Will inflation continue to slow? Key areas to watch

President Biden publicly celebrated recent inflation reports, and Federal Reserve officials breathed a sigh of relief as rapid gains in prices show signs of losing steam.

But the pressing question now is whether the pace of progress toward slower price increases – which is long overdue and much welcomed – can be sustained.

The Fed’s preferred measure of inflation, the personal consumption expenditures index, is expected to rise to 4.2 or 4.3 percent in Thursday’s report, after excluding volatile food and fuel costs. This would be an increase from 4.1 percent for the original measure in June. Although it would still be significantly down from its peak of 5.4% last summer, such a reading would confirm that inflation remains stubbornly above the Fed’s 2% target, and that its road back to normal could be bumpy.

Most economists aren’t terribly concerned. They still expect inflation to ease later this year and in 2024 as pandemic disruptions fade and consumers’ willingness to accept higher prices for goods and services declines. American shoppers are feeling the pressure of shrinking savings and rising federal interest rates.

But with price increases slowing intermittently, it is making economic officials wary. Big uncertainties loom, including a few that could help inflation fade faster and many that could keep it high.

Base case: Inflation is expected to subside

Price increases have slowed across a range of measures this summer. The overall Consumer Price Index — which feeds personal consumption expenditures figures and is released earlier each month, making it a focal point for both analysts and the media — slowed to 3.2% from a peak of 9.1% in June 2022.

As consumers saw less dramatic price jumps, their expectations declined for future inflation I got off. This is good news for the Fed. Inflation expectations can be a self-fulfilling prophecy: if consumers expect higher prices, they may accept cost increases more easily and demand higher wages, making it more difficult to eliminate inflation.

However, moderation was not enough for policymakers to declare victory. Fed officials have been trying to slow the economy and contain inflation since early 2022. Fed Chairman Jerome Powell pledged during a speech last week at a Jackson Hole symposium that “they will do it.”keeping it saving itUntil positive inflation is controlled.

“Inflation is heading in the right direction,” said Gennady Goldberg, rates strategist at TD Securities. But he said it’s like a fire: “You want to kill its last embers, because if you don’t, it could start up again in an instant.”

The good news: rents and China

There are reasons to believe that inflation is on its way down sustainably.

Several economists said a slowdown in rent increases would help lower overall inflation for at least next year. Rents for newly rented apartments have soared due to the pandemic as people moved to cities and got rid of roommates. Market-based rents The slowdown began last year, a shift that is only now starting to make its way into official inflation data as people renew their leases or move.

Slowing inflation is also being helped by an unexpected source: China. The world’s second largest economy is growing much more slowly than expected after reopening after pandemic lockdowns. This means that fewer people compete globally for the same goods, which affects prices. If Chinese officials respond to the recession by trying to increase exports, it could lead to cheaper goods on the global market.

More generally, Fed policy should help lower inflation in the coming months. The Central Bank raised interest rates to a range of 5.25 to 5.5 percent over the past year and a half. These higher borrowing costs still flow through the economy, reducing demand for large purchases made on credit and making it more difficult for companies to charge higher fees.

But some key products could cause problems for inflation expectations. Gas is one.

Display AAA data Gas prices rose to more than $3.80 a gallon, up from about $3.70 a month ago, amid refinery shutdowns and global production cuts.

Fed officials mostly ignore gas when they think about inflation, because it fluctuates thanks to factors that policymakers can do little about. But gas prices matter a lot to consumers, and their inflationary expectations tend to be higher when they go up — so central bankers can’t outrun them entirely. Beyond that, gas prices can feed into other prices, such as airfare.

And it’s not just gas and travel costs that can stop inflation from dropping so quickly. Economists at Goldman Sachs expect healthcare prices to rise as hospitals try to offset the recent rise in labor costs, supporting service inflation.

The Unconfirmed News: Cars and Growth

Used cars have also helped de-inflation, but it is increasingly uncertain how much they will help depress inflation in the future.

Many economists believe that the trend toward cheaper used cars has more room to run. Dealers have been paying much less for used cars at auctions this year, and the trend may not have fully caught on with consumers yet. In addition, some new-car producers have been rebuilding inventories after years of shortages, which may ease pressure in the overall auto market (electric cars in particular are Pile up on a lot of traders).

But it’s surprising Wholesale used car prices It rose very slightly in the latest data.

“The used car market is transforming, and the reason for that is very simple: the demand has been much higher than dealers expected,” said Omair Sharif, founder of Inflation Insights. Add to that the possibility of an UAW strike – The end of the union contract He said that risks await us in mid-September regarding car stocks and prices.

In fact, the continued demand in the used car market is symptomatic of the broader trend. Even in the face of much higher interest rates, the economy appears to be resilient. House prices He went up Since the beginning of the year despite high mortgage rates, data released on Thursday is expected to show that consumer spending remains strong.

Perhaps this more general risk – the potential for economic acceleration – is the biggest trump card facing policymakers. If Americans remain willing to open their wallets despite inflated prices and rising borrowing costs, this could make it difficult to fully reduce inflation.

“We are paying attention to signs that the economy may not calm down as expected,” Mr. Powell said last week.