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Fed’s Preferred Gauge Shows Inflation at Three-Year Low

June 27, 2024

A closely watched economic measure showed that inflation in May slowed to its lowest annual rate in more than three years, further clearing the way for the Federal Reserve to declare victory over inflation and begin cutting interest rates.

The personal consumption expenditures (PCE) price index was unchanged from the month prior and up 2.6% on an annual basis, according to the Commerce Department. Both numbers were in line with the expectations of economists polled by Dow Jones. 

May’s reading marks the lowest annual rate of inflation since March 2021, when the past-pandemic surge of inflation kicked off and the PCE registered a reading higher than the Fed’s 2% target.

The “core” PCE, which strips out volatile components like food and energy, increased just 0.1% in May from the month prior, down from the previous month’s 0.3% gain. Economists consider the core reading to be a better indicator of longer-term inflation trends. On an annual basis, core PCE was also up 2.6%. Both the monthly and annual figures were in line with economist expectations. 

The Fed prefers PCE inflation readings rather than the more commonly cited consumer price index (CPI), which is compiled by the Labor Department’s Bureau of Labor Statistics. PCE is a broader inflation measure and one that also accounts for changes in consumer behavior, such as switching brands or substituting items when prices rise.

Inflationary pressures were held in check during the month by a 0.4% decline for goods and a 2.1% slide in energy, which offset a 0.2% increase in services and a 0.1% gain for food. However, housing prices continued to rise, up 0.4% on the month for the fourth straight time. Housing-related costs have been a persistent thorn in the Fed’s side this year, as policymakers expected shelter inflation to slow more than it has.

A separate report from the Bureau of Economic Analysis showed that personal income rose 0.5%, stronger than the 0.4% that economists had expected. At the same time, consumer spending increased 0.2%, weaker than the 0.3% forecast.

While the recent PCE reading is likely welcome news for the Fed, investors remain unclear on when the Fed will begin cutting rates and to what extent. Signals from the markets suggest that traders are banking on two interest rate cuts this year, with the first coming in September.

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