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In July, inflation in the United States fell below 3% for the first time since March 2021, according to the latest Consumer Price Index (CPI) report released by the Bureau of Labor Statistics. The CPI's drop to 2.9% over the past 12 months signals a significant milestone, setting the stage for the Federal Reserve to potentially cut interest rates in the coming month.
With consumer prices slowing more than expected, the Fed may find room to ease borrowing costs after years of aggressive rate hikes aimed at curbing inflation. The U.S. economy, facing signs of strain, could benefit from lower rates to stimulate job growth.
On a monthly basis, prices rose by 0.2% in July, following a 0.1% decline in June. Economists had anticipated a 0.2% increase, making this outcome largely in line with expectations.
“Breaking the 3% barrier is a key psychological positive,” said Sung Won Sohn, a finance and economics professor at Loyola Marymount University. “It shows that inflation is not only trending down, but disinflation is on track.”
Excluding the more volatile categories of gas and food, core CPI saw a 0.2% increase from June, with its annual rate slowing to 3.2%—the lowest since April 2021. The shelter index, which includes housing costs, rose by 0.4%, accounting for nearly 90% of the monthly increase in the CPI.
The shelter index, which makes up over a third of the overall CPI, has been a significant factor in inflation's persistence. However, economists believe this will soon change as recent trends in rent and home prices begin to reflect more accurately in the index.
Housing costs, which surged during the pandemic, have been a major challenge. The Fed’s interest rate hikes have further complicated matters by making borrowing more expensive for renters, buyers, and builders. “If the situation persists, the chronic shortage of housing will just get worse,” warned Brian Bethune, an economics professor at Boston College.
The financial markets reacted positively to the news. The S&P 500 closed 0.4% higher on Wednesday, while the Dow and Nasdaq Composite also saw gains. Investors are hopeful that the latest inflation report will lead the Fed to cut rates, providing a boost to the economy.
As of July, the shelter index has risen by 5.1% annually, a significant drop from its peak of 8.2% in March 2023. Excluding shelter, the CPI was up just 1.7% over the same period.
Energy prices remained stable in July, while food prices continued to increase modestly. Grocery prices rose by 0.1%, and restaurant prices by 0.2%. On an annual basis, these costs are up 1.1% and 4.1%, respectively.
The July CPI report builds on the positive trends observed in June, offering reassurance to the Federal Reserve and markets that inflation is moderating. “If you look under the hood, it’s actually even better than that,” said Boston College’s Bethune, noting that the unrounded CPI increase was just 0.155% from June.
With inflation showing sustained progress, the Fed may feel confident in loosening monetary policy, especially as the labor market has begun to slow, and unemployment has risen more sharply than expected. A weaker-than-expected jobs report for July has heightened recession fears, increasing the likelihood of a rate cut.
As of Wednesday morning, the CME FedWatch tool indicated a 56.5% probability of a quarter-point rate cut at the Fed's next meeting, with a 43.5% chance of a half-point cut.
While the Fed is expected to act cautiously, this latest CPI report may provide the confidence needed to begin easing rates. However, as Jared Bernstein, chair of the White House Council of Economic Advisers, emphasized, "Our work is not done." As inflation nears pre-pandemic levels, the focus remains on ensuring that families facing high costs receive the relief they need.
This story will be updated as more information becomes available and as the markets react to these developments.
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