Rapid Response - US Inflation Data allows for a Fed Cut next week

US CPI remains some distance above the Fed's target. However, future inflation risks are likely overstated in the short term. Shelter prices are likely to fall and the weakening labour market is becoming a significant concern. The Fed is likely to cut by -0.25% next week, but should arguably do more. 

• The American Consumer Price Index increased by +0.4% on a seasonally adjusted basis in August, after rising +0.2% in July, the U.S. Bureau of Labor Statistics reported today. The median forecast was for a +0.3% increase.

• The index for shelter rose +0.4% in August and was the largest factor in the monthly increase. The food index also increased +0.5% over the month, while energy prices rose +0.7% as the index for gasoline increased by +1.9%.

• Over the last 12 months, the headline CPI index increased by +2.9%, in line with expectations.

• Core CPI (ex-food and energy) index rose by +0.3% in August, in line with estimates.

• Core prices increased by +3.1% over the last 12 months, the same as August and also in line with estimates as the energy index increased by just +0.2% while the food index increased by +3.2% over the last year. 

• Items that increased over the month include airline fares (+5.9%), used cars and trucks (+1.0%), apparel (+0.5%), and new vehicles (+0.3%).

• The indexes for medical care (-0.1%), recreation (-0.1%), and communication (-0.1%) were among the few major indexes that decreased in August.

• The Fed's "supercore" consumer price measure of core services less housing rose by +0.3% during the month and +3.2% yoy.

• Wednesday's producer prices (PPI) fell during August (-0.1%) and came in below expectations at +2.6% yoy, decelerating from +3.1% in July (revised from +3.3%). 

• Core PPI ex-food and energy (-0.1%) also slowed to +2.8% yoy, down from +3.4% in July (revised from +3.7%).

• The NY Fed's measure of inflation expectations rose from +3.1% to +3.2% in August.

• On Tuesday, the annual labour revisions stemming from QCEW census report showed that -911k fewer jobs were added to the economy in the year ending March 2025, implying that nonfarm payroll gains averaged about +71k per month, instead of +147k.

• S&P500 6,587 +0.9%, Nasdaq Comp. 22,043 +1.4%, S&P/ASX200 future 8,843 +0.4%,

• US 2yr 3.54%  -1bp, US 10yr 4.03% -2bps

• US dollar (DXY) index 97.54 -0.24%, AUDUSD 0.6663 +0.8%, Gold US$/oz 3,633 -0.2%

Fin-X View

• The Fed is now confronted with a substantial body of evidence suggesting that the economy is weakening. The question is to what extent the inflation data presents a barrier to rate cuts to support the second objective of monetary policy, full employment.

• Fed Chair Jerome Powell talked of the "low hiring environment" earlier this year, but was generally satisfied with the apparent strength of the labour market. At Jackson Hole, he indicated that it might be time to set policy as "less restrictive", although opinions are still divided among FOMC members.

• Since then, the August labour report indicated much lower hiring of +22k and a -13k contraction in the revised June figures.

• Even though it is also likely to be revised, the QCEW adjustment presents a sobering picture, showing that the labour market was already substantially weaker in 2024. The unemployment rate has only been prevented from rising significantly by the falling participation rate, which in itself suggests cyclical weakness. 

• A quarter-point cut to 4.00%-4.25% is now all but certain next Wednesday and fully priced in, along with a 20% chance of a -50bp cut.

• The market is still expressing a view that there is a risk that the Fed, soon to be under new leadership, eases too much and stokes inflation. That is visible in high longer-dated yields and a rising gold price. But Jerome Powell will not want to blow up his reputation in the last few months of his term by letting inflation rise again. The inflation risks seem overstated in the short term.

• We anticipate that the job market will continue to weaken and that falling shelter prices will offset tariff effects so that inflation rates eventually move closer to target. It would likely take more aggressive policy moves to push inflation back up again.

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