October has become a month of intrigue for economists and investors alike, marked by unpredictable surprises in the Consumer Price IndexThe Consumer Price Index is a measure of the average price level of a basket of goods and services that are commonly consumed by households. More (CPI) reports. Recent years have seen October CPI reports that defied expectations, sending shockwaves through financial markets. As we eagerly await the release of the October 2023 CPI report on November 14, it’s worth reflecting on the unexpected twists of the past two years.
The October 2022 Shock
In 2022, the October CPI report delivered a significant jolt to Wall Street. Inflation missed consensus estimates by 0.2% month-over-month (m/m) for both headline and core CPI, while year-over-year (y/y) estimates were also off by 0.2% for both categories. This unexpected miss caused the S&P 500 to surge by 5.5%, catching investors off guard.
The October 2021 Surprise
The preceding year, 2021, saw another October surprise in the CPI report. This time, headline CPI exceeded estimates by 0.3% m/m, and core CPI by 0.2% m/m. On a y/y basis, both headline and core CPI outperformed expectations by 0.3%. October had become synonymous with inflation surprises.
Unraveling the Mystery: Health Insurance Index
The root of these October surprises lay in the peculiar methodology used by the Bureau of Labor Statistics (BLS) to calculate the health insurance index within the CPI. This component exhibited wild fluctuations, swinging dramatically between October 2021 and October 2022, rising by 29% and subsequently plummeting by 37% from October 2022 to September 2023.
Impact on Inflation Trends
The gyrations in the health insurance index appear to correlate with changes in y/y inflation rates for both headline and core CPI. Inflation rates accelerated after the October 2021 CPI report and peaked in 2022 as health insurance costs declined. This suggests that the significance of health insurance within the CPI index fluctuates with the index’s value.
In the intricate landscape of inflation economics, health insurance is poised to take on a new role as a counterbalancing factor starting this October, according to economists.
The Bureau of Labor Statistics (BLS) has long grappled with the challenge of quantifying health insurance costs within the Consumer Price Index (CPI). Unlike other consumer expenses with straightforward price tags, health insurance involves a complex interplay of factors, making direct measurement a formidable task. Monthly premiums, for instance, don’t equate to uniform quality of coverage. The benefits and risks embedded in each policy vary considerably.
The BLS, in recognition of these complexities, refrains from gauging direct consumer costs like monthly premiums. The reason behind this lies in the difficulty of comparing price changes among health plans of differing quality. Moreover, attempting to devise quality-adjustment methods for such comparisons would prove an arduous and inherently subjective task, as per a BLS fact sheet.
Instead of directly measuring health insurance costs, the BLS opts for an indirect approach, partially relying on health insurers’ profits as a proxy for consumer prices. This indirect methodology aims to capture fluctuations in the health insurance sector, offering insights into its influence on inflation dynamics.
A Deflationary Influence No More
For some time, health insurance has been exerting a deflationary effect on the CPI. Since October 2022, health insurance prices have been on a steady decline, diminishing by approximately 3% to 4% each month. This downward trend provided a welcome counterbalance to persistently high inflationary pressures in other sectors.
A Year of Transition: Inflation on the Horizon
However, a notable shift is on the horizon. Economists predict that, starting in October, the CPI for health insurance will begin an ascent, rising by just over 1% on a month-over-month basis. This anticipated reversal in the trajectory of health insurance costs is expected to influence the overall inflation landscape for approximately one year.
Mark Zandi, Chief Economist at Moody’s Analytics, highlights this change as a pivotal moment in the ongoing battle to comprehend and manage inflationary forces.
Future Outlook: Health Insurance’s Role in Inflation
Analysts anticipate further shifts in health insurance costs, with estimates suggesting a monthly rise of approximately 1%. This shift could transition health insurance from a deflationary force to an inflationary one, impacting overall inflation trends in the coming year.
A Broader Impact on Medical Care Services
The changes in health insurance are poised to affect medical care services’ inflation, which Bloomberg Economics projects to increase from 0.3% in September to 0.5% in October. Notably, Goldman Sachs predicts that core services, excluding housing, could see a 0.46% increase over the next six months—almost double the average of the previous six months.
Uncertainty Looms Ahead
As we anticipate the October CPI report, uncertainty lingers about whether the market and analysts have accurately adjusted for these dynamic changes. Industry reports indicate rising profits for health insurance companies in 2022 and the first half of 2023, further complicating the inflation picture.
Current Estimates and Consensus
Based on current estimates, headline CPI is expected to rise by 0.1% m/m, down from 0.4% in September, with a year-over-year increase of 3.3%, down from 3.7% the previous month. Core CPI is projected to increase by 0.3% m/m and 4.1% y/y, remaining unchanged from the previous month.
Expert Projections and Market Consensus
Economic models broadly align with these expectations, with projections from the Cleveland Fed, Kalshi, and Bloomberg Economics ranging from 3.28% to 3.47% for y/y CPI growth. CPI swaps also converge around 3.27%. It seems consensus points toward a y/y CPI of around 3.3%, at least for the headline CPI, which has been in line with expectations in recent months.
The Energy Factor and the Unknowns
While CPI estimates have dipped in recent weeks due to falling oil and gasoline prices, much of the energy effects appear to be already factored into recent estimates. Thus, the decrease in energy prices this month should not come as a surprise.
As we eagerly await the release of the October CPI data, the major question mark remains the trajectory of medical costs in 2023, heavily influenced by the health insurance component. Forecasts indicate that healthcare costs may start rising with this October report, potentially prolonging the persistence of inflation. If there ever was a month where inflation data could spring a surprise, October 2023 certainly seems to be a prime contender.
Bottom-line: October has become synonymous with surprises in the world of inflation, with the past two years delivering unexpected twists in the CPI reports. The volatile nature of the health insurance index, along with its shifting importance within the CPI, has played a pivotal role in these October surprises. As we approach the release of the October 2023 CPI report, the trajectory of health insurance costs and their impact on overall inflation trends remains uncertain. Despite recent dips in CPI estimates driven by falling energy prices, the stage is set for another month of intrigue, with health insurance potentially reshaping the inflation landscape in the months to come.
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