Wednesday’s important inflation report could give the Fed some breathing room in its fight against inflation.
According to the Dow Jones Consensus, July’s consumer price index, to be released by the U.S. Bureau of Labor Statistics at 8:30 a.m. ET, is expected to increase only modestly. The overall value for all items is 0.1%, and the all-important core value, which excludes volatile food and energy prices, is 0.2%. On an annual basis, they are expected to be 3.4% and 2.5%, respectively, both down 0.1 percentage point from June.
While this will keep annual inflation still well above the Fed’s 2% target, a second straight weak monthly reading could give Federal Open Market Committee policymakers a little more time before taking action on interest rates.
“If the July CPI report is close to my expectations, the committee’s balance will remain on track through the supply shock and the FOMC will remain unchanged for the rest of the year,” said Joe Brusuelas, chief economist at RSM. He added that the data would provide “some help” to Fed Chairman Kevin Warsh, who has faced tough policy challenges since taking office in May.
At its July meeting, the FOMC voted 9-3 to keep the key borrowing rate unchanged at 3.5% to 3.75%. All three dissenting voters support a quarter-point rate hike, and Gov. Lisa Cook recently said she recognizes the need to raise rates if inflation statistics don’t match up.
But recently, a series of less threatening numbers and signs of easing tensions in the Middle East have raised market expectations again. Traders currently see only a 50-50 chance of a rate hike at the September meeting, with a higher chance of a rate hike in October or December, according to CME’s FedWatch index.
It’s time to decide
Fed officials have the advantage of knowing both July and August inflation readings before their next meeting. The central bank will miss its August meeting because the Kansas City Fed will host its annual symposium in Jackson Hole, Wyoming.
“If you’re not confused, you’re not paying attention,” Brusuelas said. “This is a good representation of where we are right now in mid-August.”
The economy is emerging from June, when headline rates fell 0.4% on a monthly basis, with core flat, bringing some welcome relief to inflation statistics, mainly due to retreating energy prices and restraint in shelter costs. At the same time, last Friday’s report showed that nonfarm payrolls fell by 23,000 in July, even as the unemployment rate fell to 4.1%.
But despite potential signs of a softening labor market, some economists are bracing for a possible upside to July’s data, or at least a sign that inflation is too stubborn for the Fed to ignore.
Bank of America, for example, is still calling for three rate hikes in the coming months. The firm’s economists said in a client note that the July employment report “remains unchanged and stable in the overall labor market picture. And, more importantly, as noted in recent Fed speeches, the Fed’s reaction function is heavily biased toward inflation data.”
If the Fed’s key inflation measure rises by an average of 0.25% over the next two months, “it is almost certain that the Fed will begin raising rates in September,” BofA said.
Conversely, if the average is below 0.2%, rate hikes will be delayed, but if it’s in between, September will be a “coin toss” and the decision will depend on Warsh and “whether recent reports suggesting he is open to raising rates if necessary are true, or whether his dovish comments at a July press conference are more in line with his reactionary function,” the BofA report said.
If the inflation numbers pick up, Mr. Warsh could ask the committee to raise interest rates multiple times instead of just once. Central banks rarely make a single move in either direction.
Cleveland Fed President Beth Hammack, one of the three opponents at the June meeting, said Monday she expected multiple rate hikes would likely be necessary.
“We don’t know exactly where it’s going to end up,” Hammack said in an interview with Yahoo Finance. “Generally speaking, one move of 25 basis points probably isn’t going to have a huge impact on the economy. So it’s probably going to be some number move, but I don’t want to prejudge what that number is going to be.” “The labor market is stable, so I’m really looking at getting inflation back to target levels.”
