Recent Inflation Developments

The Federal Reserve’s Strategy to Tame Inflation

The Federal Reserve is making progress in its efforts to tame inflation. Headline inflation has slowed from its peak of 8.9% in June 2022 to 3.3% in July 2023. This deceleration has been driven by lower food and energy prices. Core inflation, which excludes food and energy, has also slowed from its peak of 6.6% in September 2022 to 4.7% in July 2023.

The Federal Reserve has raised interest rates seven times since March 2022 in an effort to cool inflation. The central bank is also reducing its balance sheet, which will further tighten financial conditions. These measures are having an impact, but it will take time for inflation to return to the Federal Reserve’s 2% target.

There are still some risks to the outlook for inflation. Food and energy prices could rebound, and the labor market could continue to tighten, which could lead to higher wages and prices. However, the Federal Reserve is committed to bringing inflation under control, and it has the tools it needs to do so.

The Outlook for Food Prices

The outlook for food prices is mixed. The U.S. Department of Agriculture expects food prices to increase by 5.9% in 2023, but then slow to a 2.8% increase in 2024. If this forecast is accurate, it could bode well for the future direction of headline inflation.

However, there are some risks to the outlook for food prices. The war in Ukraine is disrupting global food supplies, and droughts in some parts of the world are also raising concerns about food production. These factors could lead to higher food prices in the coming months.

Overall, the Federal Reserve is making progress in its efforts to tame inflation. However, there are still some risks to the outlook, and it will take time for inflation to return to the central bank’s 2% target.

Near-Term Outlook Brightens, but Storm Clouds Loom

Private-sector professional forecasters expect slowing growth of real GDP, headline inflation, and core inflation over the next four quarters, as well as a modest rise in the unemployment rate. However, forecasts for real GDP growth over the following four quarters remain positive.

Earlier this year, many economists expected a short, mild recession. However, with strong job growth and real GDP growth exceeding its estimated potential rate, many forecasters now expect the next recession to occur in 2024 or later.

Some key data at the beginning of the third quarter have bolstered expectations of an improving economy. In particular, retail sales, automotive sales, and industrial production all posted healthy rates of increase in July.

Healthy demand from consumers, businesses, and the government has been an elixir for labor demand. Although private sector job openings in June were about 20% below their March 2022 peak, they were still 33% higher than their level in January 2020. The inability of many firms to fill job openings has also kept nominal wage gains above their pre-pandemic rates.

In addition to the increase in real wages, consumers have benefited from rising levels of real wealth. First, above-trend real GDP growth has boosted corporate earnings and, thus, equity prices; stock prices (as represented by the S&P 500) are up by a little more than 17% year to date. Second, house prices have continued to increase—they are up 7.3% in 2023 through July—despite a 32% decline in total (new and existing) home sales since January 2022.

Overall, the near-term economic outlook has improved. However, there are some risks to the outlook, including rising interest rates and the ongoing war in Ukraine.

Source: www.stlouisfed.org