Consumer prices rose 0.6% in September and 3.7% against a year earlier, up from 3.4% in each of the two preceding months and above the 3.6% the forecasters expected. The core measure, which strips out food and energy, rose 0.3% on the month and 2.6% on the year.

The gap between those two numbers is the story. Gasoline rose 9.1% in a single month and accounted for more than half of the entire increase in the index. Over twelve months gasoline is up 34.2%, energy as a whole is up 20.4%, and fuel oil is up 74.2%.

One price is doing the work

The national average at the pump is around $4.33 a gallon against $2.98 before the conflict that has been disrupting Gulf shipping. Diesel averaged $6.29 in late September, a record.

Energy carries a weight of roughly 6% to 7% in the consumer price index, so a 20% annual rise in that category contributes somewhere near 1.3 percentage points to a 3.7% headline. Take energy out and you are left with an economy running close to the core reading of 2.6%, which is not far from where a central bank would want it.

That is precisely why the Federal Reserve looks at the core measure. Energy prices are volatile, they are set in global markets, and a central bank in Washington has no instrument that changes the price of crude. Raising the policy rate to deal with a supply driven fuel shock cools everything except the thing causing the problem.

The pass-through is the part that does worry a central bank

Whitmore's Watchlist:
> UGA (United States Gasoline Fund): Direct exposure to wholesale gasoline, the price underneath the pump.
> MPC (Marathon Petroleum Corporation): The largest American refiner, where the crack spread between crude and product lands.
> PBF (PBF Energy Inc.): A smaller refiner, geared more sharply to the same margin.

Diesel is the number to watch rather than gasoline, because almost nothing in the economy moves without it. A record diesel price raises the delivered cost of groceries, building materials and parcels, and those increases arrive in the core index a few months later wearing a different label.

This is how an energy shock becomes an inflation problem rather than an inflation headline. The first round is mechanical and reverses when the barrel reverses. The second round is embedded in the price of everything that was trucked, and it does not reverse on its own.

Core at 2.6% is still low, and it is the strongest argument that the second round has not happened yet. But core rose from 2.4% in August, which is the first move in the wrong direction in several months, and it beat expectations rather than missing them.

What it does to the household and the meeting

Average hourly earnings are rising 3.0% over twelve months against a headline rate of 3.7%. Real wages are going backwards, and they are going backwards through the line in the budget with the least discretion in it. A household can delay a purchase; it cannot easily delay the commute.

For the Federal Reserve, which meets on October 28, this report lands on the opposite side of the argument from the September employment report, which showed 29,000 jobs added and unemployment up to 4.2%. One says inflation is accelerating, the other says the labour market is cooling, and both are true.

The resolution a central bank usually reaches in that position is to lean on the core number and wait, which is roughly what the New York Fed president signalled before either release. That makes the October meeting less of a cliff edge than the headline inflation rate suggests, and it makes the energy complex the variable that decides the December one.

For positioning, the distinction worth holding is that this is an energy event appearing in an inflation statistic rather than a broad inflation event. They call for different responses. A broad inflation problem argues for shortening duration and holding real assets. A fuel shock argues for owning the part of the energy chain that is capturing the margin, and for recognising that it ends when the supply disruption does.

Whitmore's Take: A headline of 3.7% with core at 2.6% is a fuel price wearing an inflation label, and the pass-through into core is what would change that. Worth watching diesel rather than the pump, because that is the price that reaches everything else.

Written by Daniel Whitmore
Millionaire Insiders