Key inflation gauge falls while economic growth slows – but the Fed could still raise rates

A key inflation gauge fell for the first time in six years while the economy grew at a weaker pace than expected, which would give the Fed more room to keep interest rates on hold – but the new stats could be just a temporary blip in the data.

The Personal Consumption Expenditures (PCE) price index rose 3.7% in June over the past 12 months – falling below the 4.1% level from the previous month, the Bureau of Economic Analysis said Thursday.

Core PCE – the Fed’s preferred inflation gauge, which excludes volatile food and energy prices – increased 3.3% on an annualized basis, up 0.1% from the previous month.

But the data is largely backward-looking, since much of the decline is due to a 9% drop in energy and gasoline prices in June after the US and Iran signed a temporary ceasefire agreement. That deal has since fallen apart, with the US on Thursday announcing the launch of “a heavy wave of strikes” against Iran in response to surprise attacks on US forces in Jordan, which were successfully intercepted. Tehran has threatened further escalation.

National average gasoline prices have shot back above $4 a gallon, according to AAA, and reports of attacks in the Red Sea are threatening to compromise a second critical maritime trade route in the Middle East – potentially worsening global energy supply disruptions.

Nic Puckrin, a markets expert and former Goldman Sachs analyst, said the PCE report won’t be enough to sway the Fed – especially after Chair Kevin Warsh delivered a “hawkish hold” Wednesday, keeping interest rates steady while emphasizing the need to lower inflation.

“Warsh made it clear that one good print won’t change the trajectory of monetary policy. Plus, three of his colleagues voted to raise rates,” Puckrin wrote in a Thursday note.

“It will take a sustained move lower to convince policymakers that inflation is under control, and that could be hard to achieve if tensions in the Middle East keep oil prices elevated.

“As such, a September hike remains fully on the table for now. For borrowers, that means credit card debt and loans will remain expensive for the time being,” Puckrin warned.

On Wednesday, Warsh also said that while the Fed will continue to factor in the PCE report, his “lens is broader than that.” He signaled that one of his new task forces is looking into alternative inflation measurements.

A GDP report released by the Bureau of Economic Analysis Thursday showed the US economy grew at an annualized 1.5% pace in the second quarter – below estimates of 1.8% growth.

Fed officials have been locked in a debate over the risks of raising interest rates too soon, which could potentially stunt economic growth, and waiting too long to hike rates, allowing inflation to run rampant – and a weaker GDP reading could give central bankers more reason to pause.

But the data was significantly distorted by temporary shocks, including the war in Iran, higher oil prices and President Trump’s tariffs – and there were several underlying signs of strength in the economy.

Consumer spending rose at a robust 3.2% annual rate in the second quarter – much faster than a dismal 0.5% pace in the first quarter, according to Thursday’s...