Rate update: Inflation rears its ugly head

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By G. Steven Bray

With summer behind us, things could get more interesting for interest rates. That may result in more volatility than we saw during the summer, but the same forces that were at work then remain relevant now.

Inflation remains enemy number one of those who want low interest rates. We’ve talked the last few months about how consumer inflation seems to be inching higher, but wage inflation has remained mostly contained. Well, that changed with last week’s jobs report. Average hourly earnings broke through an important ceiling, and rates quickly responded by moving higher. More importantly, total wages, which factors in hours worked, are up 5.1% in the past year. That provides a lot of extra juice for the economy.

Interestingly, earnings for workers in the bottom 10% based on income saw earnings grow 3.9% whereas the top 10% saw only 1.2% growth. That’s positive for the economy because lower income workers are more likely to spend their extra earnings.

Now, the question is will these extra earnings translate into extra consumer demand leading to higher consumer prices. We may get an answer this Thurs through the release of the Consumer Price Index. As we’ve discussed before, the CPI is the granddaddy of inflation measures. The core rate has been rising slowly all year and currently exceeds 2%, the Fed’s supposed target rate. It’s a good bet if Thursday’s reading shows another rise, it will give markets a jolt.

Markets also may be watching the European Central Bank meeting this week. European economic growth has been positive, but not all that and a bag of chips. Rumors are the ECB may downgrade its future growth estimates. That may result in some flight-to-safety bond buying, which could help keep US rates contained.