February's PCE index showed another sharp increase in prices
An uptick in inflation early this year and remarkably strong economic growth are likely to keep U.S. interest rates high, but probably not for long.
Federal Reserve Chair Jerome Powell on Friday said the February report on inflation and consumer spending didn't offer any major surprises.
Put another way, his remarks suggest the Fed is still on track to cut interest rates three times this year - and most economists agree.
What they aren't entirely in agreement on is when.
Some economists and senior Fed officials such as Gov. Chris Waller say inflation will have to slow further - and the economy needs to cool off a bit - before the central bank cuts rates.
For now, Wall Street is betting on June, but July or even later is not out of the question.
"It will take more evidence of inflation moderation in the months ahead to give the Fed the confidence to pull the trigger on its first rate cut this year," said chief economist Scott Anderson of BMO Capital Markets.
The chief worry, of course, is sticky inflation. Prices rose sharply in January and February, reversing a steady decline at the end of last year.
The Fed's preferred inflation gauge, the personal-consumption expenditures (PCE) price index, rose 0.3% in February following a 0.4% gain in January. If inflation continues to come in hot, it could push the yearly rate of inflation back above 3%.
But Powell doesn't seem worried. He said he expects inflation to continue to slow while acknowledging their will be "bumps" on the road to the Fed's goal of 2% annual inflation.
The 12-month rate of PCE inflation isn't actually far from that goal, registering at 2.5% in February. But it's reversed course since December and is running above 3% in the past three months on an annualized basis.
The February PCE inflation report wasn't all bad, though. The cost of services - the bigger driver of recent inflation -slowed after a big increase in January.
What's more, the so-called supercore rate of service inflation posted a small increase. This measure excludes energy and housing and is seen as a proxy for labor costs.
"The notable cooldown in 'supercore' PCE inflation was encouraging," said senior economist Lydia Boussour of EY Parthenon.
The big question is whether that can continue, especially given the strength of the U.S. economy.
Consumer spending jumped 0.8% in February to mark the biggest gain in a year. Gross domestic product, the official scorecard of the economy, is likely to increase around 2% in the first quarter in another demonstration of the economy's resilience.
The labor market is also still very strong, potentially keeping wage growth somewhat above the Fed's comfort level. Layoffs remain very low and another solid increase in hiring is expected in March.
The March employment report comes out next week.
Even if inflation doesn't slow as fast as expected, the good news is that the economy remains very sturdy. Were the Fed to keep interest rates high a bit longer to make sure inflation slows, the economy will probably be OK.
"Is the possibility of a recession elevated at the current time? I would say no and I don't see forecasters disagreeing with that," Powell said. "Growth is strong. The economy is in a good place."
Top Wall Street economists agree: Their own forecast calls for steady U.S. growth in 2024.
These top economists also think a further slowdown in inflation won't come as fast as the Fed would like, but they still think the central bank will cut interest three times this year.
The reason: Interest rates are so high now, they contend, that the Fed can afford to reduce them without giving fresh life to inflation.
Are they right? It remains to be seen. Mark down April 10: That's when the next consumer-price index will be released.
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