The Federal Reserve’s preferred measure of inflation continues to show signs of cooling, accompanied by moderate growth in consumer spending – positive news for central bankers aiming to control rising prices and curb demand.
In May, the personal consumption expenditures (PCE) index rose 2.6% from a year earlier, meeting economists’ expectations and down slightly from April’s 2.7% increase. Excluding the more volatile food and fuel prices, core inflation also rose 2.6% year-over-year, down from April’s 2.8%. On a monthly basis, inflation remained remarkably subdued, with overall prices not showing any significant increases.
The Federal Reserve is likely to scrutinize this new inflation data as it considers its next policy moves. Since 2022, the Fed has aggressively raised interest rates to suppress consumer and business demand, which may help slow price increases. However, since July 2023, borrowing costs have remained stable at 5.3% as inflation has gradually eased. The Fed is now deliberating the timing of any interest rate cuts.
While officials initially planned to implement several rate cuts in 2024, those plans were delayed due to persistent inflation at the start of the year. Policymakers still expect one or two rate cuts before the end of the year, with investors speculating that the first cut could come in September. However, this decision will depend on upcoming economic data, including inflation and labor market metrics.
While inflation remains above the Fed’s annual target of 2%, it has slowed significantly from its 2022 peak, when headline PCE inflation hit 7.1%. The related measure, the consumer price index (CPI), peaked even higher at 9.1% and has since fallen substantially.
Fed officials have indicated that rate cuts will begin once they are confident that inflation is under control or if the job market weakens unexpectedly. While policymakers generally expect inflation to slow in the coming months, some express concerns about potential stagnation.
“Much of last year’s gains in inflation were driven by supply-side improvements, including loosening supply-chain constraints, increased labor availability partly driven by immigration, and lower energy prices,” Fed Governor Michelle Bowman said in a speech this week. She warned that these factors could be less supportive going forward.
By contrast, other officials worry that a broader economic slowdown could soon impact the job market, fearing that keeping interest rates high for too long could overly moderate growth and hurt American workers.
Hiring has remained robust, and while wage growth is cooling, it remains strong. However, some indicators suggest a weakening of working conditions: job vacancies have fallen sharply, the unemployment rate has increased and jobless claims have increased slightly.
“The labor market has been slow to adjust, and the unemployment rate has increased only slightly,” noted Mary C. Daly, President of the Federal Reserve Bank of San Francisco, in a recent speech. “But we are approaching a point where this benign outcome may be less likely.”
The report released Friday found that consumer spending remained moderate in May, further evidence that the economy is losing momentum.