Taming the Inflation Beast: A Glimpse into the Latest Twist in the Federal Reserve's Narrative

PCE data indicates inflation is slowing. Will the market continue to rally, or have we entered into another bull trap?

In a twist of fate, June 2023’s Personal Consumption Expenditures (PCE) data throws a curveball, showing inflation, although still in the fast lane, is now driving with a calmer foot. There’s still ground to cover, though, as the numbers eclipse the Federal Reserve’s ideal 2% annual target.

Economic data from the month points to a somewhat relaxed inflation pace, with the Fed’s favored inflation barometer marking a 0.2% ascension, translating to an annualized 4.1% rate. This points to a relaxation from May’s 4.6% annual score, but the victory is bittersweet, as the 2% target still looms far ahead.

Wages, the economic engine’s backbone, also continue to rise, albeit at a slower pace. They are outpacing the 3.5% rate that most analysts align with the Fed’s inflation target, but the rate of increase is slowing. Compensation costs grew by 1% in the second quarter, translating to an annual pace of 4.5%, slightly off the first quarter’s 4.8% rate.

An intriguing development is seen in the core PCE index, now down a full percentage point from its peak of 5.4% in February 2022, and marking its slowest pace since September 2021. Additionally, the Employment Cost Index reveals its most modest growth in two years, signaling a gradual pullback of inflation. Economists are strapping in, anticipating this slower ride to persist.

Yet, concerns shadow these positive indicators. Escalating gas prices and delicate supply chains could fuel price growth to plateau or gently escalate in the coming months. Furthermore, the nuanced calculations of PCE and the widely observed Consumer Price Index (CPI) may maintain PCE’s high stance even with a shrinking CPI.

Consumer spending strength is also under the microscope. June’s data showed a notable rise of 0.5%, a sizable surge since the beginning of 2023. Such robust spending habits don’t motivate firms to cut prices, adding fuel to the inflation fire.

However, the latest PCE figures, the Fed’s go-to for measuring inflation, arrived softer than anticipated, pointing to a potential gentle economic landing. A drop in PCE inflation from May’s 4.6% year-over-year to 4.1% in June, and a similar dip in Core PCE, paints a picture of a possible easing scenario.

US labor costs have also ascended by 1% from the first to the second quarter of 2023, a slight drop from the previous quarter’s 1.2% increase. It seems the price tag for labor, a significant factor for service providers, might be on a moderating trend.

All this leads the Fed to hit the brakes on rate hikes, yet keeping the door ajar for possible future increases depending on the course of PCE inflation. So, the Fed’s decision on a possible September interest rate rise hangs in the balance.

Despite a certain cooling, inflation still has a distance to cover before reaching the Fed’s 2% finish line. However, the latest PCE data, with its hints of deceleration, suggest a path to economic stability, even if there might be a few potholes on the way.

How We’re Looking At The Data

Neil Yeager, Futures Expert, and Trader, recently shared his outlook: The US Federal Reserve’s recent meeting left the markets in an unexpected frenzy, despite a predictable 25 basis point hike. The resulting volatile market swings reflected investor uncertainty over the Fed’s stance towards future rate hikes. The ambiguity stemmed from Fed Chairman Powell’s statement that the Fed remains committed to bringing inflation back to their 2% target, but he didn’t clarify whether they’re done raising rates or whether more hikes are on the horizon to achieve their goal. The markets ended up almost flat, with the S&P 500 slightly up by 0.71 points after a rollercoaster ride.

Moving forward, traders should keep an eye on upcoming inflation data releases, specifically the Consumer Price Index (CPI) and Producer Price Index (PPI), expected around the 9th and 10th of August. This data could influence the Fed’s future decisions and consequently, market directions. Despite recent uncertainty, trends in major indices like the Dow Jones, S&P 500, and Russell 2000 appear promising. However, caution is advised as the NASDAQ’s slight pullback could potentially indicate a broader market shift. With several big companies set to release earnings reports in the coming week, there’s potential for additional market volatility.

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