Deutsche Bank Chief US Economist Matthew Luzzetti joins Yahoo Finance Live to discuss the latest inflation data and what it means for Fed policy.

Video Transcript

BRIAN SOZZI: There was another hot read on consumer prices this morning, which follows a hearty reading on producer prices earlier in the week. Today's CPI report showed sharp increases in prices for meat, fish, poultry, and fuel. Will this sticky inflation spur the Fed to act soon on rate hikes?

Deutsche Bank Chief US Economist Matthew Luzzetti joins us now. Matt, good to see you here. Has the Fed lost control of inflation?

MATTHEW LUZZETTI: Thanks so much for having me. I think the key message on the inflation front from today was a real broadening of price pressures. You mentioned food and energy, and we've all been focused on the supply constraints-- you know, the auto sector, and we did see large prints both in new vehicles and used cars. But I think more importantly, we're starting to see it in the more persistent items. So rent and owner's equivalent rent, the shelter items were strong again this month. Health-care inflation was actually quite strong. Health-insurance inflation was up 2% month on month.

And so from the Fed's perspective, this is certainly telling us, I think, that price pressures are more persistent. They are broader. They are not just narrowly focused on those categories, whether it's autos and the supply-constrained items. And it's going to last longer than expected.

And so we do think that the Fed is going to have to raise rates next year. They've signaled that they're going to taper through the middle of the year, and that's our baseline at this point. But if you continue to see price pressures like this over the coming months and more persistent, it may cause them to have to act earlier than expected.

JULIE HYMAN: OK, so Matt, it's Julie here. So say they act earlier than expected. What happens if there are still ships off the Port of Los Angeles? What is raising rates going to do?

MATTHEW LUZZETTI: No doubt I think that's the biggest pushback that you tend to hear. We've learned, you know, over time, the Fed and central banks should not be responding to supply-side constraints because they can't produce more chips. They certainly can't ease some of the constraints that we're seeing on the port side. So there are very real items here that they cannot impact.

They can impact the demand side, and we know that the demand side in the US has been very strong. Good spending. Retail sales are well above pre-COVID trends. Durable-goods spending is well above pre-COVID trends.

And so what the Fed can do is impact demand. It can help to bring supply and demand into better balance that way and also impact inflation expectations. If they show businesses and consumers and markets that they are responding to higher inflation data, that should help to moderate inflation expectations and therefore keep things in check and well anchored. So those are the two things that I think the Fed can do even though, as you note, they can't ease any of these real supply-side constraints.

JULIE HYMAN: So, Matt here's a question for you as an economist as you try to parse this data. When you're looking at a given year-over-year change in a particular item, is there any way of knowing how much of that price increase is because of demand and how much is because of supply constraints? Is there any formula that is even possible to figure that out?

MATTHEW LUZZETTI: It's really hard. We've actually done some research on this and published on it, and essentially we like to break goods into two different-- goods and services into two different categories. One, if you've seen price pressures rising as consumption of those items is declining, that tends to be a supply-side constraint. We've seen that particularly in autos and some of the household durables.

On the other hand, if you're seeing price pressures rising as consumption of those items is rising, that tends to be driven by demand, and that has been hotel, airfares. A lot of those items have been very clearly demand driven. So that's been the way that we like to decompose the basket into demand versus supply driven.

I think when you do that, there's been some interesting takeaways. First, a lot of the surge in inflation that we saw earlier this year was supply driven, and then a lot of those factors did begin to dissipate as used-car prices came off and autos softened a little bit. But we're seeing a reacceleration, I think, both on the supply-driven side and on the demand-driven side. And so from the Fed's perspective, I think that is something that is a bit more concerning because it points to more persistent price pressures.

EMILY MCCORMICK: Matthew, this is Emily. In addition to some of the elevated actual inflation data that we've been getting, consumers' expectations for short-term inflation have also reached a record high. How do you expect consumers to really be responding to some of these expectations and this data? And can you tell based on what we've been seeing whether some of the pullback in consumption has actually been driven by these rising prices and whether that's impacted consumers' propensity to spend at this point?

MATTHEW LUZZETTI: Sure. So as you note, you've seen short-term inflation expectations surging. We got a data point from the New York Fed earlier this week which pointed to a new record since 2013. From the University of Michigan survey, we see similar things. Long-term inflation expectations have remained more well anchored at lower levels, although even there the New York Fed survey is showing record highs back to 2013, even on the longer-term measures.

I think when you look at the surveys, there's pretty clear evidence that price pressures are denting expectations. They're denting sentiment. And, really, consumers are telling you it's a bad time to buy homes. It's a bad time to buy autos. It's a bad time to buy durables. And that is, you know, no doubt in part due to the price pressures.

I would say when we look at the actual consumption patterns, it's less clear. Consumer spending expectations actually look to be pretty strong. We saw that from the New York Fed survey this week. The actual consumption data has been coming in, in our view, pretty decent given the supply-side constraints.

And so at this point, I would say that there is a bit of a dichotomy between sentiment, which looks depressed and which is indicating, you know, a very low propensity to buy household durables, housing, and autos, but a household that looks to be pretty confident on spending into the future. And so we do think from a growth perspective as you get into 2022, you continue to see actually strong consumer spending growth even though sentiment has been dented.

BRIAN SOZZI: Matt, I have 30 seconds left. Is this report the signs that we are headed into a hyperinflationary environment?

MATTHEW LUZZETTI: No, I don't think it's hyperinflation, but I do think it is more persistently elevated inflation. And as I noted kind of early, I would focus on the persistent items-- rent, OER, and health-care inflation, and both of those were showing very strong prints. We should expect that that continues into next year.

BRIAN SOZZI: Well, good thing I've been saving my pennies for my Thanksgiving Day dinner. Deutsche Bank chief US economist Matthew Luzzetti, good to see you.