Hot inflation, $100 oil: Why a Fed rate hike next week now looks almost certain

A US Federal Reserve rate hike next week now looks almost certain after August inflation data showed prices for a broad range of goods and services remained elevated, with higher tariffs and the ongoing conflict in the Middle East adding to price pressures.

The consumer price index (CPI), excluding food and energy, climbed 0.3% in August from a month earlier, compared with the 0.2% increase expected in a Bloomberg survey. On an annual basis, it advanced 2.4%.

The CPI data came after the US Producer Price Index (PPI) for August also came in hotter than expected, indicating that the prices businesses pay for goods and services before they reach consumers are continuing to rise.

Those concerns were further amplified by rising US crude oil prices, which crossed $100 a barrel, pushing the probability of a rate hike to 70% following the wholesale inflation data.

Fed rate hike nearly priced in

The latest consumer inflation readings and the surge in crude prices have since strengthened expectations of a rate increase. Traders were pricing in about a 90% chance of a quarter-percentage-point increase at the central bank's September 15-16 policy meeting, CNBC reported, citing CME Group's FedWatch tool.

That marks a sharp shift in expectations over the course of the week. Earlier, traders were pricing in a 60% chance of a quarter-percentage-point increase following a stronger-than-expected jobs report. Prior to the labour market report and following dovish remarks by Fed Governor Waller on September 3, the implied probability of a rate hike was roughly 50-50.

Even before the twin inflation reports, surging crude oil prices and higher bond yields this week had strengthened expectations of a Fed rate hike.

The rise in crude prices has been driven in part by Washington's war with Iran, which has disrupted the global flow of fuel and put further pressure on consumers and businesses. Diesel prices in the US hit yet another record on Friday, soaring past $6 a gallon.

The renewed pressure on fuel prices comes at a time when policymakers are already concerned about persistent inflation, which has remained above the Fed's 2% target for the past 5½ years.

However, US President Donald Trump earlier this week downplayed concerns about oil prices and the war, which he said would end after the midterm elections, though hostilities have shown little sign of easing.

In his maiden Jackson Hole address, Fed chair Kevin Warsh warned that inflation was not slowing meaningfully and reaffirmed that policymakers remained committed to returning inflation to their 2% target.

Trump versus the Fed

The growing expectations of a Fed rate hike also put Trump at odds with the central bank. Trump last week renewed his pressure on the Fed to cut interest rates, arguing that sharply lower borrowing costs could unleash an unprecedented economic boom.

However, his calls for rate cuts come as inflation remains elevated, with higher tariffs and the disruption to global oil supplies from the Middle East conflict adding to price pressures.

The stronger-than-expected jobs data has further complicated the outlook, with some economists arguing that the Fed may need to hold rates higher for longer—or even raise them—to contain inflation.

Trump's stance has also drawn criticism as his economic agenda has contributed to some of the pressures facing the US economy. Persistently high inflation, rising oil prices, and higher borrowing costs have pushed Treasury yields to multi-decade highs.

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