The Federal Reserve’s favorable inflation measure on Friday provided the latest sign that price pressures are easing, a trend expected to drive Fed interest rate cuts this year and next.
Prices rose just 0.1% from July to August, the Commerce Department said, down from a 0.2% increase the previous month. Compared to a year earlier, inflation fell to 2.2%, down from 2.5% in July and barely above the Fed’s 2% inflation target.
Cooling inflation may have eroded former President Donald Trump’s polling advantage on the economy. In a survey last week by The Associated Press-NORC Center for Public Affairs Research, respondents were almost evenly split on whether Trump or Vice President Kamala Harris would do a better job on the economy. That’s a significant shift from when President Joe Biden was still in the race, when about six in 10 Americans disapproved of his handling of the economy. The shift suggests that Harris may shed some of Biden’s baggage on the economy as sentiment among consumers begins to brighten.
Grocery costs barely rose last month, according to Friday’s report, and energy costs fell 0.8%, led by cheaper gasoline.
Excluding volatile food and energy costs, so-called core prices rose just 0.1% from July to August, also down from a 0.2% increase in the previous month. It was the fourth straight time that monthly price increases fell below the 2% annual rate, the Fed’s target. Compared to the previous 12 months, core prices increased by 2.7% in August, slightly higher than in July.
“Sticky inflation is yesterday’s problem,” Samuel Tombs, chief US economist at Pantheon Macroeconomics, said in a research note.
With inflation falling from a 2022 peak to barely above the Fed’s 2% target, the central bank last week cut its benchmark interest rate by an unusual half point, a dramatic shift after more than two years of high rates. Policymakers have also signaled they will cut the key rate by an additional half point in November and December. And he envisions four more rate cuts in 2025 and two in 2026.
The continued decline in inflation makes it more likely that the Fed will cut key benchmark rates in the coming months.
“From the Fed’s perspective, cumulatively, we think the data shows enough progress in key inflation metrics for policymakers to continue cutting rates,” said Carl B. Weinberg, chief economist; and Rubeela Farooqi, chief US economist at High Frequency Economics in a research note on Friday. “Softer-than-expected spending and nominal income results provide incentives to continue tapering.”
On Thursday, Tom Barkin, president of the Federal Reserve Bank of Richmond, expressed support for a cautious approach to cutting rates. In an interview with The Associated Press, he said he was in favor of lowering the Fed’s key rate “slightly.” But Barkin said he wanted to make sure inflation stayed cool before cutting benchmark rates to a level that would no longer hold the economy back.
Cool consumer shopping
Friday’s report also showed that American income and spending were flat last month, with both rising just 0.2%. Still, the tepid increase coincided with upward revisions this week to income and spending figures from last year. The revisions show that consumers are in better financial shape, on average, than previously reported.
“Consumer spending was a touch softer than expected, mostly due to somewhat weaker spending on goods,” said Olu Sonola, head of US economic research at Fitch Ratings. “All things considered, this month’s report does not nudge the Fed in the direction of another strong 50 bps cut in November. Two 25 bps cuts still seem more likely in November and December.”
Americans also saved more of their income in recent months, according to the revisions, leaving the savings rate at 4.8% in September, after previous figures showed it fell below 3%.
The government reported Thursday that the economy expanded at a healthy 3% annual rate in the April-June quarter. And it said economic growth was higher than previously estimated for most of the 2018-2023 period.
The Fed is likely to favor the government-issued inflation measure on Friday – the personal consumption expenditure price index – over the better-known consumer price index. The PCE index attempts to capture changes in how people shop when inflation rises. It can be taken, for example, when consumers switch from pricier national brands to cheaper store brands.
In general, the PCE index tends to show a lower rate of inflation than the CPI. In part, because rent, which is already high, carries twice the weight in the CPI that it does in the index released on Friday.
Recent reports show that the economy is still growing rapidly. On Thursday, the government confirmed earlier estimates that the US economy grew at a brisk 3% annual rate from April to June, driven by strong consumer spending and business investment.
Some individual economic barometers also provide reassurance. Last week, the number of Americans applying for unemployment benefits fell to the lowest level in four months.
And last month, Americans increased their spending at retailers, suggesting that consumers are still able and willing to spend more despite the cumulative impact of three years of excess inflation and high debt levels.
The nation’s industrial production also rebounded. The pace of single-family home construction increased sharply from the pace a year earlier. And this month, consumer sentiment rose three times in a row, according to preliminary figures from the University of Michigan. The brighter outlook is driven by “better prices as consumers feel” for cars, appliances, furniture and other durable goods.
