Fed's favored inflation metric sets the table for September

The Federal Reserve’s preferred measure of underlying US inflation rose at a mild pace and household spending picked up in July, reinforcing policymakers’ plan to start cutting interest rates next month.

The so-called core personal consumption expenditures price index, which strips out volatile food and energy items, increased 0.2% from June, according to Bureau of Economic Analysis data out Friday. On a three-month annualized basis — a metric economists say paints a more accurate picture of the trajectory of inflation — it advanced 1.7%, the slowest this year.

Inflation-adjusted consumer spending climbed 0.4%, an acceleration from the prior month.

Friday’s report supports the view that it’s time to begin unwinding the restrictiveness of monetary policy. Combined with emerging cracks in the labor market, the sustained cooling in inflation explains why Fed Chair Jerome Powell said last week “the time has come” for central bankers to start lowering borrowing costs, likely next month.

Stock futures remained higher and Treasury yields rose after the report. Swaps traders held steady the pricing of the total rate cuts they foresee from the Fed for all of 2024.

Policymakers pay close attention to services inflation excluding housing and energy, which tends to be more sticky. That metric increased 0.2% in July for a second month, according to the BEA. From a year ago, it advanced 3.25%, the slowest in more than three years.

Fed officials have indicated they’re more focused on the employment side of their dual mandate, in part because the trajectory of the labor market will help inform expectations for consumer spending — the main engine of the economy. The highly anticipated August jobs report due next week will be the last policymakers see before their Sept. 17-18 meeting.

Spending, adjusted for inflation, was led by goods — particularly motor vehicles. Outlays for services advanced at a more modest pace.

While layoffs remain low, weaker demand for workers is starting to translate into less purchasing power. Wages and salaries climbed 0.3%, a slight pickup from June but well below most of the gains in 2023. On an inflation-adjusted basis, disposable income growth barely rose.

The saving rate slipped to 2.9%, the second-lowest reading since 2008.