The core PCE Price Index, the Federal Reserve’s favored inflation measure, increased at an annual pace of 2.4% in November compared to expectations of 2.6%. This is a daily reading and so down from a two-year high of 2.7 percent recorded in September and indicates further improvement in the battle against inflation by the Fed.
Details
Inflation has become a key economic issue for the last two years with the Federal Reserve adopting a historically high stance on interest rates. The Fed’s mandate is to promote maximum employment and stable prices and the Congress has set an inflation target of 2%. After the pandemic disrupted the economy for much of the year, and cause inflation to reach multi-decade peaks, the November PCE report shows that there has been considerable progress in taming prices.
This has been due to the following reasons: Two factors that have been responsible for the increase in prices in the past include supply chain disruptions, and these disruptions have reduced in the current months. Energy prices have also become more predictable after volatile swings earlier this year, with the S&P 500 dropping after increased borrowing costs due to the Fed’s rate hikes have slowed consumer spending and the housing market. However, the core rate which provides a more accurate picture of inflation is still somewhat elevated and demonstrates that the job the Fed began has not ended yet.
The PCE price index is different from the more common CPI because it includes the way that consumers change their behavior in response to changes in prices, for instance, by shifting from the expensive product to a cheaper one. Cumulatively, November report indicates a slower pace of inflation pressures than most analysts had expected, throwing doubts on the sustainability of such tendencies going into 2024.
From the recent past, there has been a gradual decline in the general price trends in various industries. These cooling have been more visible in the goods sector while service sector inflation has been more persistent. There are several reasons why the November reading is likely to have been lower than anticipated: supply chain disruptions have improved; the wage growth rate has slowed; and the Fed’s monetary policy has been cumulative.
Implications
This favourable inflation report supports the probability that the Federal Reserve will start to unwind its tight monetary policy stance in 2024. Financial markets are currently factoring in several interest rate cuts next year and this information validates this view. But, the Fed is likely to be conservative about it, stating that it has won the fight halfway at best, as inflation remains above 2% at present.
For consumers, the sustained slowing in the pace of price rises should be of some comfort, especially given that nominal pay growth has remained healthy. Companies might not need to increase the prices of products but still, face margin erosion since they have lost bargaining power. It also looks like the broader economy is getting the ‘soft landing’ that authorities have been trying to engineer – inflation is moderating without a downturn.
The consequences of these ideas for the broader economy are rather far-reaching. If inflation persists to fall, then it can be a sign that the volatility which the economy has been experiencing for the past few years is now coming to an end. There are, however, headwinds: higher wage rates specially in several sectors may put a cap on productivity improvements; geopolitical tensions that can upset the global trade or energy environment. The authorities will have to be very cautious and not jeopardize the recent achievements in lowering inflation rates at the cost of growth.
Conclusion
PCE inflation in November can be considered a major landmark in the process of the Federal Reserve on the path to price stability. Even though inflation is not fully defeated, the current and gradual downward tendency indicates that monetary policy is effective. Looking forward to the year 2024, the concern may not be how high rates may go, but when the Fed may start the process of policy reversal.