In a gentle yet continuous upward trend, the cost of goods and services in July has risen by a modest 0.2%, with overall inflation stubbornly hovering above the 3% mark. Despite predictions from economists surveyed by The Wall Street Journal that the personal consumption expenditures index would advance by 0.2%, the annual increase in prices has nudged its way to 3.3% from 3%, as reported by the government on Thursday. Although inflation has decelerated significantly this year, it could take a substantial amount of time for it to retreat back to pre-pandemic levels of 2% or less.
The core PCE rate of inflation, which excludes unpredictable food and energy costs and is regarded by the Federal Reserve as a superior gauge of future inflation trends, also experienced a 0.2% increase last month. The annual core inflation rate has subtly climbed to 4.2% from 4.1% in the previous month. While the report contains little to set off alarm bells at the Fed, it also does not demonstrate significant progress towards achieving the central bank’s 2% inflation target.
Mild Inflation Increase Observed in July as Fed Eyes Future Trends
The cost of goods and services witnessed a mild increase of 0.2% in July, pushing overall inflation slightly above the 3% mark. This is in line with the forecasts made by economists polled by The Wall Street Journal, who predicted an identical rise in the personal consumption expenditures (PCE) index.
A Slow Return to Pre-Pandemic Levels
According to government data released on Thursday, the annual increase in prices edged up to 3.3% from 3%. Although inflation has witnessed a deceleration this year, it may take a while for it to return to pre-pandemic levels of 2% or less.
The core PCE rate of inflation, which excludes volatile food and energy costs, also rose by 0.2% last month. This is viewed by the Federal Reserve as a better predictor of future inflation trends. The annual rate of core inflation also saw a minimal rise to 4.2% from 4.1%.
While the report doesn’t set off any alarm bells for the Fed, it doesn’t show any significant progress in moving inflation towards the central bank’s 2% target either.
The Fed’s Next Move Amid Market Conditions
A slowing rate of inflation and intermittent signs of a cooling labor market could prompt the Fed to maintain the key U.S. interest rate at current levels of 5.25% to 5.5%. The Fed’s next meeting in September will provide further clarity on their strategy.
The central bank’s goal is to elevate rates sufficiently to control inflation without pushing the economy into a severe recession. Wall Street investors are betting on the Fed to maintain rates in the upcoming September meeting.
However, whether the Fed continues to hold rates depends largely on the consistent deceleration of inflation. The recent surge in oil prices has exerted upward pressure on inflation, and wages continue to rise at a pace faster than the Fed’s comfort zone.
Market Reaction and Outlook
George Mateyo, Chief Investment Officer of Key Private Bank, stated that the recent PCE report revealed no significant acceleration in inflation, a data point that the Fed would view positively. Despite this, Mateyo observes that the Fed may perceive inflation as cooling, but not cool enough, given the continued strength in the labor market and the economy’s above-trend growth.
In reaction to the report, the Dow Jones Industrial Average and S&P 500 were projected to open higher in Thursday’s trades. The yield on the 10-year Treasury note fell slightly by 4.1%.
Takeaways
The mild increase in inflation coupled with a seemingly cooling labor market puts the Federal Reserve in a challenging position to calibrate interest rates aptly. The central bank’s actions in the upcoming months will significantly influence the market’s direction. Investors and market participants will keenly watch for any significant changes in inflation or other economic indicators that could signal the Fed’s next move.
