Finally, after a series of depressing readings, we have got our first inflation report with signs of hope this morning. Prices increased 8.5% over the year, a sizable decline from last month’s 9.1%, and 0.0% over the month, the smallest monthly increase since November 2020. The decline in overall inflation—and especially the slowdown in core inflation—are great news for workers, who will finally now be able to hang onto more of their pay gains.
There are still some reasons for concern—it’s too soon to do a touchdown dance—but this month’s report was a significant improvement over recent reports. Here are some key takeaways:
- Falling gas prices are single-handedly bringing inflation down. A decline in gas prices was all it took to bring the monthly inflation rate from 1.3% to 0.0%. Since gas prices are still falling, next month’s print is likely to be even better. But gas prices are out of the Federal Reserve’s control, and just as they have fallen in recent weeks, they could conceivably rise again. Prices of groceries, rent, and electricity continue to rise.
- Core inflation is easing. We are finally seeing core inflation slowing down. Though the year-over-year print remained the same at 5.9%, the monthly rate declined noticeably to 0.3%, much lower than in recent months. Core inflation is far more predictive of future inflation. It is the less volatile number, and the compass that tells us where we are headed. So it is great news that month-over-month core inflation is slowing down. That said, one should not put too much stock in a single month’s data. We will need to see sustained declines in core inflation before we can declare “mission accomplished” in the war on inflation. That’s why the Fed is likely to stay on its aggressive policy course until all leading price indicators are convincingly under control.
- Price increases are cooling off for both goods and services. There have been alternating price spikes in commodities and services as consumers shifted their consumption patterns back and forth throughout the pandemic. But in July the price indices for both core commodities—commodities less energy and food—and core services—services less energy services—declined sharply after high readings 3 months in a row.
- Inflation expectations are well anchored. According to the New York Fed inflation expectations survey, both one- and three-year ahead inflation expectations declined sharply in July, to 6.2% and 3.2% from 6.8% and 3.6% in June, respectively. This is an especially promising development since inflation can turn into a self-fulfilling prophecy if consumers believe that price hikes are coming and act on that expectation.
- Finally real earnings increased in July. Real average hourly earnings for all employees increased 0.5 percent from June to July, the highest monthly increase since December 2020, and the first increase since September 2021. This result stems from an increase of 0.5 percent in average hourly earnings combined with no change in the CPI.