Inflation rise limits Fed’s options on rates

US inflation jumped to an annual rate of 4.3 per cent in November, explaining why the Federal Reserve remains reluctant to cut interest rates too aggressively in spite of the risks to growth.

The data showed the continued pressure on prices from high food and energy costs and highlighted the risk the economy will face at least a brief period of “stagflation” as growth slows and inflation rises.

Policymakers worry that persistently high prices could unsettle inflation expectations, leading workers and businesses to factor higher inflation into their wage and price-setting decisions.

“The pick-up in prices may not only be sustained next year, but we could see even higher rates of inflation,” said Conrad DeQuadros, economist at Bear Stearns. “In an environment where monetary policy is going to become easier, it’s going to give businesses the chance to pass on higher prices to consumers.”

Fed funds futures priced in an 84 per cent chance of a rate cut to 4 per cent in February, down from a 100 per cent expectation of a cut on Thursday.

“There is a real concern about inflation,” said Jeoff Hall, economist at Thomson Financial. “This limits the Fed’s policy options and robs them of autonomy. It explains why the Fed did not cut further and more aggressively.”

Treasury bond yields rose and stocks fell on the data. In New York trading, the S&P 500 index was off 1.4 per cent. The yield on the two-year Treasury rose 11 basis points to 3.31 per cent.

The consumer price index for November climbed 0.8 per cent, higher than an economists’ forecasts of 0.6 per cent. The index went up 0.3 per cent in October. Much of the increase was driven by energy prices, which were up 5.7 per cent from October. Apparel, housing and medical care prices also rose strongly.

Core inflation, which excludes energy and food, climbed 0.3 per cent over the month, the fastest rise in more than a year.

Core inflation is at 2.3 per cent year on year, higher than the Fed’s preferred upper limit of 2 per cent. The jump in prices came after the Fed’s decision on Tuesday to cut interest rates by 0.25 percentage points to 4.25 per cent.

Figures this week pointed to the biggest jumps in wholesale and import prices in decades, driven by soaring energy costs. The Michigan report on consumer sentiment showed sharply higher expectations of inflation.

Oil prices have been drifting lower in recent weeks, pointing to a lower level of inflation in December, but were still 21.4 per cent higher in the year to November than the previous year.