WWRR Vol.2.015

2019 Global Economic and Market Outlook
Goods pricing has been a drag on underlying inflation
Core goods price inflation has underpinned the deceleration in annualized core PCE price inflation
in recent months. The 3 month annualized rate of change in core goods inflation has moved from
a peak of +0.9% in March to -2.1% in October. Detailed subcomponent analysis, suggests that
~50% of the deceleration in core PCE price inflation (3m/3m annualized basis) since April is due to
the clothing and footwear category.
Fig 23 Goods pricing volatility has underpinned the recent
deceleration in inflation momentum…
Fig 24 …with much of this driven by the clothing and
footwear component
5.0% Core goods PCE price index
4.0%
3.0%
2.0%
1.0%
0.0%
-1.0%
-2.0%
-3.0%
2005 2007 2009 2011 2013 2015 2017
Source: BEA, Macquarie Macro Strategy
YoY
3m/3m
annualized
12% Clothing and footwear PCE price index
10%
8%
6%
4%
2%
0%
-2%
-4%
-6%
-8%
2005 2007 2009 2011 2013 2015 2017
Source: BEA, Macquarie Macro Strategy
3m/3m
annualized
YoY
There are several upside risks to the inflation outlook
1) Tariffs lead to greater than expected price pass through. Should trade war activity ratchet up
further there is a risk that pass through impacts create a stronger than expected inflationary
impulse. By our calculations the maximum tariff revenue of tariff’s implemented so far is just
0.34% of core PCE, whereas those threatened equate to an additional 1.13% of PCE.
Tariffs will be absorbed through multiple channels: i) exporters to the US may reduce their
prices somewhat to compensate for the increase, ii) US companies importing goods may
choose to absorb part of the tariff impact by lowering the prices charged, iii) US companies
may pass through the added cost of tariffs to consumers, and iv) trade diversion could occur.
2) Tight labor market reaches a “pinch point”. To date, improvements in inflation have occurred
gradually as slack has diminished. There is a possibility that the labor market reaches a “pinch
point” that results in a more aggressive move higher in wage growth rather than the smooth
gradual increases that have occurred so far during this expansion.
For more on our outlook on the labor market, please see recent notes i) US wage growth and
interest rates, and ii) US Wage Growth and Employment – Full steam ahead.
3) Fiscal policy. The CBO projects a deteriorating federal deficit to GDP ratio from 4.0% to 5.5%
in coming years. An elevated and worsening deficit is unprecedented when unemployment is
below 4%. The most similar comparable period is 1966 to 1968, when budget deficits widened
despite low and falling unemployment. This period saw core PCE price inflation accelerate to
~5% after having averaged just 1.3% from 1961 to 1965.
Nonetheless, we are doubtful that inflation would move to this level. FOMC policy is likely to
be more proactive in curbing inflationary pressures, in contrast to the 1960s experience
4) Natural gas prices. Price gains in the US natural gas market could feed through and impact
core inflation. The risks are more prominent than in past cycles as the US economy now has
positive leverage to higher energy prices through investment and associated impacts on labor
market tightness and wage growth.
5) USD weakness. A strong dollar in recent years has helped keep core inflation contained. This
has likely contributed to falling goods prices, which have been a drag on core PCE inflation.
Should the USD turndown as we expect in H2, it would likely mean goods prices contribute
positively to inflation.
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