The Fed remains on hold amid modest inflation gains and political noise around Chair Powell.
Fed on hold for now, but not for much longer
The June CPI data was the week’s main macro data event, but it was overshadowed by speculation around the search for the next Fed Chair. Media reports that President Trump may imminently fire Fed Chair Powell caused a brief dip in equity prices and a surge in gold prices before the President Trump said he has no such plans. Amid various waves of speculation on this topic our view has not changed: given the timeline involved (Chair Powell’s term as Fed chair ends next May), there is very little to be gained by his early removal. Even as we argue on economic grounds that the Fed should cut interest rates, we see aggressive calls to such effect from outside the Fed as counterproductive. The more the FOMC is openly pressured to cut, the more the perception is being created that if they do eventually cut, it would be because of such pressure, not because the data actually warrants it. Even the perception of a loss of the Fed’s independence is a loss, so in order to avoid it, the FOMC may in fact choose to delay any cuts beyond what otherwise they might prefer. Better to let the data flow alone drive the decision. To us, the conclusion is pretty clear: it is time to calibrate the policy rate lower.
The CPI data was largely as expected. Overall consumer prices rose 0.3% m/m and core prices rose 0.2%. The headline inflation rate accelerated three tenths to 2.7% y/y and the core rate rose a tenth to 2.9% y/y. The evidence for tariff pass through remains, if not outright scant, at least very limited. Perhaps the best evidence was a notable rise in appliance costs. On the other hand, vehicle prices (both new and used) declined again; for the latter, this is a little surprising given the recent firming of auction prices, but the pass through may be delayed. We do expect used car prices to tick higher. On the other hand, as we’ve been stressing for some time, shelter price inflation continues to moderate. Rent of shelter costs increased 0.18% m/m, the least since February 2021 and rent of shelter inflation decelerated another tenth to 3.8% y/y, the lowest since October 2021.
Another piece of inflation good news came from the University of Michigan consumer sentiment survey. 1-year inflation expectations—which surged from 3.3% in January to 6.6% in May—retreated to 4.4%. Long term inflation expectations eased four tenths to 3.6%, both being the softest readings since February.
The next month will be crucial for trade policy; we anticipate multiple trade deals to be concluded over the next few weeks, resulting in much more clarity on tariff levels going forward. Unless tariff rates are set up well above 25%, the Fed should feel confident by September that a 25 bp rate cut is warranted.