US inflation growth appears reluctant to slow, likely delaying the Federal Reserve's plans to cut rates and, for now, keeping government bond yields in a holding pattern.
The consumer price index climbed 3.17% from February 2023 to February 2024, up from the 3.11% annual increase in January and still well above the Fed's goal to slow inflation growth to 2%, according to seasonally adjusted government data released March 12. While inflation growth peaked at just below 9% in June 2022, inflation has moderated since October 2023, averaging about 3.20% over the past five months. The index, the market's preferred measure of inflation, rose 0.44% from January to February, the largest monthly gain since August 2023.
Core inflation, which strips out volatile food and energy prices, fell to 3.76% in February from a year earlier, its lowest annual growth since April 2021. Still, the annual growth of core inflation has fallen just 26 basis points over the past four months, after falling 83 bps in October 2023 from June the same year.
"So far, 2024 has brought disappointing evidence to those looking for hope that the Fed is ready to cut rates," Augustine Faucher, chief economist of The PNC Financial Services Group, said in an interview.
Wage growth remains strong as labor demand continues to outpace supply, consumer spending power has stayed robust despite the Fed keeping interest rates above 5% far longer than most economists imagined, and a long-anticipated recession still appears avoidable.
With little confidence that inflation is really in decline, Fed officials will likely keep rates at current levels in the near term, likely limiting much movement in government bond yields as well, according to Kathy Jones, managing director and chief fixed-income strategist with the Schwab Center for Financial Research.
"Consequently, the market is stuck waiting for more data as usual," Jones said in an interview. "We do see inflation trending lower over time and the Fed cutting rates in the second half of the year, but for now the markets are probably range-bound."
The benchmark 10-year Treasury yield peaked just shy of 5% in October 2023 before falling as low as 3.79% in late December. That yield, however, has remained in a range between 4.09% and 4.33% over the past month, with little definitive direction either way.
If inflation stabilizes at current levels, yields will likely rise, but if the Fed boosts its inflation target above 2%, breakeven rates will likely be de-anchored, according to Althea Spinozzi, head of fixed income strategy at Saxo Bank.
"The only way forward for the Fed is to make sure that inflation goes back to 2%," Spinozzi said in an interview.
Consumer inflation expectations are rising and the bond market has pushed back rate cut expectations, which had been as early as March just a few weeks ago, to July, Spinozzi said.
For now, bond yields will remain in a relatively tight range, Spinozzi said.
"There needs to be more conviction for inflation to rebound or remain supported at current levels in order for US Treasury yields to resume their rise," Spinozzi said. "And there is need of more conviction for inflation to be a sustainable path towards 2% for a bond bull market to form."
