Investors have worried for months about whether the Federal Reserve’s attempts to curb inflation would lead to a soft landing. Recent data suggest such a possibility could happen.
By Nick Brummell, Courthouse News Service, July 14, 2023
MANHATTAN (CN) — Markets rallied this week as several pricing reports show inflation is dropping faster than expected, wages are continuing to rise and the Federal Reserve likely will keep interest rates under 5.5%.
Equities progressively added gains throughout the week, and by the closing bell on Friday the all three indices had added significantly: the Dow Jones Industrial Average by 776 points, the S&P 500 by 107 points and the Nasdaq by 453 points.
Investors were encouraged by the monthly release of several inflation reports indicating both that the Federal Reserve will soon back off its interest rate hikes and that a recession may not be inevitable after all.
“The expectation is that soon the Fed’s tightening cycle will end, perhaps with a soft landing after all,” James Meyer at Tower Bridge Advisors wrote. “While a mild recession could happen over the coming several months, at the month the fear of missing out is trumping any fundamental concerns.”
On Wednesday, the Bureau of Labor Statistics released its monthly consumer price index, which came in cooler than expected with just a 0.2% increase in prices last month, just under the 0.3% median forecast. Annualized, the index is up 3% from a year ago, the lowest yearly gain since March 2021, and the 0.2% gain in core inflation is the smallest monthly gain since August 2021.
Most items on the index rose only modestly: Among the leading price upticks, energy saw a 0.6% increase in June, mostly due to the 1% gain in gasoline prices. Some subcategories actually dropped in price. Piped gas service prices fell by 1.7%, while used cars and truck prices declined 0.5%.
The following day, the agency’s producer price index — which is the measure by which good prices increase among companies — saw a similar slowdown, increasing by just 0.1% last month. Just as good was that the previous month’s PPI report was revised downward by a further 0.1%.
Compared with a year ago, PPI is now 2.6% lower than in June 2022, and experts believe now that core inflation will improve in the second half of this year as prices of cars and other durable goods continue to fall.
The muted rise inflation was matched by the positive trend in wages, which have outpaced inflation over much of the last year, according to the BLS. Hourly wages among private-sector employees has gained 0.6% since June 2022.
Even with the good news on inflation, though, experts believe the Federal reserve will hike rates at its next meeting by 25 basis points. “The rate hike for this month is likely a foregone conclusion and [the CPI] won’t change that,” said Chris Zaccarelli, chief investment officer at the Independent Advisor Alliance. On the flip side, he added, “this report adds a lot more weight to the doves’ arguments, who are going to push for another pause in September and potentially an end to rate hikes for the year.”
Others caution that, while the Fed likely will hike rates once more, they are not likely to cut them any time soon. “After July the Fed is done with the hikes … but that doesn’t mean the tightening is over because keeping inflation law is the next job after lowering it,” wrote Peter Boockvar, chief investment officer at Bleakley Advisory Group.
The Fed meets again on July 26. Following the central bank’s last pause, the federal funds interest rate is at 5% to 5.25%.
Small businesses are feeling better now that inflation is dropping, too, but they are still overall pessimistic about the U.S. economy. The National Federation of Independent Business’ optimism index released earlier this week rose to 91 points in June from 89.4 in May, the highest point for the index since last November.
The index still sits below the 49-year average of 98 points, however, as it has done for 18 straight months. “Halfway through the year, small business owners remain very pessimistic about future business conditions and their sales prospects,” NFIB chief economist Bill Dunkelberg said in a statement. “Inflation and labor shortages continue to be great challenges for small businesses.”
Conversely, consumers showed a huge jump in confidence, according to the preliminary results from the University of Michigan’s index. The index, which increased from 64.4 to 72.6, is now at a two-year high point, though it is still fairly low historically.
The gain in the index, which isn’t finalized until the end of the month, was higher than most expected and suggests a soft landing may indeed be possible. “Given the surprising resilience of the economy — due to the resilient consumer — it seems that the aggressive rate hiking cycle isn’t going to cause an imminent recession,” Zaccarelli said.