July PCE Inflation: Core Prices in Line with Expectations

This PCE reading is expected to be a crucial indicator for interest rate decisions ahead of the September Federal Open Market Committee (FOMC) meeting. The market currently puts the odds of a September rate hike at about 40% and a hold at 60%, so whether pressure for a hike intensifies may depend on this PCE result.

Right now the market sees roughly a 40% chance of a September hike and 60% for a hold, about a 6-to-4 split. This PCE reading will rise from June, but the key question is whether the three-month slowing trend running from April through July continues. If it does, there is hope for a hold again in August; if not, pressure for a rate hike is likely to intensify.

July headline PCE inflation rose 0.15% month on month and 3.6% year on year, expected to slow from June's 3.7%. Headline inflation had turned negative in June on falling oil prices, but recovered in July. However, even when the Fed adjusts rates, energy and food prices do not respond immediately, so core inflation, excluding those items, is drawing attention as the more important gauge.

However, after the import price release the forecast edged lower, and projections now point to 3.2% year on year. The month-on-month increase is expected to slow to around 0.19% or 0.18%.

Overall, the market expects inflation to rise somewhat from June but the slowing trend to continue. If core inflation comes in around 0.2% month on month, it can be read as the slowing trend holding. This suggests that the anxiety that followed past oil price spikes could ease.

If the year-on-year slowdown in inflation continues, market participants will judge that prices will ease over time. Looking at 12-month moving averages, both employment and inflation are slowing, so the market expects rates to be held in September. CME (Chicago Mercantile Exchange) futures put the odds of a September hike at 36% and a hold at 64%.

CME expects core PCE inflation at 3.2% to 3.3% year on year, and sees a 0.2% rise month on month. The PCE data also includes income and spending indicators; July income was expected to rise 0.2% month on month and spending 0.1%.

In the July PCE release, core inflation rose 0.2% month on month and 3.3% year on year, matching expectations. Headline inflation rose 3.7% year on year, the same as June and slightly above forecasts, which could be seen as somewhat unsettling. Income rose 0.4% month on month, above expectations, and spending rose 0.2%, a solid figure.

Although July headline inflation came in above expectations, the BEA (Bureau of Economic Analysis) is set to change its calculation methods in August, so the overall slowing trend is expected to continue. Many expect core inflation to fall as calculation methods change, including for portfolio fees that had been weighing on the market. With shelter cost inflation continuing to slow and the methodology changing, expectations are growing that the inflation slowdown will hold.

Previously, rising financial markets pushed up fees, which fed into PCE inflation excessively and made the swings in inflation large. The BEA's methodology change is aimed at reducing that effect, drawing expectations that core inflation will fall. Goldman Sachs and others see the slowing trend in shelter costs and the methodology change together keeping the inflation slowdown intact. July core inflation came in as expected, but headline inflation was slightly above forecasts, showing some instability.

Personal income rose 0.4%, above expectations, and personal spending (PCE spending) rose 0.2%, a solid figure. This suggests that US consumer spending remains healthy, even though recent retail sales indicators looked somewhat shaky. Rates dipped briefly after the release before rising slightly again, while the 2-year yield traded mostly sideways.

US second-quarter gross domestic product (GDP) growth held at 1.5%.

Personal income rose 0.4%, and real income also rose. Adjusted for prices, PCE consumption was roughly flat at 0%. Both core and headline inflation rose 0.2% each month on month.

Consumption was assessed as neither very bad nor very good, a middle-of-the-road level. Second-quarter GDP also rose 1.5%, slower than the 2.1% of the first quarter, but personal consumption, the economy's core growth driver, still looks solid. In particular, the second estimate of GDP confirmed that personal consumption rose further.

Personal consumption, the main growth driver of the US economy, still looks good. Second-quarter GDP held at 1.5%, the result of personal consumption rising further in the second estimate released at the end of August, following the first estimate at the end of July after the quarter closed in late June. Investment dipped slightly and imports rose, a negative effect on net exports, but the positive contribution from personal consumption offset this and kept GDP growth steady.

Investment declined slightly and imports rose, a negative contribution from net exports. However, personal consumption increased, a positive contribution that kept GDP growth at 1.5%. Overall, the indicators released today came in at expected levels, neither very bad nor very good. Headline inflation edged up on oil price moves, but core inflation, the key gauge, came in as expected, so the market is unlikely to shift much.

Because today's indicators came in at expected levels, the market's current situation is unlikely to change much. Overall, the figures were hard to call either good or bad. The anchor closed the broadcast wishing viewers successful investing.