Housing Costs Persist in Driving Inflation Higher

Consumer prices rose again in December, driven by higher energy prices and sticky housing costs. Despite the increase, overall inflation has moderated by nearly half, declining from 6.5% in 2022 to 3.4% by the end of 2023. However, even after peaking in March 2023, shelter costs continue to put upward pressure on inflation, accounting for over two-thirds of the total increase in all items excluding food and energy.

The Fed’s ability to address rising housing costs is limited because 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 constrained. In fact, further tightening of monetary policy would hurt housing supply because it would increase 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 in the coming months.  This is 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 0.3% in December on a seasonally adjusted basis, after rising 0.1% in November. The price index for a broad set of energy sources rose by 0.4% in December as the increase in gasoline index (+0.2%) and electricity index (+1.3%) more than offset the decline in the natural gas index (-0.4%). Meanwhile, the food index increased by 0.2% in December with the food at home index rising 0.1%. Excluding the volatile food and energy components, the “core” CPI rose by 0.3% in December, as it did in November.

In December, the index for shelter (+0.5%) was the largest contributor to the monthly increase in the core CPI. Among other top contributors that rose in December include indexes for medical care (+0.6%) and motor vehicle insurance (+1.5%). Meanwhile, the top contributors  that experienced a decline in December include indexes for  household furnishings and operations (-0.4%), and personal care (-0.3%).

The index for shelter makes up more than 40% of the “core” CPI. The index saw a 0.5% rise in December, following an increase of 0.4% in November. 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 0.5% over the past year. 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 3.4% in December, following a 3.1% increase in November. The “core” CPI increased by 3.9% over the past twelve months, after rising 4.0% in November. This was the slowest annual gain since May 2021. Over the past twelve months, the food index rose by 2.7% while the energy index fell by 2.0%.

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 than overall inflation, the real rent index rises and vice versa. 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 0.1% in December.