Instant Insights: Easing core CPI makes rate hikes less likely | Insight Investment

Consumer prices rose 0.1% in July, taking headline CPI from 3.5% to 3.4% year-over-year. Core prices rose 0.2%, taking core CPI from 2.6% to 2.5%, equaling the lowest since 2021.

On a 3-month annualized basis, headline CPI was 0.5% and core CPI was 1.6%. We believe the Fed will find this positive momentum encouraging, making rate hikes less likely over the coming months.

Energy prices ease, and show limited second-round impacts on core CPI

Energy prices fell 1.5% in July, driven by a 2.9% fall in gasoline prices. Food prices rose 0.1%, with grocery prices falling 0.1% while “food away from home” (such as restaurants) rose 0.3%.

Figure 1: Core services and energy prices eased on average in July¹

Core services continued to indicate gradual disinflation trends (Figure 2).

Shelter, the largest component of CPI, slowed from 3.3% to 3.2% year-over-year. “Supercore” CPI (which excludes food, energy, and housing services) slowed from 3.7% to 3.2% year-over-year. Elsewhere, “lodging away from home” (such as hotels) fell 2.8% in July, despite demand relating to the FIFA World Cup.

Transportation services slowed from 3.4% to 2.9% year-over-year. This was partly driven by a 0.3% fall in auto insurance costs in July, although airline fares rose 2.2%.

Figure 2: Most categories indicated disinflationary trends²

Core goods price trends remain benign

Core goods prices rose 0.2% in July but were flat on a 3-month annualized basis. Tariff-sensitive goods prices were also flat on a 3-month annualized basis. Medical care goods prices notably fell -0.6%, largely driven by prescription drug prices.

While overall trends in goods prices looked benign, used car prices rose 0.4% in July while computers, peripherals, and smart home assistants rose 3.5%, the latter potentially indicating some pressures from memory chip shortages.

Continued disruption relating to the Iran war should also not be ruled out. The regional Federal Reserve banks’ surveys indicate most manufacturers may still be experiencing rising input-cost pressures from energy prices and supply-chain disruptions (Figure 3).

Figure 3: The Iran war has disrupted supply chains, indicating some goods pricing pressures may remain for now³

Conclusion: Slower core CPI raises the hurdle for rate hikes

Overall, we believe this was an encouraging report for the Fed.

With core CPI moving in the right direction, falling below 2% on a 3-month annualized basis and showing only limited evidence of second-round effects from the energy shock, we believe the market may be overly concerned about rate hikes in the coming months.

Further, with long-dated market inflation expectations still well-anchored, we expect the Federal Reserve will likely follow its established playbook of “looking through” the elevated energy prices by keeping rates on hold.