Is an inflation shock coming? Wall Street is on guard.

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Just a year ago, inflation seemed to be slowing quickly and hopes grew that the Federal Reserve could soon throttle back its interest-rate hikes. Then the Fed — and Wall Street — got punched in the face.

The punch came from an unlikely source: the annual update by government bean counters to the main inflation tracker known as the consumer-price index.

These updates rarely make waves. This time, they did.

The new information in February 2023 showed that inflation hadn’t slowed nearly as much as previously believed. To make matters worse, the next two monthly inflation readings were bigger than expected.

“That was a complete game changer,” Ellen Zentner, the chief economist at Morgan Stanley, told MarketWatch. “It changed the landscape for inflation as we thought and as the Fed thought.”

As a result, the Fed kept raising a key short-term U.S. interest rate to try to slow the economy and tame inflation. The Fed’s moves pushed up other interest rates, including for mortgages, and crushed would-be home buyers.

Read more: Mortgage rates inch up to highest level in six weeks

Could it happen again? Wall Street will find out on Friday. The next annual update to the CPI is set to be issued tomorrow morning — and economists and Fed officials are on guard.

“Having got burned on that, I want to see those revisions,” Zentner said. “Maybe it’s a nothing burger.”

Fed governor Chris Waller is another official who is keen to see the CPI update.

“Recall that a year ago, when it looked like inflation was coming down quickly, the annual update to the seasonal factors erased those gains,” he said two weeks ago. “My hope is that the revisions confirm the progress we have seen, but good policy is based on data and not hope.”

Every year, the Bureau of Labor Statistics updates the previous five years of inflation data based on new and improved information. The changes most years are so minute, they escape public notice.

Not last year.

The three-month annualized rate of inflation, for instance, was raised to 4.3% in December 2022, from a previous 3.1%. That was a big deal at the time.

Why such a drastic change?

Mainly, the government underestimated the increase in prices of new and used cars. Automobile prices soared to record highs in 2022 and 2023, contributing heavily to the highest U.S. inflation in 40 years.

This time around, economists doubt there will be a repeat. It’s even possible the annual revisions could show inflation slowing slightly faster than previously reported.

“The upcoming annual revisions to the consumer-price index, covering data from 2019 through 2023, will likely be modest but should show that inflation was on a better trajectory heading into this year than thought,” said Ryan Sweet, the chief U.S. economist at Oxford Economics.

Barring a February surprise, then, the Fed is likely to stay on course to cut U.S. interest rates by the spring or early summer, giving relief to home buyers, car purchasers and other borrowers.

The latest CPI report, for December, showed a yearly inflation rate of 3.4%. The Fed is aiming to lower inflation to a 2% annual pace.

The January CPI report that comes out next week is also supposed to show a further deceleration in inflation, but it can be a tricky month.

Many companies raise prices at the start of the year, a move that occasionally results in an unexpectedly large increase in inflation in January.

Greg Robb contributed.

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