The Federal Reserve officials are calling the path to their 2% inflation target “bumpy” as they have come across inflation readings that are hotter than expected. The road to target inflation might get even bumpier as the Fed’s preferred inflation measure is set to come out on Thursday morning.
The Fed’s Preferred Inflation Measure
Economists predict that the Fed’s preferred inflation measure, the “core” Personal Consumption Expenditures (PCE) index, will reach 2.8% year-over-year for January, excluding volatile food and energy prices.
It is slightly below December’s 2.9% year-over-year rise however, economists are expecting a month-over-month increase of 0.4%, higher than December’s 0.2%.
According to Bank of America, this might raise concerns that inflation is not declining fast but it could also push the six-month and three-month annualized inflation figures back above the 2% target of the Federal Reserve.
Investors are watching the new PCE reading closely to understand how soon the central bank might start easing its monetary policy after trying hard to reduce inflation, which has been the most aggressive effort since the 1980s.
At the beginning of the year, markets had discussed the possibility of six rate cuts from March however, this has changed to three expected rate cuts from June onwards due to the remarks from Jerome Powell, Chair of Federal Reserve, and other officials, along with inflation figures that have gone over the expectations.
The January Consumer Price Index (CPI) and Producer Price Index (PPI) were both much higher than what was predicted by the economists.
Moreover, according to Wilmer Stith, Bond Portfolio Manager at Wilmington Trust, there is a connection between PPI and PCE, the Fed’s preferred inflation measure. Due to this correlation, there is a chance that PCE might also be higher when it’s released on Thursday.
According to Stith, if the PCE number turns out to be high and the US job numbers keep exceeding expectations, the Fed might choose to keep interest rates higher for a longer period.
He added that he does not think the Federal Reserve will raise rates, however, they might adjust it a bit to two cuts instead of three.
Last week, several Fed officials referred to the recent inflation data and suggested that the journey to the 2% target could be “bumpy.” Philip Jefferson Vice Chair of Federal Reserve and Michael Barr Vice Chair for Supervision both used this term to describe the journey ahead.
Chris Waller, Governor of the Federal Reserve recently talked about the fact that January data might be not just a small pothole but something that everybody needs to be on the lookout for.
He added that he needed to see a few more months of inflation data before he could conclude whether the high January inflation reading was just a minor setback or a major issue.
He still thinks that the rate cuts will happen at some point this year but believes that the committee can take a bit longer time to come to a decision. Even other Fed officials have shown concerns about the possible rate cuts as the release of the Fed’s preferred inflation measure coming closer.
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