Hot inflation report puts Fed on track for December rate hike

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  • Key insight: The latest CPI inflation report, which showed inflation rising 0.4% in October, puts more pressure on the Federal Reserve to increase interest rates. Recent comments suggest policymakers will be ready to hike.
  • Expert quote: "I believe a 50 basis point hike in the policy rate should be considered at the December meeting. Hiking only 25 basis points would put our credibility at risk, a risk I am not eager to take." — Fed Gov. Christopher Waller

Inflation rose faster than expected last month as lower energy costs could not offset broader price increases, according to Tuesday's consumer price index report from the Bureau of Labor Statistics, rising 0.4% on the month.

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The October CPI reading exceeded the consensus market forecast which expected a monthly increase of 0.24%. The Bureau of Labor Statistics did not issue an October CPI report last year, so the agency did not publish an annualized rate of inflation for last month. The print is better than September, when prices rose 0.6% month over month and 3.7% year over year, but hints at a troubling trend of accelerating inflation.

Ahead of the report, Federal Open Market Committee members were already expressing increased concern about prices. Hours before the report was released, Fed Gov. Christopher Waller said his baseline expectation was that inflation would improve from September but the committee will still raise its benchmark interest rate a quarter percentage point next month.

Even if inflation had come in below 0.3%, Waller said in a pre-written speech delivered in London, he would have backed a 25 basis point hike. With the October reading coming in above that level, he could support a bigger increase. 

"I am leaning toward supporting an increase in our policy rate of 25 basis points at the FOMC's December meeting," Waller said. "That's my plan if things proceed as I expect. But if the October CPI inflation data out later today are similar to the past two monthly readings … then a stronger policy move may be needed. In that case, I believe a 50 basis point hike in the policy rate should be considered at the December meeting. Hiking only 25 basis points would put our credibility at risk, a risk I am not eager to take."

Waller joined the majority of FOMC voters in supporting their move to keep interest rates unchanged during the committee's meeting last month. In his speech he said this was appropriate because the group had already clearly signaled its intent to raise rates repeatedly, enabling market participants to price such a change into their valuation models. 

Yet, while the committee bought itself some flexibility in September, Waller said it must follow through on this "sooner rather than later" or else risk losing the trust of financial markets.

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Inflation has been the FOMC's primary concern for months, as price growth from supply-side shocks — including tariffs and the war in Iran — have proven to be persistent. Meanwhile, the Fed's other top priority, maintaining maximum employment, has been firmly in hand. The U.S. economy added 165,000 last month and the unemployment rate fell to 4.1%.

Waller is not the only Fed official who has called for tighter monetary policy. Two FOMC participants voted against last month's policy hold, Fed Gov. Lisa Cook and Federal Reserve Bank of Cleveland President Beth Hammack, both of whom preferred a hike.

Cook has yet to explain her rationale. Hammack, in a speech delivered in Zurich, Switzerland last week, noted that inflation has been above the Fed's 2% target for nearly six years and has recently shown signs of broadening out beyond volatile food and energy prices. Because of this, she, too, anticipates monetary policy being tightened.

"I expect that monetary policy will need to move to a restrictive stance to bring inflation back to 2% in a timely manner," Hammack said. "I prefer getting to that stance through more frequent smaller adjustments when possible, something which would be less disruptive to households, businesses, and financial markets."

Two other Fed officials have also signaled that a rate hike is likely on the menu for next month's FOMC meeting. 

Richmond Fed President Tom Barkan and Chicago Fed President Austan Goolsbee both spoke publicly on Monday. Neither called for a rate hike expressly, but both made the case that stable employment, a strong economy and rapidly rising inflation collectively call for raising interest rates.  The two governors will not cast a vote next month, but they will be voting members of the committee next year, beginning in January.

Barkan in a speech delivered in South Carolina, said the right course of action for the Fed was "relatively straightforward," indicating comfort in raising rates. Though he noted that artificial intelligence-driven productivity increases could be a wild card that shifts his thinking. 

"The path of AI feels particularly consequential. If it underdelivers, business investment could pull back, stock prices could follow, and so too could asset-fueled consumer spending," he said. "The risk runs the other way, too. AI could overdeliver and displace more workers than expected, resulting in a pullback in spending. Either scenario would move attention to the maximum employment part of our mandate."

Goolsbee acknowledged the range of long-term implications from AI innovation. However, in the short term, he said the investment boom in the space looks like something the Fed would normally address with higher rates. 

"In the Fed world, the bigger the hype, the more nervous I am that we are going to overheat above what the economy is capable of in the next six months," Goolsbee said