A key inflation measure cooled in December
An inflation measure closely watched by the Federal Reserve continued to cool in December, the latest sign that price increases are coming back under control even as growth remains solid and the labor market healthy. The particularly positive news was that an important indicator of price increases fell below 3 percent for the first time since the beginning of 2021.
The price index for personal consumption expenditures rose 2.6 percent last month compared to a year earlier. That was in line with what economists had forecast and consistent with November's figures.
But after taking out food and fuel costs, which can fluctuate from month to month, the 'core' price index rose 2.9 percent from December 2022. That followed a figure of 3.2 percent in November and was the coolest since March 2021.
Fed officials are targeting price increases of 2 percent, so today's inflation remains high. Yet it is much lower than it about 7 percent peak in 2022. In their latest economic projections, central bankers predicted inflation would rise cool to 2.4 percent at the end of the year.
As inflation returns to target, policymakers have been able to reverse their campaign to slow the economy. Fed officials have raised rates to a range of 5.25 to 5.5 percent, a sharp increase from near zero at the start of 2022. But they have kept borrowing costs at that level since July — refraining from a definitive interest rate increase that they had previously predicted. – and have indicated that they could cut rates several times this year.
Officials are trying to complete the process of gently lowering the economy, without causing serious economic pain, in what is often called a “soft landing.”
“The point here is that the numbers are still consistent with a relatively soft landing, at least for now,” said Gennadiy Goldberg, head of U.S. rates strategy at TD Securities. Between strong growth and milder inflation, “they get the best of both worlds.”
Now investors are keeping a close eye on when and to what extent policymakers will reduce borrowing costs.
Fed officials are walking a delicate line as they decide what to do next. If interest rates are kept too high for too long, there is a risk that the economy will cool down more than is strictly necessary. But if they are cut prematurely, the economy could heat up again, making it harder to fully control inflation.
Fed policymakers meet next week and officials are expected to leave rates unchanged when that meeting ends on Jan. 31. Still, markets will be closely watching a news conference with Fed Chairman Jerome H. Powell for any hint at what might happen. next one.
Mr. Powell may be able to offer insight into the Fed's thinking about the trade-off between growth and inflation. The economy is still growing at a strong pace and unemployment is very low, which, according to many economic models, could lead to inflation picking up again.
Friday's report showed that consumption rose more in December than economists expected, especially after adjusting for low inflation.
But so far, despite the momentum, price increases have continued to moderate. This has happened as the labor market has returned to equilibrium, supply chain issues related to the pandemic are receding and rent increases are falling to more normal levels.
Given that in recent months, officials have focused more on actual price figures while talking about policy prospects. But they still take growth into account when they think about policy.
Rapid growth is “only a problem to the extent that it makes it harder for us to achieve our goals,” Powell said in December. “It will probably put some upward pressure on inflation. That could mean it will take longer to reach 2 percent inflation. That could mean that we have to keep interest rates high for longer.”