When inflation falls, markets soar
As someone once said, if the Fed has a reactive function, The market has an overreaction function.
Evidence of this was apparent on Thursday when the Bureau of Labor Statistics released its June Consumer Price Index (CPI), which showed it had fallen for the first time since May 2020. Consumer prices unexpectedly fall slightlyAnd the market was pricing in a rate cut in September as almost certain.
The unexpectedly mild inflation report was certainly welcome: economists had predicted a 0.1% rise after being flat last month. But instead of rising again, Inflation has entered negative territory.
(Photo: Redd F/Unsplash)
of The progress was somewhat exaggerated Due to rounding, a 0.1 percent drop was actually a 0.05619 percent drop before rounding. Thus, a small fluctuation two decimal places above the decimal point would have resulted in two consecutive flat months, rather than a deflationary month. It is probably best to consider June as two consecutive months of zero inflation.
The headline numbers went down Sharp drop in energy priceshas fallen 2% for the second straight month. This situation is unlikely to last for long. The decline in energy is due to a sharp decline of 3.8%. Gasoline pricesFollowing a 3.6% decline in May, this decline is unlikely to continue and may instead reverse over the next month.
Annualizing the June figures, prices fell 0.7 percent. Over the past three months, the annualized rate was 1.1 percent. Over the six-month period, the annualized rate was 2.8 percent, and over the 12-month period, the inflation rate was 3 percent.
The year-on-year inflation rate, before rounding, is 2.97563%, the lowest since May 2021’s 2.61863%, but only slightly below the 3.05326% recorded exactly one year ago. Inflation has been this low before, but it has started to rise again.Two months after the June 2023 low, it rose again to 3.7%.
Core Exercises
Core inflation, which excludes food and energy prices, rose modestly by 0.1%. The main factors behind the slowdown in core inflation were: Long-awaited house price deflationThat was the slowest rate of increase in the Biden inflation era. When calculating what’s called “core core services inflation,” which excludes shelter, prices rose 0.9%. The three-month annualized core core inflation rate was 2%, the six-month rate was 4.8%, and the 12-month rate was 4.9%.
we, Cleveland Fed median inflation rate and 16% trimmed mean Checking for signs of underlying inflation, the one-month median CPI rose 0.2%, unchanged from the previous month. The 16% trimmed average also rose 0.2%, accelerating from the previous month’s 0.1%. On a year-on-year basis, the median CPI rose 4.2%, down slightly from May’s 4.3%, and the trimmed average rose 3.3%, down slightly from May’s 3.4%.
These numbers are Disinflation was widespread This does not support the view that inflation was overcome in June or the expectation that prices will continue to fall. The median CPI rose at an annualized rate of 3%, the lowest since 2.5% in June of last year. This is a reminder that inflation has fallen this much before, only to rise again. Accelerate again.
Considering the history of inflationary developments and setbacks, The Fed is likely to take a cautious stanceThe Fed was caught off guard last year by the resurgence of inflation, which in the final months of last year largely ignored signs of a spike in inflation that became undeniable in the first quarter of this year, forcing the Fed to threaten to cut interest rates and then reverse the cuts.
Federal Reserve Chairman Jerome Powell answers questions after the FOMC meeting on June 12, 2024. (Federal Reserve Board via Flickr)
The Fed is eager to avoid another inflation mistake, so it will probably take several more months of progress before the central bank cuts interest rates. Cuts in September are nearly impossibleThat’s because the Fed only has two more CPI reports before its September 18 meeting.
The Fed can see how the market reacts to expectations of a rate cut. The stock market is at an all-time highHome prices are rising as well. This has made monetary conditions very easy and inflation could spike again. In fact, lowering interest rates would likely cause asset prices to spike, almost certainly causing inflation to spike again.
We are not the only ones sensing the irrational enthusiasm for interest rate cuts. Joe LaVorgnaThe former top economist in the Trump administration and now chief economist at SMBC Nikko Securities sent a memo to clients on Thursday warning them that expectations for a rate cut in September were overdone.
“Unless the next few employment and inflation reports continue to disappoint expectations, investors may be overly optimistic about the prospects for a rate cut in the near term. Monetary policymakers, surprised by the prior inflation non-transitory nature and then by inflation’s recovery in the first half of the year, risk being swayed by the data. After all, ultra-loose monetary conditions are stimulating aggregate demand, in part due to expectations of a rate cut. Chairman Powell understands this. Thus, barring further data softening, market participants may need to adjust their rate cut probabilities accordingly,” Lavorgna wrote.
September cuts will be politically ugly
and again Political problems for the Fed from a September rate cutJerome Powell, like his predecessors, claims to be apolitical, but appears to have a deep interest in maintaining the Fed’s institutional integrity and independence. Cutting interest rates on the eve of the election would inevitably be seen as a partisan political gift to incumbent Joe Biden and would draw a backlash from Republicans.
“As I have said repeatedly, our commitment to the Federal Reserve’s independence is vital, especially in a politically charged year like this one. Chairman Powell, as with previous administrations, we must not allow politics to cloud the Federal Reserve’s monetary policy.” House Financial Services Chairman Patrick McHenry Sen. (R-North Carolina) made the remarks on Wednesday that Chairman Powell no doubt took as a subtle warning against cutting rates.
“Everybody wants interest rates to go down.” Congressman Andy Barr (Republican, Kentucky) “But a September rate cut is not going to be seen as apolitical.” Senator Kevin Cramer (R-N.C.) offered a similar warning to Powell during a Senate hearing on Tuesday.
Steve Pavlik“We expect President Trump and Republicans in Congress to seek retaliation” if the Fed cuts rates in September, the former Trump administration Treasury Department official, now director of policy research at Renaissance Macro Research, wrote in a client note on Thursday.
Pavlik noted that Congress has little influence over the Fed’s budget and that the president only has the power to fire Powell “for cause.” Congress could make it harder for the Fed to operate by dragging officials into hearings..
Another possibility Pavlik doesn’t mention is that if Republicans win a landslide victory in November, Legislative Changes to the Mission of the Federal Reserve System Republicans seeking to limit the Fed’s discretionary power in interest rate policy have previously called for legislation requiring the Fed to adopt strict rules for interest rate policy, perhaps a version of the Taylor rule. Many central banks around the world have The Fed’s single mission, not a dual one, to control inflationThis actually gives the Fed a lot of discretion over monetary policy.
But what’s more interesting is that Powell could decide to cut rates in September in a move of political rebellion.And if Trump wins anyway, he will resign in protest.
“As a result, a rate hike could be Chairman Powell’s final song in September as he may decide it is better to step down than to stay on and face the wrath of President Trump and Republicans in Congress. The prospect of Powell stepping down could create uncertainty that could roil markets,” Pavlick wrote.
That may be the case, but there is nothing in Powell’s record to suggest he wants to become a political martyr. We suspect he will take the path of least resistance. Rate cuts can just wait until the November or December meeting..
