US CPI Data: Will July inflation numbers put the US Fed in a tight spot?

Investors globally are looking forward to the latest US inflation numbers to be released today. The release of the July 2024 CPI data is scheduled for August 14, 2024, at 8:30 A.M. Eastern Time. While other key economic indicators also hold importance, US CPI numbers especially the core-inflation figures are keenly tracked even by the Fed officials.

The big consensus among most market experts is that inflation has remained unchanged at 3% in July as was witnessed in June 2024. Some even expect the US CPI headline inflation for July to come in at 2.9%.

The likelihood that the US Fed will lower interest rates in September is largely dependent on the US CPI data for July and August. Markets are pricing in roughly 50-50 odds of a half-point Fed rate cut at the September 18 FOMC meeting. Further, markets are pricing 72% odds of a full point in rate cuts by the end of the year.

A quick look at the previous month’s inflation data shows a declining trend. The US annual inflation rate fell to 3% in June 2024, the lowest since June 2023. Also, contrary to predictions of a 0.1% increase, the CPI in June unexpectedly decreased by 0.1% from the previous month after remaining steady in May.

For July, most economists predict the overall consumer price index and the core CPI, excluding food and energy, to rise by 0.2% monthly and the 12-month CPI inflation rate unchanged at 3%, while core inflation falling to 3.2%, the lowest level since April 2021.

However, projections for monthly price increases range widely, from 0.1% to 0.3% for the core CPI, leaving room for both an upside and downside surprises. Samer Hasn, Senior Market Analyst at XS.com says, “As markets await the Consumer Price Index (CPI) for July, with annual inflation expected to hold steady at 3% and prices set to return to growth every month. We also await producer price, retail sales, housing market data, inflation expectations and consumer confidence surveys.

What to watch out for with new data is the unexpected market reaction. For instance, if inflation unexpectedly slows sharply, it could boost hopes for a broad-based rate cut this year. However, a negative surprise could raise further concerns about the health of the U.S. economy – much like the shock from the July nonfarm payrolls numbers.”

Concerns over a potential US recession are also rising. A fresh sign of an economic downturn is emerging, indicating a 40% chance that the US is currently experiencing a recession.

Pascal Michaillat and Emmanuel Saez have introduced a new recession indicator, building on the Sahm rule. The rule, named after economist Claudia Sahm, measures the difference between the three-month moving average of unemployment and the past 12-month low. If this difference is at least 0.5 percentage points, the US is in a recession. The regulation was activated earlier this month following the July employment report, which indicated a 4.3% rise in unemployment (although Sahm mentioned she believes the US is not currently experiencing a recession).

The stock market is bracing for another tumultuous week, fueled by crucial data releases that might throw more light on the condition of the US economy and even cause market volatility. Also, potential shocks from the Middle East, where increasing conflict threatens to spin out of control, may have an impact on market stability in the coming days.

Should the July Consumer Price Index, which includes the core inflation figures, stay high and the US jobless rate continue to increase, the US Federal Reserve will find itself in a difficult position to lower interest rates by September. Conversely, if this doesn’t happen, anticipate a market surge due to increased volatility as the November elections approach.

Dilin Wu Research Strategist at Pepperstone says, “Wednesday’s July US CPI and Thursday’s retail sales figures will be pivotal. I think if inflation comes in lower than expected, say below 0.2%, and retail sales exceed forecasts, a 25bp cut at the next Fed meeting becomes more plausible. This could encourage traders to embrace risk assets more freely under relatively stable market conditions.

At the previous FOMC meeting, Jerome Powell expressed increasing confidence that inflation is on a sustainable path to 2%, implying that the Fed can begin to think more about its second aim, maximum US employment.

The ensuing dismal jobs data, which showed unemployment at 4.3%, has fueled speculation that the Fed is behind the curve and has to drop interest rates more aggressively if it is to avoid a recession and accomplish its goal of a soft landing. According to market expectations, the Fed will decrease rates by 100 basis points this year and reach a “neutral” level of 3-3.25% by mid-2025.