Housing Costs Persist as Key Driver of Inflation

Consumer prices showed a slight uptick in July, with core inflation remained sticky, ending a streak of 12 consecutive months of steady declines. Despite a slowdown compared to the previous month, the shelter index (housing inflation) continued to be the largest contributor to both headline and core inflation, accounting for over 90% of the increase in headline inflation.

The Fed’s ability to address rising housing costs is limited as shelter cost increases are driven by a lack of affordable supply and increasing development costs. Additional housing supply is the primary solution to tame housing inflation. The Fed’s tools for promoting housing supply are at best limited. In fact, further tightening of monetary policy will hurt housing supply by increasing the cost of AD&C financing. This can be seen on the graph below, as shelter costs continue to rise despite Fed policy tightening. Nonetheless, the NAHB forecast expects to see shelter costs decline further later in 2023, supported by real-time data from private data providers that indicate a cooling in rent growth.

The Bureau of Labor Statistics (BLS) reported that the Consumer Price Index (CPI) rose by 0.2% in July on a seasonally adjusted basis, the same increase as in June. The price index for a broad set of energy sources rose by 0.1% in July as the increase in gasoline index (+0.2%), natural gas index (+2.0%) and fuel oil index (+3.0%) more than offset the declines in electricity index (-0.7%).  Excluding the volatile food and energy components, the “core” CPI rose by 0.2% in July, the same increase as in June. Meanwhile, the food index increased by 0.2% in July with the food at home index rising 0.3%.

In July, the indexes for shelter (+0.4%) and motor vehicle insurance (2.0%) were the largest contributors to the increase in the headline CPI. Meanwhile, the indexes for airline fares (-8.1%), used car and trucks (-1.3%) as well as communication (-0.1%) declined in July.

The index for shelter, which makes up more than 40% of the “core” CPI, rose by 0.4% in July, same increase in June. The indexes for owners’ equivalent rent (OER) increased by 0.5% and rent of primary residence (RPR) increased by 0.4% over the month. Monthly increases in OER have averaged 0.6% over the last seven months. These gains have been the largest contributors to headline inflation in recent months.

During the past twelve months, on a not seasonally adjusted basis, the CPI rose by 3.2% in July, following a 3.0% increase in June. The “core” CPI increased by 4.7% over the past twelve months, following a 4.8% increase in June. This was the slowest annual gain since October 2021. The food index rose by 4.9% while the energy index fell by 12.5% over the past twelve months.

NAHB constructs a “real” rent index to indicate whether inflation in rents is faster or slower than overall inflation. It provides insight into the supply and demand conditions for rental housing. When inflation in rents is rising faster (slower) than overall inflation, the real rent index rises (declines). The real rent index is calculated by dividing the price index for rent by the core CPI (to exclude the volatile food and energy components). The Real Rent Index rose by 0.3% in July.