January 3, 2017 07:00 CST

Consensus Actual Previous
Month over Month 0.6% 0.7% 0.1%
Year over Year 1.5% 1.7% 0.8%

Consumer prices were surprisingly strong in December. With base effects mildly positive, a provisional 0.7 percent monthly rise in the CPI was large enough to add nearly a full percentage point to the yearly inflation rate which now stands at 1.7 percent, its highest level since July 2013.

The acceleration in the CPI was matched by the flash HICP which showed a 1.0 percent increase versus November for also a 1.7 percent yearly rate, up from 0.7 percent last time.

The monthly advance in prices was largely attributable to the more volatile categories. In particular, household energy costs climbed sharply as did food. There was also a hefty jump in package holiday charges (20.9 percent in North Rhine-Westphalia) which was well above the seasonal norm.

The spurt in annual inflation was similarly dominated by energy where the rate climbed from minus 2.7 percent to 2.5 percent. Food (2.5 percent after 1.2 percent) provided a sizeable lift too. More significantly, services climbed 0.4 percentage points to 1.5 percent while rent, ex-utilities edged a tick firmer to also 1.5 percent. Total goods inflation weighed in at 1.8 percent, a 1.3 percentage point jump from November.

The December inflation data are clearly a good deal stronger than anticipated. Food and energy might have done most of the work but part of the overshoot would seem to reflect surprising strength in underlying prices. The ECB will not be displeased and will obviously be hoping that the acceleration in Germany is mirrored elsewhere in the Eurozone.

The consumer price index (CPI) is a measure of the average price level of a fixed basket of goods and services purchased by consumers. Monthly and annual changes in the CPI provide widely used measures of inflation. A provisional estimate, with limited detail, is released about two weeks before the final data are reported.

The consumer price index is the most widely followed indicator of inflation. An investor who understands how inflation influences the markets will benefit over those investors that do not understand the impact. In countries such as Germany where monetary policy decisions rest on the central bank's inflation target, the rate of inflation directly affects all interest rates charged to business and the consumer. As a member of the European Monetary Union, Germany's interest rates are set by the European Central Bank.

Germany like other EMU countries has both a national CPI and a harmonized index of consumer prices (HICP). The HICP is calculated to give a comparable inflation measure for the EMU. Components and weights within the national CPI vary from other countries, reflecting national idiosyncrasies. The preliminary release is based on key state numbers which are released prior to the national estimate. The states include North Rhine-Westphalia, Baden-Württemberg, Saxony, Hesse, Bavaria and Brandenburg. The release date is not announced in advance but the preliminary estimate of the CPI follows in the same day after the last of state releases. The data are revised about two weeks after preliminary release.

Inflation is an increase in the overall prices of goods and services. The relationship between inflation and interest rates is the key to understanding how indicators such as the CPI influence the markets - and your investments. As the rate of inflation changes and as expectations on inflation change, the markets adjust interest rates. The effect ripples across stocks, bonds, commodities, and your portfolio, often in a dramatic fashion.

By tracking inflation, whether high or low, rising or falling, investors can anticipate how different types of investments will perform. Over the long run, the bond market will rally (fall) when increases in the CPI are small (large). The equity market rallies with the bond market because low inflation promises low interest rates and is good for profits.