The U.S. Consumer Price Index came in a little better than expected Wednesday. The CPI for March was up 0.3%, and the core CPI, ex-food and energy, was unchanged.

The lower than expected rise has economists talking up further cuts to U.S. interest rates, rather than hikes. Consensus expectations were for a 0.4% gain in March.

A 4.6% rise in energy prices was the biggest driver of price trends in March, says RBC Financial.

Excluding the volatile food and energy components, the core CPI was flat. The consensus expectation was for a 0.2% gain. On a year-over-year basis, core CPI is up only 1.7%. “The absence of core inflationary pressures indicates ongoing excess supply conditions in the U.S. economy with sizeable amounts of unused production capacity that makes it nearly impossible for businesses to exercise any pricing power,” says RBC. “This is what will continue to keep talk of Fed rate hikes on the backburner for the rest of this year with our view calling for a round of rate hikes starting off in early 2004.”

BMO Nesbitt Burns agrees that the softer report gives the Fed plenty of room to hold rates steady, “or respond with easing to any further economic weakness, which we don’t expect”.

“With energy prices falling as the campaign in Iraq progresses swiftly toward a conclusion, the upward pressure on the headline CPI from oil and gas prices will continue to abate. Add in yesterday’s news that capacity utilization declined to a fifteen-month low in the U.S., and you have a recipe for tame prices in the months to come — and, hence, steady short-term interest rates from the Fed throughout the spring and summer,” says TD Bank.

“With energy prices already retreating, the worst of the energy-driven headline inflation bulge should be over. Once it is, the fact that a slack US economy and ample excess capacity around the world has left little inflation in the US economy will be front and center. That leaves the door wide open for further fed rate cuts this spring,” confirms CIBC World Markets.

“The CPI is coming in far below anyone’s forecast and this has broad market and policy implications. Although we believe investors are likely to move from safe Treasury securities to equities and corporate bonds in the period ahead, the upside for Treasury yields will be capped by these very low inflation results,” concludes Nesbitt. “So, there is a good chance that equity markets will not be faced by large yield increases, which is good news for a potential rally. All things considered, low inflation is very supportive for the markets generally.”