US inflation data offers no quick relief for Fed, but hints of spike | The mighty 790 KFGO

By Howard Schneider and Ann Saphir

WASHINGTON (Reuters) – New U.S. data for May showed little immediate relief from the record pace of inflation pushing the Federal Reserve toward another oversized interest rate hike next month, but it added to growing sentiment that the worst could be over.

Inflation as measured by the personal consumption expenditure price index was 6.3% on an annualized basis in May, the same as in April and still more than triple the official central bank target of 2% US – far clear evidence of falling inflation that Fed officials say they need before they back off on their rate hike plans.

Following the release of the latest inflation data, traders of futures tied to the central bank’s federal funds target rate continued to bet it would deliver another 75 basis point rate hike in the month. next.

But those same traders also saw an opening for the Fed to slow the pace of rate hikes from November and stop raising rates altogether in early 2023, as evidence mounts that inflation may have peak and the economy as a whole slows down.

While the headline inflation figure showed no decline, a separate measure excluding volatile food and energy costs fell for the third month in a row and now sits at a six-month low of 4, 7%.

The so-called “underlying” inflation measure is controversial because it excludes some of the prices that have the greatest impact on daily life. The Fed’s focus on PCE inflation, as opposed to the separate and generally higher consumer price index, is also a matter of debate because it gives less weight to the costs of things like housing. which also increased rapidly.

But the decline in core PCE, if sustained, would continue to weigh in on policymakers as a powerful signal of where prices are headed.

“A combination of slower wage gains, lower margin inflation and a stronger dollar is starting to drive core inflation down sharply,” wrote Ian Shepherdson, chief economist at Pantheon Macroeconomics. , in a note, while adding that “this has much more to it.” go” to become persuasive to the Fed.

But the seeds of this may be taking root.

Recent data revisions showed that consumer spending at the start of the year was below initial estimates, and data released on Thursday showed that, on an inflation-adjusted basis, disposable income and consumer spending decreased in May.

Sustained consumer demand, fueled in part by trillions of dollars in federal government pandemic relief payments, is seen as one of the factors behind the recent price spike. One of the Fed’s goals in raising interest rates has been to align this record demand for goods and services more closely with what the economy can produce or import.

Michael Pearce, senior US economist at Capital Economics, estimated US economic growth for the April-June period slipped at an annualized rate of 1%. This is well below trend growth rates in the United States, generally estimated at around 2%, the type of “output gap” that could ease the pressure on prices linked to demand.

“We expect growth to remain below trend in the second half as well,” Pearce wrote.

HORIZONTAL BAR

Between these signs of slowing growth and potentially slowing inflation, it is now a matter of judgment for the Fed on how to weigh the need to follow through on anticipated rate hikes against the risk that the economy slows faster than expected or even slips into recession.

At a central bank conference in Portugal this week, Fed Chairman Jerome Powell made it clear – yet again – that the bar for the US central bank to slow or halt further rate hikes is high. Policymakers want to make sure that public opinion on long-term inflation doesn’t drift higher, a fate they feel they have avoided so far, but are also inclined to reinforce beyond any doubt.

They also saw financial markets take the expected tightening of monetary policy to heart and raise the cost of credit much faster than the Fed itself moved to raise the short-term federal funds rate. The average contract rate for a 30-year fixed-rate mortgage in the United States, for example, has roughly doubled to 5.70% since last September, when the Fed announced its shift to lower credit terms. more stringent. The first hike in the current Fed tightening cycle only came in March.

For the Fed, it’s like money in the bank, and it won’t be returned easily.

“Overall since last fall when we pivoted…markets have been pretty much aligned…with where we’re going,” Powell said Wednesday. “It’s constructive that the market is indeed doing your job for you.”

(Reporting by Howard Schneider; Editing by Paul Simao)

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