NEW YORK (CNN/Money) -
A surprise jump in prices paid by consumers March is increasing speculation that the Federal Reserve may have to hike interest rates in the near future.
"It looks as though core inflation is back," John Lonski, chief economist at Moody's Investors Service, told Reuters. "We have the core CPI now growing at an average monthly rate of roughly 0.3 percent thus far in 2004. That adds up to a rate hike happening sooner rather than later."
The consumer price index, a broad measure of prices, rose 0.5 percent in March compared with February prices. Analysts surveyed by Briefing.com forecast a 0.3 percent rise, the same rise posted in February.
The so-called "core CPI," which excludes often volatile food and energy prices, rose 0.4 percent in the month, the largest increase in that closely-watched inflation measure since November 2001. Briefing's forecast was for a 0.2 percent gain, which would have matched the rise in the previous month.
Energy, led by gas prices, rose 1.9 percent in March, the sharpest increase of any sector measured by the Bureau of Labor Statistics. But the overall increase was broad based, with no sector showing a decline. Other leaders included transportation prices, up 1.1 percent, and apparel prices, up 0.9 percent.
The report raised concerns on Wall Street Wednesday about a possible rise in interest rates. The Federal Reserve has kept interest rates low for the last year, even amid signs of strong growth in the U.S. economy, due to a combination of a weak employment outlook and no signs of inflation.
But the much stronger-than-expected employment data for March reported earlier this month, coupled with the latest inflation report, will increase pressure and expectations of an interest rate hike.
Gina Martin, economist with Wachovia Securities, said her firm is now projecting a quarter-point increase by the Federal Reserve in August, but she said after the latest numbers it could come even sooner than that.
Still, some economists, such as Lehman Bros.' Ethan Harris, believe the Fed will wait until September rather than starting to tighten rates as soon as June or August.
"The Fed is going to take a cautious approach (because) they're worried about how the consumer will handle higher interest rates," said Harris. "We've had recovery nurtured on super-low interest rates. They don't want to shock the patient by withdrawing the medicine too quickly."
But Harris said recent data, such as a strong retail sales report for March released Tuesday, suggest that both consumers and businesses are prepared to keep spending throughout the next six months even in the face of both higher prices and higher interest rates.
"I think things are just too strong to have them derailed now," she said.
Another BLS report Wednesday suggested that consumers' paychecks are not keeping up with the latest price increases. The government report on real average weekly earnings showed a 0.7 percent decline in March after seasonal adjustment, according to preliminary data. The report said a 0.1 percent increase in average hourly earnings was wiped out by the combination of a 0.3 percent decline in average weekly hours and the 0.5 percent increase in the CPI.
Harris said businesses raising prices faster than consumer income growth is in itself a troubling sign about the state of the economy.
"Cost pressure is generating inflation rather than a strong labor market," he said. "Medical costs are rising. Some import price pressure is being felt and commodity prices are rising rapidly. These things are starting to trickle into the prices. It's a concern when cost pressure rather than strong growth is contributing to inflation. It raises the risk of the dreaded stagflation."
The price of the 10-year bond was down to its low for the year following the report, indicating expectations of higher rates. Bond yields and prices move in opposite directions. U.S. stocks fell sharply at the open, but recovered ground by mid-morning trading in New York.
The CPI increase, coupled with a 0.5 percent increase in January and the 0.3 percent February rise, gave the first quarter a compounded annual rate of inflation of 5.1 percent, with the core CPI coming in with an compounded annual rate of 2.9 percent. That's the highest annual rate for core CPI during a three-month period since just before the Sept. 11 terrorist attack.
Harris said he still expects the core rate to come in at about a 2 percent gain for the year, although that's up from his previous estimate of 1.6 percent. Core-CPI rose only 1.1 percent in 2003.
Reuters contributed to this report
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