Quick Hit:

U.S. inflation showed moderate increases in June, raising expectations for a potential interest rate cut by the Federal Reserve in September.

Key Details:

• U.S. prices increased moderately in June due to declining goods costs, despite rising service costs.
• The personal consumption expenditures (PCE) price index rose 0.1% in June after being unchanged in May.
• Financial markets anticipate three rate cuts this year, starting in September, due to easing inflation and labor market conditions.

Diving Deeper:

U.S. inflation increased moderately in June, fueled by declining goods costs despite a rise in service costs, according to a report from the Commerce Department. This improvement in inflation dynamics has bolstered expectations for the Federal Reserve to potentially cut interest rates in September.

The Commerce Department's report, released on Friday, highlighted a slowdown in consumer spending last month. Easing price pressures and a cooling labor market have increased confidence among Fed officials that inflation is moving towards the central bank's 2% target. The Federal Reserve is scheduled to hold its next policy meeting on July 30-31.

The personal consumption expenditures (PCE) price index, a measure closely watched by the Fed for monetary policy, nudged up 0.1% last month after remaining unchanged in May. Goods prices dropped 0.2% after a 0.4% decline in May, while motor vehicle and parts prices fell by 0.6%. Additionally, furnishings and durable household equipment prices decreased for the third consecutive month, though other long-lasting manufactured goods saw a 1.8% rebound.

Prices for gasoline and other energy goods fell by 3.5% after a 3.4% decline in May, and clothing and footwear prices were cheaper for the second straight month. However, the cost of services rose by 0.2%, matching May's gain. Housing and utilities costs saw their smallest increase since March 2023, advancing 0.2% after a 0.4% rise in May.

In the 12 months through June, the PCE price index climbed 2.5%, marking the smallest year-on-year gain in four months. Excluding volatile food and energy components, the core PCE price index rose 0.2% last month, with a 2.6% year-on-year increase matching May's rise.

The Federal Reserve has maintained its benchmark overnight interest rate in the 5.25%-5.50% range since last July, following a series of aggressive rate hikes amounting to 525 basis points since 2022. With subsiding inflation and easing labor market conditions, financial markets now anticipate three rate cuts this year, beginning in September.

Consumer spending, which accounts for more than two-thirds of U.S. economic activity, increased by 0.3% last month following an upwardly revised 0.4% gain in May. Spending in May was initially reported to have risen by 0.2%, with April's data also revised higher. Last month's spending was driven by a 0.4% rise in services, reflecting increases in housing and utilities, financial services, insurance, healthcare, and international travel.

While income growth has cooled, consumer spending remains moderate. Personal income rose by 0.2% last month after a 0.4% increase in May, with disposable household income adjusted for inflation and taxes rising by 0.1% after a 0.3% rebound in May.

Bank of America Securities economists estimated that excess savings accumulated during the COVID-19 pandemic amounted to around $400 billion and projected they would last through year-end at the current pace of rundown.

Stocks on Wall Street were trading higher, U.S. Treasury yields fell, and the dollar weakened slightly against a basket of currencies, reflecting the market's reaction to the inflation data and its implications for future Fed policy.