The latest figures from the Personal Consumption Expenditures (PCE) price index, the Federal Reserve's preferred measure of inflation, indicate that consumers paid 2.2% more for goods and services in the year ending in August, down from 2.5% in July. This marks the lowest inflation rate since February 2021, when it stood at 1.9%, and brings the Fed closer to its 2% inflation target.
The annual increase was below the 2.3% rate projected by economists, according to FactSet consensus estimates. On a monthly basis, prices rose by 0.1% in August, matching estimates and showing a deceleration from the 0.2% increase in July.
However, "core" inflation, which excludes volatile food and energy prices, rose to an annual pace of 2.7% in August from 2.6% in July. This was in line with economists' expectations. On a monthly basis, core inflation inched up by 0.1% in August, down from 0.2% in July, again matching forecasts.
President Joe Biden hailed the report as a victory for the economy, noting that inflation is returning to pre-pandemic levels. "We have more work to do to lower costs and create opportunities for Americans," Biden said in a statement.
The recent progress in inflation and cooling labor market conditions prompted the Federal Reserve to cut interest rates by an unusually large half-point earlier this month, rather than the more traditional quarter-point move. The latest inflation report suggests that another significant rate cut could be on the horizon, potentially easing borrowing costs for Americans.
Despite the positive news, not all Fed officials are convinced. Fed Governor Michelle Bowman, who was the sole dissenter in the recent rate cut decision, expressed concerns that a larger cut could "unnecessarily" stoke demand and fuel higher prices. "We have not yet achieved our inflation goal," she said in a statement last week.
While Bowman may view the latest inflation report as a positive sign, it may not be enough to sway her vote for another half-point cut at the Fed's November meeting. However, other officials might see it as a green light to continue front-loading rate cuts without worrying as much about inflation.
Fed Governor Christopher Waller, in a CNBC interview last week, cited the Producer Price Index (PPI) data from August as a key factor in his vote for the larger cut. The PPI report showed that wholesale prices slowed significantly in August, with an annual increase of 1.7%, down from 2.1% the previous month. Wholesale pricing data is often seen as a precursor to consumer prices, suggesting that inflationary pressures may continue to ease in the coming months.
The latest inflation report also highlights a shift in consumer behavior. Despite facing the highest interest rates in over 20 years, American consumers are becoming more discerning in their spending. Inflation-adjusted spending rose by just 0.1% in August, with spending on goods remaining flat and services spending up by 0.2%.
However, the labor market is showing symbols of weakening, with employers scaling back hiring and the unemployment rate rising significantly over the past year. This has led to more modest wage gains, putting consumers in a cautious stance, according to Kathy Bostjancic, chief economist at Nationwide.
On a positive note, the report revealed that consumers have more savings than previously thought. The Commerce Department revised its data, indicating that consumers saved about 5% of their disposable income in recent months, up from the previously reported 3%. While this is still below the pre-pandemic personal saving rate of around 7%, it suggests that households may have more financial resilience than initially believed.
Wells Fargo economists noted in a client memo that this increased savings rate indicates that households "may have a bit more gas in the tank to support consumption." However, this may not significantly impact the Fed's decision-making process regarding rate cuts. Upcoming job reports are likely to carry the most weight in determining whether the Fed will cut rates again in November and by how much, according to Bostjancic.
One concern among Fed officials is that steeper rate cuts could incentivize spending that consumers are currently deferring, which is helping to keep inflation in check. However, Bostjancic believes that even if the Fed were to lower rates by another half-point in November, they would still be high enough to prevent consumers from going on major spending sprees.
