It May Be Hot Outside, but Inflation Is Finally Cooling
The star of the show this week was the Bureau of Economic Analysis’ monthly report on personal income and spending, which included updates to the Fed’s preferred PCE inflation gauge. By and large, the data demonstrate a more measured consumer, with income growing at a strong clip and personal outlays growing more modestly. Personal spending was up 0.2% on a nominal basis, and real personal spending was up 0.3% on the month. Personal income was up 0.5% in May, tied for the second-highest monthly increase this year. Strong gains in income remain critical as paychecks have become the primary source of purchasing power for households.
On the inflation front, moderating price level growth made for solid real income gains for consumers. Headline monthly PCE inflation was ever-so-slightly negative on an unrounded basis, and core PCE inflation grew a modest 0.1%. This brought the year-over-year rate for both measures down to 2.6%. That's the lowest rate of core inflation in over three years and just a tenth above the softest rate for headline inflation over the same period. Notably, core services less primary shelter inflation, otherwise known as “super core” inflation, abated to 3.2% on a three-month annualized basis. For the first time this year, the three-month annualized rate is now below the year-over-year rate of 3.4%, a positive development on the road to low and stable inflation, given the stubbornness of services inflation in recent months. The strong-yet-measured consumer in May data in tandem with welcome moderation in PCE inflation data proved to be a policymaker’s dream. If inflation pressures continue to ease in accordance with our forecast, we still view the FOMC as on track to begin cutting the fed funds rate at its September meeting.
Elsewhere in the economy, data were mixed this week. Durable goods orders surprised to the upside in May, as new orders rose 0.1%. The unexpected strength came from nondefense aircraft orders falling ‘only’ 2.8%, in contrast to relatively weak orders data from Boeing released earlier in the month. Motor vehicle orders were up on the month, offsetting some weakness from nondefense aircraft. Despite the upside surprise, the report was consistent with a challenged demand environment for durable goods and demonstrates that the manufacturing sector remains under pressure. Core capital goods orders, a key measure of demand in the sector, slipped 0.6%, now down 0.2% year-over-year. Production activity fared no better, with durable goods shipments falling 0.3% in May. Core capital goods shipments, which flow into the calculations for equipment spending in the GDP accounts, declined 1.5% and suggest some downside risk to our forecast for 5.1% annualized growth in equipment spending in Q2.
Final revisions to Q1 GDP data were in line with expectations, rising a tenth to 1.4% annualized growth. Despite the on-consensus outturn, there was plenty of movement under the surface. Personal consumption was revised lower to 1.5%, down from an initially reported 2.5% annualized gain in the advance estimate. Downward revisions to both goods and services consumption contributed to the drop. Upward revisions to net exports, investment and government spending offset the slower growth in personal consumption.
The housing market has been constrained thus far through the first half of the year, with May housing data continuing the downbeat mood. New home sales fell 11.3% in May to a 619K-unit pace. Higher mortgage rates, an incremental lift in inventory of existing homes and moderating economic growth have led to a softening in the new homes market. Still, upward revisions to data from earlier in the year take some of the sting out of this month’s number, revealing the new homes market to be more resilient than previously thought. Pending home sales also declined in May, falling 2.1% on the month. On a year-over-year basis, pending home sales are now down 6.6%, extending the streak of negative year-over-year growth to 30 consecutive months. Separately released data showed the S&P Case-Shiller National Home Price Index rose 0.3% in April and is now up 6.3% over the past year. Home price growth has been moderating in recent months, with month-over-month growth having softened in each of the past three months.
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