PCE inflation data to suggest the size of the Federal Reserve’s upcoming interest rate cut

VaselineAugust 30, 2024

0 4 minutes read

PCE inflation data to suggest the size of the Federal Reserve’s upcoming interest rate cut

The core price index for personal consumption expenditures is seen rising 0.2% month-on-month and 2.7% year-on-year in July.
Markets fully price in an interest rate cut by the US Federal Reserve in September.
Hotter-than-expected PCE inflation data could save the US dollar ahead of next week’s non-farm payrolls.

The United States (US) Bureau of Economic Analysis (BEA) will release the core personal consumption expenditures (PCE) price index, the Federal Reserve’s (Fed)’s preferred inflation gauge, on Friday at 12:30 GMT.

PCE inflation data could shape the next direction for the US dollar (USD) in non-farm payrolls week.

PCE Index: What to expect from the Federal Reserve’s favorite measure of inflation?

The core PCE price index is set to rise 0.2% in July, the same pace as in June. For the year, core PCE is expected to increase by 2.7%, while headline annual PCE inflation is expected to increase to 2.6% over the same period.

The core PCE price index, which excludes volatile food and energy prices, has a significant market price impact on the Fed’s interest rate outlook. The indicator is closely monitored by the central bank and market participants as it is not distorted by base effects and provides a clear picture of underlying inflation by excluding volatile elements.

Data released by the BLS earlier this month showed that the US Consumer Price Index (CPI) rose 2.9% on an annual basis in July, while the core CPI rose 3.2% over the same period , slightly slower than the 3.3% increase in June.

PCE Inflation Report Preview, “Core PCE inflation likely remained under control, with prices rising at a mild 0.13% monthly pace in July. Given that shelter price strength has acted as a driver of core CPI inflation, core PCE will not increase as much,” TD Securities analysts said.

“PCE inflation was probably printed by 0.12% on the month. We also expect personal spending to provide a solid start to the third quarter, growing firmly at 0.5% month-on-month and 0.4% month-on-month in real terms,” they added.

How will the Personal Consumption Expenditure Price Index affect EUR/USD?

The US dollar is near annual lows against its main rivals ahead of the release of the Fed’s preferred inflation measure. The dollar’s downtrend has propelled EUR/USD to a thirteen-month high near 1.1200.

Markets have fully priced in a rate cut by the Fed in September, with the odds tipping in favor of a 25 basis point (bps) rate cut over a 50 basis point move.

Should the monthly or core PCE reading come in warmer than expected in July, the US dollar may receive a much-needed boost as the data would throw cold water on recent expectations of aggressive Fed rate cuts this year. year. . In response, the EUR/USD pair could see a correction from over a year highs. On the other hand, a slower-than-expected rise in core figures could trigger another USD sell-off, triggering a new leg higher in EUR/USD.

However, the initial reaction to the PCE report could be limited as traders may resort to position adjustments on the last trading day of the week as they prepare for next week’s critical US employment data.

FXStreet analyst Dhwani Mehta provides a brief technical outlook for EUR/USD and explains:

“The EUR/USD uptrend remains intact as long as the 1.1107 support holds on each closing day. This level is the 23.6% Fibonacci Retracement (Fibo) level of the August rally from 1.0775 to 1.1202, 13-month highs. The 14-day Relative Strength Index (RSI) is holding firmly above 50, justifying the bullish potential of the major.”

“Acceptance above the 13-month high of 1.1202 is needed on a daily closing basis to challenge the psychological level of 1.1250. Alternatively, a sustained break below the aforementioned 23.6% Fibo support at 1.1107 could open downside to the 38.2% Fibo level of the same advance, aligned at 1.1045.”

Economic indicator

Personal consumption expenditure – Price index (L/M)

Personal consumption expenditures (PCE), published monthly by the US Bureau of Economic Analysis, measures changes in the prices of goods and services purchased by consumers in the United States (US). The MoM figure compares prices in the reference month to the previous month. Price changes may cause consumers to switch from one good to another, and the PCE Deflator may take such substitutions into account. This makes it the preferred measure of inflation for the Federal Reserve. Generally, a high reading is bullish for the US dollar (USD), while a low reading is bearish.

Frequently asked questions about inflation

Inflation measures the increase in the price of a representative basket of goods and services. Headline inflation is usually expressed as a month-on-month (month-on-month) and year-on-year (YoY) percentage change. Core inflation excludes more volatile items such as food and fuel, which can fluctuate due to geopolitical and seasonal factors. Core inflation is the figure that economists focus on and is the level targeted by central banks, which are mandated to keep inflation at a manageable level, usually around 2%.

The consumer price index (CPI) measures the change in the prices of a basket of goods and services over a period of time. It is usually expressed as a percentage change from month to month (month to month) and year to year (year to year). Core CPI is the figure targeted by central banks because it excludes volatile food and fuel inputs. When core CPI rises above 2%, higher interest rates usually result, and vice versa when it falls below 2%. Because higher interest rates are positive for a currency, higher inflation usually results in a stronger currency. The opposite is true when inflation falls.

Although it may seem counter-intuitive, high inflation in a country increases the value of its currency, and vice versa for lower inflation. This is because the central bank will normally raise interest rates to combat higher inflation, which attracts more global capital inflows from investors looking for a profitable place to park their money.

Previously, gold was the asset that investors turned to during periods of high inflation because it held its value, and while investors will often buy gold for its safe haven properties during periods of extreme market turbulence, this is not the case with most of the time. . This is because when inflation is high, central banks will raise interest rates to combat it. Higher interest rates are negative for gold because they increase the opportunity cost of holding gold versus an interest-bearing asset or putting money in a cash deposit account. On the other hand, lower inflation tends to be positive for gold as it lowers interest rates, making the shiny metal a more viable investment alternative.

VaselineAugust 30, 2024

0 4 minutes read