Labor market remains stoic as U.S. inflation slows, dollar weakens

On Thursday, the U.S. Bureau of Labor Statistics released the consumer price index for December, bringing hope to markets. The report was in line with market expectations and indicates the Federal Reserve’s actions thus far have been successful in taming inflation with a 6.5% year-over-year increase in CPI, down from 7.1% in November and the smallest 12-month increase since October 2021. As pressure on the global supply chain lessens and global energy prices come down from August highs, the worst battle with inflation may be in the rear-view mirror for the U.S.

The labor market has proven surprisingly resilient while the Fed has raised rates. If the labor market remains buoyant, it could lead to a resurgence in inflation as disposable income rises, applying upward pressure on prices. As of the FOMC’s last meeting in December, their projections see unemployment rising to 4.6% by the end of 2023 versus current estimates of 3.5%. To bridge that gap and continue to slow inflation, the Fed is expected to continue with rate hikes but at a slower pace than in recent months. The market is currently pricing in a 25-basis-point hike in February, with an 8% chance of a 50-basis-point hike. This is consistent with remarks of Federal Reserve Bank of Philadelphia leader Patrick Harker who stated on Thursday, “In my view, hikes of 25 basis points will be appropriate going forward.”

Inflation’s impact on the dollar

Across the globe, inflation fears continue to linger with the European Central Bank slashing its GDP forecast for 2023 and Japan’s inflation coming in at a 40-year high. To fight inflation, the Bank of Japan surprised markets in December by increasing the target for their 10-year note to 0.50%, and last Friday markets saw the yield briefly reach 0.8%. News has also come out of China regarding their plan to reopen borders, driving oil prices higher as a reopening of China will likely result in increased economic activity. These headlines and the CPI report all contributed to the dollar weakening last week.

(Related insight: Read "2023 corporate treasury trends")

The week ahead

Expect to see headlines on Wednesday regarding December’s retail sales to cap off the holiday season and provide insight into the state of the consumer. Also, reports on the producer price index for December and the Philadelphia Fed Manufacturing Index for January will be released.

(Related insight: Register for the upcoming "Semiannual Market Update" webinar with Amol Dhargalkar and Kevin Jones)