Cost-Push vs Demand-Pull (deeper)
The two inflation engines — and how CBs respond differently
- Use the data mix to diagnose inflation as cost-push or demand-pull
- Predict the CB's likely response from the diagnosis
- Trade FX based on the diagnosis, not just the CPI number
Two CBs face 6% CPI. One hikes aggressively and the currency rallies. The other holds and the currency collapses. Same number, opposite outcome — because the *type* of inflation determined the right response.
Diagnosing inflation from the data mix
Demand-pull signals: tight labour market, hot wages, strong retail sales, rising PMI, positive output gap. CB should hike. Cost-push signals: spiking commodity prices, supply-chain disruption, falling PMI, slowing growth alongside the inflation. CB has limited tools — hiking just adds pain.
Hot wages, low unemployment, strong PMI, accelerating retail sales. Hiking cools demand → inflation back to target → currency up.
Supply shock, falling PMI, rising unemployment. Hiking won't fix the supply problem; deepens the slowdown. CB often holds until inflation falls naturally → currency direction depends on growth fears.
The 2022 hybrid
Post-COVID inflation was hybrid: partly demand (stimulus + savings spent) + partly cost-push (energy shock + supply chains). That's why CBs were slow to act — diagnosis was genuinely hard. By late 2022 demand-pull was clearly winning, hikes accelerated, and currencies with hawkish CBs (USD, then GBP) rallied.
CPI 5.5%, PMI dropping for 3 months, wages flat, oil +30% YoY. CB likely action?
- Demand-pull = hot economy → CB hikes
- Cost-push = supply shock → CB often holds
- Hybrid is common and confuses everyone
- Diagnose before trading — don't react to headline CPI alone
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