August PCE data cools inflation fears, delaying expected Fed rate hike

Key points

• The Commerce Department reported August headline PCE inflation rose 3.4% annually, missing the 3.7% forecast.
• Core PCE inflation, excluding food and energy, increased 3.0% annually, below the 3.3% estimate.
• Monthly core PCE rose 0.2%, while headline prices climbed 0.3%, both exceeding July's 0.1% monthly gain.
• Second-quarter GDP growth was revised up to 2.2% from 1.5%, driven by consumer and government spending.
• Markets reacted by lowering the probability of an October Fed rate hike, shifting expectations to December.

Background

This data release follows a period of significant bond market volatility. In late September, the 10-year Treasury yield reached 5.11%, its highest since 2007, driven by hawkish Fed expectations and strong business activity. Earlier in August, rising yields and oil prices above $90 had pressured equities. The recent stabilization of yields and falling oil prices created mixed market sentiment, setting the stage for this inflation report to influence monetary policy expectations.

How outlets are covering it

CNBC emphasized that while the PCE data was lighter than expected, it remains 'old data' that does not reflect recent diesel price surges. They noted that inflation is still well above the Fed's 2% target, keeping the possibility of a December hike alive. Politico framed the cooler inflation as a political reprieve for President Trump and Republicans, reducing the pressure for an immediate rate hike before the midterm elections. ABC News highlighted that while inflation cooled, it remains a challenge for voters, with prices still running hot and the Fed having already hiked rates in September. All sources agreed that the data reduced the immediate urgency for further tightening but did not eliminate the risk of future hikes.

Why it matters

The PCE index is the Federal Reserve's preferred inflation gauge. A lower-than-expected reading suggests that the Fed may have more time to assess the economy before raising rates again, potentially easing pressure on borrowers and businesses. However, the upward revision in GDP indicates a robust economy, which could sustain inflationary pressures. This balance between cooling inflation and strong growth complicates the Fed's decision-making process and influences market expectations for future monetary policy.

What to watch

Investors will closely watch the Federal Reserve's October meeting, where policymakers are now expected to hold rates steady. The next PCE report for September will be crucial in determining whether the cooling trend continues or if recent energy price increases reverse the downward momentum. Additionally, the Fed's December meeting remains a likely candidate for the next rate hike if inflation persists.