Economic Commentary

Inflation slowdown continued in July: Weekly Economic Review & Outlook

August 14, 2023
A waitress serving food to a group of men at the restaurant.

July’s CPI report showed that inflation continues to moderate despite a small uptick in the headline rate. While this is encouraging news, the Fed will have another CPI report and an employment report to digest before next month’s FOMC meeting. In other news, consumer and business surveys showed improved optimism from a few months ago, but neither group is overly upbeat on the outlook.

Key Takeaways:

What we learned last week: (pg. 1)

Small decline in core CPI

The decline in core CPI inflation has been more gradual, but it fell for a fourth straight month in July.

Consumer sentiment has climbed from its recent low

The consumer sentiment index has experienced a strong rebound since dipping below 60 in May, although it remains far below the long-term median of 89.

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

August 15: Retail Sales

Modest growth expected for retail sales

Growth in retail sales was solid in the second quarter as consumers continued to use strong income gains to fuel spending. Wage gains were sturdy again in July, but a decline in the average workweek suggests that income growth was weaker than the recent trend. Still, the average consumer is in good shape financially, which should lift spending further this summer, especially on services. With an added boost from higher gasoline prices, we project July retail sales growth of 0.2 percent.

August 16: Housing Starts

Housing construction set to expand in July

Housing starts fell in June on a decline in both single- and multifamily units despite a rise in building permits in May. Some of those May permits should turn into July starts (and there was an increase in single-family permits in June), and a small rebound is expected in the always-volatile multifamily starts. Construction of apartment and condos has been strong lately as high mortgage rates push more demand to rental housing. We project a 2.8 percent climb in housing starts in July to an annual rate of 1.47 million units with a smaller increase in building permits.

August 16: Industrial Production

IP likely moved up in July

Production within the ISM manufacturing survey has been mired in contraction for much of the past year. Industrial production (IP) has seen corresponding sluggishness, down modestly year-over-year as of June, which should extend into July. Also, manufacturing employment has been flat this year and declined for a third time in five months last month. But while these factors should hold IP back, we still believe the massive increase in utilities usage during a very hot July will result in a gain of 0.3 percent for the month.

Analysis: Annual inflation up in July, but monthly price increase was modest

Headline CPI inflation on an annual rate climbed from 3.0 percent in June to 3.2 percent in July, but this was due to base effects as the month-over-month change in the index was up a mild 0.2 percent. The 12-month change in core CPI edged down to 4.7 percent in July from 4.8 percent in June, with the same modest increase of 0.2 percent on the month. The significant moderation in the monthly advances in consumer prices in June and July paints a more encouraging picture of inflation at midyear.

Core goods prices declined 0.3 percent on the month, mostly due to a sharp 1.3 percent drop in used car prices following the recent declines for the Manheim used vehicle value reading. New car prices also fell, but by a much smaller 0.1 percent, and are still up 3.5 percent over the past year — compared to the sizable deflation of 5.6 percent for used car costs. The 12-month change in core goods eased to just 0.8 percent in July compared to 1.3 percent in June.

But core services prices were hotter once again, up 0.4 percent and in line with the previous four months. Shelter costs, which climbed a further 0.4 percent and are up 7.7 percent from a year ago, continue to add pressure to monthly inflation. Core services less rents (i.e., super core inflation) climbed a more modest 0.2 percent, making July the fourth straight month with growth at or below that pace. On an annual basis, super core inflation edged higher to 4.0 percent, still 2.5 percentage points lower than the cycle peak from 10 months ago. As for housing costs, our internal estimates suggest inflation for rents should cool sharply to around 5.0 to 5.5 percent by year end, a significant aid towards continued cooling of core inflation.

While the July CPI data is encouraging on net, Fed officials should continue to lean hawkishly in response to the tight labor market and a likely acceleration for growth in the third quarter. That said, it supports our view that the Fed will hold rates steady in September (and through the end of the year), especially if the recent weaker trends carry into the employment and CPI reports for August due next month.

Analysis: Consumer and business surveys remain low, but moving up

August’s preliminary consumer sentiment reading was virtually unchanged from a month prior as small changes in the current conditions index (up) and the future expectations index (down) mostly offset. While the index remains below its long-run average, it is much higher than it was just a few months ago as fading inflation boosts optimism for a soft landing in the economy.

On the commercial side, the NFIB small business optimism index climbed for a third straight month and matched a 10-month high in July. However, the current reading is still very low from a historical perspective, as firms vie with lower earnings trends, poor quality of labor (due to a tight labor market), and rising input costs. While business owners are more optimistic about the economic outlook than in recent months, most firms remain hesitant to make investments given higher loan rates and the lingering economic uncertainty.


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