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Cooler inflation reading helps make case for Fed rate cut in September
The latest sign that inflation is easing makes it more likely that the Federal Reserve will be able to gain enough confidence to cut interest rates this fall.
The odds of a September cut increased on Thursday after the release of new favorable Consumer Price Index (CPI) figureswith traders now pricing in an 83% probability of easing at the Fed’s Sept. 17-18 meeting.
“I think September is firmly on track for a cut,” Peter Tchir, head of macro strategy at Academy Securities, told Yahoo Finance.
Some Fed watchers even think a cut at the Fed’s July 30-31 meeting is now a possibility, if a few other pieces fall into place.
“The Fed could very well cut rates before September if the labor market weakens at a faster pace,” said Quincy Krosby, chief global strategist at LPL Financial.
The Consumer Price Index on a “core” basis — which excludes volatile food and energy prices that the Fed can’t control — rose 3.3 percent year over year in June. That was a tenth of a percent below expectations and below the level seen in May.
The monthly CPI was also encouraging, rising 0.1% after rising 0.2% in May.
The “muted” month-on-month increase “strengthens the case for a rate cut in September,” said Paul Ashworth, chief economist at Capital Economics.
However, much still depends on the next reading of the Fed’s preferred inflation gauge – the “core” Personal Consumption Expenditures (PCE) index – as well as a further cooling of the labor market, Ashworth added.
Richard de Chazal, a macro analyst at William Blair, said the fact that June marked the third consecutive month of more moderate inflation growth helps “confirm that inflation is firmly back on a downward trajectory.”
But he still doesn’t expect a smooth path to the Fed’s 2% inflation target because annual rate-of-change comparisons start to get more difficult in the second half of this year.
“To help justify the start of rate cuts, the Fed will need to shift focus to a slowing labor market rather than continuing to rely entirely on lower inflation to do all the heavy lifting on rates,” de Chazal said.
“Today’s report and the Fed’s subtle shift to a more balanced focus on slowing job growth help put a September rate cut firmly in the cards.”
Federal Reserve Chairman Jerome Powell. (Tom Williams/CQ-Roll Call, Inc via Getty Images) (Tom Williams via Getty Images)
Federal Reserve Chairman Jay Powell made it clear earlier this week that in fact, he is paying more attention to the cooling job market.
“The latest labor market data sends a very clear signal that labor market conditions have cooled considerably compared to where they were two years ago,” he said during testimony before U.S. lawmakers. “This is no longer an overheated economy.”
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For too long, the Fed has focused on the inflationary side of its mandate, keeping rates at a 23-year high in an effort to cool the economy.
But Powell says that with the labor market getting back to where it needs to be, the Fed is looking closely at both sides of its mission: stable prices and maximum employment.
The focus on the jobs market came after the release of a June unemployment report that showed signs of a slightly cooling labor market, with the unemployment rate rising by a tenth of a percent for the second straight month to 4.1%.
While the unemployment rate of 4.1% is still historically low, it is up from 3.4% at the beginning of last year.
Powell also made clear this week that the central bank is indeed getting closer to feeling comfortable with rate cuts, telling lawmakers that he was encouraged by evidence of cooler inflation and that more “reliable data” would help the Fed get where it wants to be.
Inflation numbers “showed some modest progress” after some warmer readings in the first quarter, “and further positive data would strengthen our confidence that inflation is moving sustainably towards 2%,” he said in his testimony.
Powell, however, stopped short of saying whether cuts could begin in September. He also warned that he was “not yet prepared” to say the central bank was confident enough that inflation was returning to its 2% target.
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