The inflation that won't budge

Core consumer prices rose 0.3 per cent in November, the fourth monthly reading in a row at that pace, leaving annual core inflation at 3.3 per cent. Disinflation in the United States has stalled.

The headline figure tells the same story. Annual inflation including food and energy edged up to 2.7 per cent, from a low of 2.4 per cent in September. The Federal Reserve has already cut its policy rate by three-quarters of a point since September, taking it to a range of 4.5 to 4.75 per cent, and markets expect another quarter-point cut at next week's meeting. The data are making that look harder to justify.

Services keep climbing

The stickiness sits in domestic services, notably car insurance and healthcare, where prices are shielded from falling global goods prices and follow slow-moving pay trends. Month-on-month core inflation is running close to four per cent at an annualised rate. On that evidence the Federal Reserve has no good case for cutting much further. Inflation is simply not coming down.

Car insurance shows how inflation can arrive late. Premiums are rising at a double-digit annual rate because insurers are passing on the higher cost of repairing and replacing vehicles, costs that surged in 2021 and 2022 as prices for cars and parts jumped. State regulators must approve many of those increases, which spreads them out over years. Healthcare prices follow a similar lag, since many are set in contracts negotiated long in advance. Both categories are catching up with past inflation, and neither responds much to interest rates.

Goods stop helping

For most of the past two years falling goods prices offset stubborn services inflation. That help is fading. Used-car prices rose sharply in November, partly because of replacement demand after the autumn hurricanes in the south-east, and the long decline in goods prices that followed the repair of supply chains appears to be flattening out. If goods inflation settles near zero rather than below it, overall core inflation will track services more closely, and services are running well above the Fed's target.

The incoming administration adds another risk. Donald Trump has promised broad tariffs on imports, including steep duties on goods from China, Mexico and Canada. Tariffs raise the price of imported goods and of domestic products that compete with them, so they would push goods inflation up just as the disinflationary tailwind from supply chains runs out.

The arithmetic of 0.3

A monthly rise of 0.3 per cent sounds small. Compounded over a year it comes to roughly 3.7 per cent, which is where core inflation would settle if the recent pace continued. The Fed's target is 2 per cent on its preferred measure, the personal consumption expenditures index, which typically runs a little below the consumer price index. Even allowing for that gap, four straight months at 0.3 per cent imply inflation stuck well above target rather than gliding towards it.

The case for looking through it

The Fed's doves have a reasonable answer. Shelter, the largest component of the core index, is still slowing, because rents on new leases have been soft for a long time and the official measure catches up only gradually. The consumer price index gives shelter a heavier weight than the Fed's preferred gauge, so the stickiness looks worse on this measure than on the one officials target. A policy rate of 4.5 to 4.75 per cent remains well above inflation, so policy is still restrictive even after three cuts.

Those points explain why the Fed will probably cut next week. They do not explain why it should keep cutting at the same pace. Real rates are falling as inflation stops declining, and financial conditions have loosened: share prices are near record highs and corporate credit spreads are narrow.

What the bond market is saying

Long-term yields have already drawn their own conclusion. The ten-year Treasury yield has risen substantially since the Fed began cutting in September, and mortgage rates have climbed rather than fallen. That is unusual at the start of an easing cycle and reflects investors' doubts that inflation will return to target, along with concern about the fiscal outlook. Borrowers who expected cheaper mortgages have been disappointed, while savers in longer-dated bonds have earned higher yields.

The history of the 1970s shows the danger of easing while inflation is stuck. The Fed cut rates in the early and middle years of that decade before inflation was beaten, and each time prices accelerated again, forcing far harsher tightening later. Nobody expects a repeat on that scale, but the pattern of cutting into sticky inflation is the one the Fed has spent decades trying not to repeat.

What to watch

The Fed's new projections next week will show how many cuts officials now expect next year; a sharp reduction would signal that they share these concerns. After that, January's inflation data, which often include price rises that firms push through at the start of the year, will be the next test, along with any tariff announcements after the inauguration.

Four straight months of 0.3 per cent core readings suggest price pressures have settled in. If the Fed keeps cutting regardless, it risks having to reverse course by the middle of next year. The most likely outcome is one more cut next week followed by a long pause, with mortgage borrowers waiting well into next year for relief that the September cut appeared to promise.