Fed Inflation Gauge Points to Reducing Pressure, Possible Path for Rate Cuts

A key inflation gauge for the Federal Reserve showed a modest increase in June from a year earlier, potentially setting the stage for an expected interest rate cut in September.

The personal consumption expenditures (PCE) price index, a key measure of inflation, rose 0.1% in June and is up 2.5% year over year, matching Dow Jones estimates, the Commerce Department reported Friday. That follows a 2.6% year-over-year increase in May, with the monthly measure unchanged.

The Federal Reserve relies heavily on the PCE index to measure inflation, which remains above the central bank’s long-term target of 2%.

Core inflation, which excludes food and energy prices, rose 0.2% month-on-month and 2.6% year-on-year, both in line with expectations. Policymakers focus on core inflation as it is considered a more reliable indicator of long-term trends due to the volatility of food and energy prices.

Following the report, stock market futures pointed to a positive opening on Wall Street, while Treasury yields fell. Futures markets are now betting on a more aggressive path for the Fed’s interest rate cuts.

“The report can be summed up as ‘good enough,’” said Robert Frick, corporate economist at Navy Federal Credit Union. “Spending is sufficient to support economic expansion, income levels support continued spending, and PCE inflation is supportive of the Fed cutting rates.”

In June, goods prices fell 0.2%, while services prices rose 0.2%. House prices rose 0.3%, showing a slight deceleration from the 0.4% increases seen in the previous three months, marking the smallest monthly gain since at least January 2023.

Additionally, the report found that personal income rose just 0.2%, falling short of the 0.4% estimate. However, spending rose 0.3%, in line with forecasts.

With spending flat, the savings rate fell to 3.4%, its lowest level since November 2022.

This report comes at a critical time when markets are closely monitoring the Fed’s monetary policy stance.

There is little anticipation that the Federal Open Market Committee (FOMC) will make changes at its next policy meeting next Tuesday and Wednesday. However, market indicators strongly suggest a rate cut at the September meeting, which would be the first rate cut since the early stages of the Covid pandemic.

“Overall, it was a good week for the Fed. The economy looks solid and PCE inflation remains relatively stable,” said Chris Larkin, managing director of trading and investments at E-Trade Morgan Stanley. “A rate cut next week is unlikely, but economic data has followed a trend that supports a potential cut in September.”

After inflation hit its highest level in more than 40 years in mid-2022, the Fed implemented a series of aggressive rate hikes, taking its benchmark lending rate to its highest point in about 23 years. However, the Fed has put those increases on hold over the past year to assess mixed economic data that initially pointed to rising inflation but has recently shown signs of gradually cooling, prompting policymakers to debate the possibility of at least one rate cut this year.

According to CME Group’s FedWatch tool, futures markets have priced in about a 90% chance of a rate cut in September, with further cuts expected at the FOMC meetings in November and December.

However, Fed officials have been cautious in their public statements, stressing that future policy decisions will be data-dependent.