July's CPI data completed four consecutive months of declining records for U.S. inflation. A monthly change of 0.2% brought twelve-month inflation to 2.9%. This turned out to be the lowest reading since March 2021 and the first below 3% after 39 months.

The underlying CPI -which excludes food and energy- registered an increase of 0.2% and stood at 3.2% year-over-year, in line with expectations .

The largest contribution to the rise in prices in July came from the 0.4% increase in the cost of housing, which accounts for more than one-third of the overall CPI and is the item that has most influenced the slow decline in inflation. This is due to the fact that the Bureau of Labor Statistics - BLS of housing-related prices is a very delayed and uneven process. However, in recent months, the housing index is starting to better reflect the decline in rental prices, so it should be a matter of time before we see lower rental price pressures.

On an annual basis, the housing index stood at 5.1% in July and has been slowly declining, after peaking at 8.2% in March 2023.

Excluding housing, the CPI rose 1.7% year-on-year. Food prices registered a modest rise of 0.2%, while energy remained stable after having exerted upward pressures in May and June.

Thus, although inflation seems to be persistent in some items of the basket, there are others, such as clothing, new and used cars, medical services and transportation services, which have begun to show a rather deflationary behavior.

While the CPI is the generally known inflation indicator, in reality the personal consumption expenditures price index - PCE - is the one preferred by the Federal Reserve in order to achieve its inflation target. The last known PCE figure fell to 2.5% in June, while core PCE fell to 2.6%, below the FOMC's projection of 2.8% for 2024 in its latest economic projections.

In addition, the producer price index (PPI) fell from 2.7% year-on-year in June to 2.2% year-on-year in July, which was below the market's expectation of 2.3%.

So far, the Federal Reserve has wanted to wait for a more consolidated process in the return of prices towards the 2% target, before starting to relax its monetary policy. With the recent data, although inflation is not dead, confidence in the process of price deceleration is increasing, which, together with the deterioration shown by the labor market, reaffirms expectations that the Fed will begin its monetary policy normalization process at its next meeting.

It is widely expected that the FED will cut its FED Fund Rate - FFR by at least 25 bps during the September meeting, although some projections even point to a cut of half a percentage point, an alternative that gained more followers after the July price data was released. At the time of closing this report, other data had also been released, such as the latest jobless claims number, consumer confidence and retail sales, which came in better than expected, versus housing market data that deteriorated beyond expectations. 

All in all, the CME FedWatch tool incorporates a 25% probability of a quarter-point cut and a 75% probability of a half-point cut in September.

Milene Rodriguez
Strategy and Investment Analyst Fynsa