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Tickers in this Article: C, JPM, WFC, GS
June's Consumer Price Index is through the roof. We learned Wednesday that the main problems are food and energy. June food and beverages showed a 5.2% surge, topping 18 year inflation numbers. Energy prices climbed 6.6% and gas prices ripped 10.1%.

Overall, the June CPI shows inflation up 4.9% from one year ago, while the three-month annualized change displays a staggering 7.9% increase. All is lost, right? Perhaps not. (For more on the CPI, read The Consumer Price Index Controversy and The Consumer Price Index: A Friend To Investors.)

The Good News
While present inflation numbers may seem a little overwhelming, it's important to remember that core inflation remains in check. When looking at prices, we need to understand that food and energy are extremely volatile on a month to month basis. However, core inflation, which is the Consumer Price Index less food and energy, is much less so, at least in theory anyway. (Learn the underlying theories behind these concepts and what they can mean for your portfolio in The Importance Of Inflation And GDP.)

Looking at June, core CPI edged up a mere 0.3%, month over month, while firing higher 2.4% year over year. What's more, on a three-month annualized basis, core CPI was up 2.5%. Month over month numbers aren't too shabby overall, and mean the FOMC has some wiggle room to hold rates steady over the next few months. However, with elevated overall CPI numbers (including food and energy) showing significant signs of bullishness, the Federal Reserve will have to step in sometime to raise rates.

At the end of the day, higher interest rates within the U.S. mean a rally in the U.S. dollar, something that will help cool the price of oil. Forex traders know that for every 1% change in the U.S. dollar (in the present environment), oil theoretically adds/subtracts about $4. This is much of the reason for the bold dump in oil prices over the past two days. As of Wednesday morning, crude was off about $12 from the $146 range seen earlier in the week.

Overall, a rally in the U.S. dollar, due to a pending rate hike and a reversal in crude, could have stock market bulls back in action in the coming days.

Who's Who?
Banking is certainly the first sector that will be affected. Here's the rub: a higher inflation environment could present a mixed picture for banks. In general, higher interest rates hurt banks, as they begin to see lending decrease based on overall interest payment "affordably" of borrowers. Case in point, much of the reason for the buoy in banks over the past year, are near zero real interest rates, with the federal funds rate presently at 2.0%. As was pointed out in an article by CNNMoney writer David Ellis, "When the Fed began its rate-cutting campaign last September, it was one of the few saving graces for banks, which were, at the time, in the early throes of the credit crunch."

Thus, we know that while higher inflation may be good for the U.S. dollar (and the cooling of oil), the event is at the same time, slightly worrisome for banks, lending and the overall economy. Call it "the hiccup period" in recovery, if you will.

When looking at the overall situation, though, there's one thing investors should remember: Banks are in business to make money and those that have solid business practices and are fair to borrowers will likely stay in business. Looking at some of the heavyweights like Citigroup (NYSE:C), Wells Fargo (NYSE:WFC) and investment banking powerhouse Goldman Sachs (NYSE:GS), it's hard not to imagine the future being anything but profitable. However, as we recently saw in the March Bear Sterns and JPMorgan Chase (NYSE:JPM) debacle, there's always risk looming.

Bottom Line
Overall, banks are likely in for a rough time over the next few months; however, over the long haul the present strife in the U.S. economy will pass, inflation will taper and banks will be back in business.

For more on the CPI and other indicators, read Economic Indicators For The Do-It-Yourself Investor.

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