China and the March CPI

There are two important events this week -- a speech by Chinese President Xi Jinpin (Tuesday) and release of the March CPI (Wednesday).  Friday's stock market sell-off may have been partly in anticipation of these events, and the markets could trade cautiously ahead of them.   But, both events could turn out better than feared. 

The fear is that the speech could dial up the tariff threats between the US and China, or at least not back off from them.  However, it could leave open the door for talks, as well -- if Xi wants to "take the high road" in the dispute with Trump.  The March Core CPI is likely to show a "2" handle on the y/y (1st time in the past few years) from 1.8% in February, as last year's telephone price war drops out of the calculations (well advertised by Fed officials).   But, it risks coming in below consensus.

While a "2" handle on the Core CPI's y/y is an almost certainty, the consensus estimate of +0.2% m/m and 2.1% y/y may be too high.   This is because the underlying pace may have slowed.  Excluding the 1.5% m/m jump in apparel prices, the Core CPI rose only 0.12% in February.   A slowdown in Owners' Equivalent Rent to 0.2% m/m and declines in some other components were responsible.  And, they may hold down the Core CPI again in March.   As for Apparel Prices, their large increases in January and February (1.7% m/m and 1.5%, respectively) were unusual.   Since 1982, there were only two other times when they rose 1+%  m/m in two consecutive months.  In both cases, Apparel Prices were flat the following month.

Although the Treasury market has been wary of the putative inflationary effects of tariffs, it is not exactly correct that tariffs are inflationary.   To be sure, domestic prices will rise when tariffs are imposed.  But, these price increases are temporary, as they should end once the tariffs are fully passed through -- assuming that the entire tariff is passed through.  The latter is not necessary.   Not only could the world market price of the good decline, but importers' profit margins could absorb some of the tariff.  Any resulting price increase would be a relative price change.  It would transform into higher general inflation only if wages move up to offset the lost spending power -- thereby starting a wage/price spiral.