation could fall back to 2% before the end of the year, from 7% in August."
"There are broader signs of deflation in services from falling airfares to hotel rates, while the plunge in longer-term inflation expectations has markedly reduced the risks of a price-wage spiral," Ashworth added. "The upshot is that we expect to see clearer and more convincing signs of a drop back in inflation in the CPI figures soon."
Disinflationary pressures could open the door for the Fed to ease up on its rate-hiking program. Ashworth expects the US central bank to take a softer approach to tightening after the conclusion of its September meeting Wednesday.
"Fed funds futures suggest that rates will peak at close to 4.50%, more than 125 basis points of additional tightening compared to what was priced in following July's meeting," he said. "Those expectations are above our forecasts, principally because we expect inflation to drop back more markedly."