Medical Care Services Inflation Matches Cycle High (5.1%)

Housing Market Might Be Fine

Housing market is pivotal because business investment is weak. Currently, the economy can’t handle another blow as GDP growth already might be below 1% in Q4. And, the housing market ended its 7 quarter decline in Q3. It should be strong in Q4 at least. Even with the increase in long bond yields. Average 30 year fixed mortgage rate is still low. A further increase would be problematic.

MBA mortgage applications report from the week of November 8th gave us some support for the thesis that the housing market will keep recovering. And MBA composite index was up 9.6% weekly after falling 0.1%. Refinance index was up 13% after rising 2%. Refinancing will become less popular as long term rates increase. 

As you can see from the chart below, the MBA purchase applications index has been in an upturn since 2016. Yearly comp was easy, but 15% growth is still solid. Weekly growth was 5% following a decline of 3%.

Core Inflation Falls, But Stays Above 2%

Difference between core and headline inflation fell from 0.7% to 0.5% in October. Energy still drove headline inflation lower. Comp is about to get much easier for energy which means headline and core CPI will converge. If you deflate wage growth by headline CPI, it means real wage growth will fall. 

Specifically, energy inflation was -4.2% which is better than the -4.8% rate in September. That’s a big increase when you consider that the comp went from 4.8% to 8.9%. That comp falls to 3.1% in November. Meaning energy inflation should be much less of a drag on headline inflation in the next report. Energy commodities prices fell 7.4% while energy services prices were up 0.4%. Fuel oil prices fell 10.6% and gas prices fell 7.3%.

Headline inflation beat estimates and core CPI missed estimates. Cries of core CPI being above 2% are still here. But have died down a bit lately. Core CPI has fallen and the Fed isn’t planning to cut rates in December. Specifically, monthly headline CPI was 0.4% which increased from 0% and beat estimates for 0.3%. 

Yearly CPI was 1.8% which beat estimates and September’s reading which were both 1.7%. Monthly core CPI was 0.2% which met estimates and rose from 0.1%. Yearly core CPI was 2.3% which fell from 2.4% which was also the consensus.

Rounding to the hundredths place, core CPI fell from 2.36% to 2.32%. That means the rate rounded to the nearest tenth looks a bit worse than the underlying change. That’s the 2nd straight decline as it peaked at 2.39% in August. A decline in core CPI is significant because the comp fell from 2.18% to 2.16%. That’s a 6 basis point decline in the 2 year stack. 

November comp is much tougher as core CPI was 2.25% in November 2018. From there the comp gets easier in the following 4 months. Easier inflation comps in the beginning of 2020 will cause inflation to increase all else being equal. However, many investors don’t expect the Fed to raise rates. 

Powell stated, the Fed won’t hike rates until there is "a really significant move up in inflation that's persistent." That’s keeping short term rates low and steepening the curve.

Shelter Inflation Falls & Medical Care Inflation Spikes

Let’s look at the breakdown of inflation besides just energy. Food inflation was 2.1% which means it had a slightly positive impact on headline inflation. And food at home inflation was 1% which is low because of weak commodities inflation. 

However, food away from home inflation was 3.3% because wage growth is high. Same is true when you drilldown into core CPI. Core commodities inflation was 0.3% and core services inflation was 3%. If commodities prices increase a bit because global demand strengthens, we could have an inflation problem. 

Commodities inflation was dragged down by apparel and new vehicles inflation which were -2.3% and 0.1%. Auto dealers need to give out discounts to sell cars as demand has been weak recently. Even used cars and trucks inflation was only 1.4%. And, even though medical care inflation ran hot, medical care commodities inflation was only 1%.

Overall core inflation didn’t change much, but there was a lot of change under the surface. Shelter inflation was less of a driving force of core inflation as it fell from 3.5% to 3.3%. That change had a big impact on core inflation because it has the biggest weighting. This impact was mitigated by healthcare inflation spiking. 

As you can see from the chart above, medical care services inflation increased from 4.4% to 5.1% which matched the cycle high made in August 2016. Outside of that, this was the highest reading since January 2008. Hospital services inflation spiked to 3.5%. Health insurance inflation was 20.1% which is the highest reading since at least 2008. Transportation services inflation also prevented healthcare services inflation from pushing up core CPI. It was only 0.8%.

Inflation May Have Peaked

Inflation comps should get easier in 2020. All else being equal, inflation will increase. However, all else isn’t equal. The charts below suggest inflation has peaked. Top chart shows the NY Fed underlying inflation gauge predicts the median CPI to fall in the next 6 months. 

R squared is 65.3%. Bottom chart shows real yearly GDP growth predicts the quarterly average core CPI to decrease in the next 6 quarters. R squared here is 67.1%. It would be great for workers if the economy recovers and inflation falls.


MBA applications report showed the purchase index improved decently. This is encouraging even though yearly comps are easy. CPI report didn’t show much of a change in the headline and core readings. But under the surface there was a big increase in medical care services inflation. 

And there was a decline in shelter inflation. It shows how large shelter inflation is that core inflation actually fell. Even though healthcare services inflation was the highest since August 2016. 

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