Ahead of the Federal Reserve’s annual conference in Jackson, Wyoming, which starts on Thursday (Aug. 21), the topic of inflation will dominate discussions. Although the latest updates on prices were mixed, there are several metrics that raise questions about the wisdom of cutting interest rates at next month’s policy meeting, which has become the consensus view of late.
For the optimists on the inflation outlook, last week’s news for the consumer price index (CPI) was reassuring. This measure rose 2.7% in July vs. the year-ago level, unchanged from June. The implication, according to some observers: tariffs continue to have a modest impact on prices, which in turn provides support for arguing that the Fed has a clear path to cut rates at the Sep. 17 FOMC meeting.
Not so fast, counter the skeptics, pointing to core CPI, which strips out the volatile food and energy components, and is said to be a more reliable measure of the trend. According to this benchmark, inflation picked up to a 3.1% annual pace – the highest since February and more than a full percentage point above the Fed’s 2.0% inflation target.
An alternative measure of inflation, based on the Atlanta Fed’s Sticky CPI, highlights what appears to be a clear rebound in the upward bias of pricing pressure. In July, this index of inflation strengthened for a second month, rising 3.4% vs. the year-ago level. The core version of this index posted a similar U-turn.
Why pay attention to sticky CPI data? The reasoning is that it’s focused on goods and services that change infrequently in price, and so it’s arguably a superior metric for tracking inflation expectations.
Consider, too, the acceleration of wholesale inflation in July, which accelerated sharply, rising 0.9% for the month – the biggest monthly gain in three years, which lifted the annual trend to 3.3%, the most since February.
“The fact that PPI was stronger-than-expected and CPI has been relatively soft suggests that businesses are eating much of the tariff costs instead of passing them onto the consumer,” said Clark Geranen, chief market strategist at CalBay Investments. “Businesses may soon start to reverse course and start passing these costs to consumers.”
Consumers seem to be leaning into that view based on the rebound in consumer inflation expectations, according to new survey data from the University of Michigan. The US Consumer Sentiment Index fell in August, declining for the first time in four months. “This deterioration largely stems from rising worries about inflation,” the report advised.
The challenge for the Fed is that there are also signs that the labor market is weakening, which favors cutting rates. Hiring rose a weak 73,000 in July, suggesting that trouble is brewing for the growth outlook.
Different Fed policymakers, however, have emphasized different risks recent days. As NBC News reports:
“With underlying inflation on a sustained trajectory toward 2%, softness in aggregate demand, and signs of fragility in the labor market, I think that we should focus on risks to our employment mandate,” Michelle Bowman, a member of the Fed’s governing board, said last week.
Yet Austan Goolsbee, president of the Federal Reserve’s Chicago branch, downplayed the weakness in hiring in remarks to reporters Wednesday. The slowdown in job gains could partly reflect the drop in immigration stemming from President Donald Trump’s border crackdown, Goolsbee said, rather than a weaker economy. He also pointed to the still-low unemployment rate of 4.2% as evidence that the job market is solid.
Fed funds futures are still pricing in a 1/4-point cut next month, and so the economy-is-slowing narrative seems to have the upper hand for the moment. But there’s another round of inflation and employment data scheduled ahead of the next Fed meeting. Although the central bank is loathe to make policy decisions based on one data point, the next CPI update and payrolls reports for August could be unusually influential.
The key question: Will the Fed cut rates if consumer inflation posts another round of firmer pricing pressure? Perhaps the Gnomes of Washington will drop a few clues in Jackson Hole later this week.
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