Economic Commentary

Inflation declines sharply in June: Weekly Economic Review & Outlook

July 17, 2023
Two people having a meeting.

June’s CPI report showed substantial progress on the inflation front. Core goods inflation fell and the super core rate (i.e., core services less rents) was flat for the month. Housing inflation was still strong, but there is reasonable hope that it, too, will soon turn a corner. Elsewhere, consumer sentiment posted a significant rebound in its preliminary July reading due to cooler inflation numbers and strong job market.

Key Takeaways:

What we learned last week: (pg. 1)

Super core inflation falls below four percent

The super core inflation rate has fallen for five straight months and was below four percent in June for the first time since September 2021.

Spike in consumer sentiment

Consumer sentiment climbed sharply in early July in response to improving inflation data and low unemployment.

What we’re watching this week: (pg. 2)

July 18: Retail Sales Advance

Rising auto purchases should lift June retail sales

Despite ongoing inflation headwinds, June retail sales should get a boost from faster income growth and stronger car sales — projected to rise a solid 0.6 percent. Following price cuts, unit light vehicle sales rose in June as pent-up demand for autos during the pandemic continues to outweigh high financing rates. Service expenditures, including dining out and travel, is also buoyant as consumers engage in “revenge spending” following the pandemic. This all underpins momentum in consumer spending into the third quarter. Retail sales ex-autos will likely be a little softer in June, held down by lower prices for gasoline and at grocery stores.

July 19: Housing Starts

Housing starts should contract sharply after May’s surge

Following May’s surge in housing starts and new home sales, we expect builders to pull back on new construction projects resulting in a moderate drop for June’s building permits and housing starts. The NAHB Housing Market Index saw an uptick in June, with both present and future single-family sales improving which should contribute to further strength within the new home market.

July 20: Existing Home Sales

Existing home inventories remain at historic lows

Current homeowners remain reluctant to list their homes with mortgage rates much higher than in years past. This is causing more potential homeowners to pursue new builds rather than settling for what is available on the existing market. Given the decline for pending home sales, we forecast existing home sales to decline 2.3 percent in June to an annualized pace of 4.2 million units — the weakest month for sales since January.

July 20: Leading Index

Leading economic index still trending downward

While coincident data from consumers and firms has been resilient in 2023, leading indicators continue to suggest underlying weakness ahead. Labor market readings for June, including average hourly earnings and the work week, increased, while new orders for both manufacturing and services saw modest upticks. This suggests that the Leading Economic Index from the Conference Board should not contract as sharply in June, with a 0.6 percent drop expected. Still, a significant drop as the yield curve inversion deepened. The year-on-year reading will remain deeply negative, historically a good indicator of a forthcoming recession.

Analysis: Consumer inflation surprises to the downside

The consumer price index (CPI) undershot expectations in June with both the headline and core measures each rising only 0.2 percent. The headline year-over-year rate fell sharply from 4.0 percent to 3.0 percent, the lowest reading since March 2021. The annual change for core CPI remains stickier, but it decelerated meaningfully from 5.3 percent to 4.8 percent, the lowest rate since October 2021.

Given the strong base effects from a year ago when the CPI spiked, we suggest looking at the three-month annualized changes. Even looking at inflation trends through this lens, there was good news with the core CPI three-month rate easing to 4.1 percent from 5.0 percent in May and down from the recent peak of 5.2 percent in February. The headline was even softer at 2.7 percent but rose from 2.2 percent in May. Fed officials will be relieved to see the deceleration in core CPI, but the pace remains too high for comfort.

Within the core CPI components, core goods fell 0.1 percent on the month, allowing the year-over-year rate to fall to 1.3 percent from 2.0 percent in May. Core services rose 0.3 percent, again a bit stickier but slightly less than the 0.4 percent increase posted in each of the prior three months. On a year-over-year basis, core services slowed from 6.6 percent to a still high 6.2 percent while the three-month annualized rate slowed to 4.1 percent from 4.9 percent in May. The super core measure (core services less rents) was flat for the month, and the 12-month growth for this measure fell to 3.8 percent from 4.5 percent in May; the three-month annualized rate fell to 1.5 percent, an encouraging sign for price growth in the service sector. Shelter inflation remained relatively hot, however, rising 0.4 percent on the month, fueled by a 0.4 percent rise in rental costs. In the coming months, this should subside as home price appreciation and real-time rental asking price increases have cooled significantly.

Given softer inflation figures over the second half of 2022, annual comparisons will become more difficult to beat from here, with year-on-year CPI likely to move higher again in July. We still look for the Fed to raise rates at the July FOMC policy meeting, especially with core inflation running too hot for the Fed’s comfort. But if weaker inflation readings persist throughout the summer, coupled with some slowing in hiring activity, it would support our view that the Fed will forgo any further rate hikes and hold the fed funds rate at the 5.25 percent – 5.5 percent range for the rest of the year.

Analysis: Consumer sentiment surged in early July

There was another sharp rise in the University of Michigan Consumer Sentiment Index for the preliminary July reading. The index jumped 8.2 points to 72.6; the largest monthly increase since 2006 and the highest reading for the index since September 2021. The index’s gain was broad-based, owing to both improved sentiment on current economic conditions as lower prices for food and gasoline have boosted purchasing power for households, as well as more optimism about the growth outlook for the economy. Improved sentiment should add another tailwind to consumer spending activity over the third quarter.

In response to cooler inflation data and continued strength for hiring and wage growth, consumers are feeling more hopeful that the economy can avoid a recession. Still, it should be noted that, despite the improvement in recent months, the expectations index is still consistent with past pre-recession readings. Rising interest rates and worries of forthcoming job losses are still top of mind for many consumers.


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