PCE inflation data shows annual growth of 4.1%

The Federal Reserve’s preferred inflation gauge rose 4.1% yoy in June, a significant step down from May’s 4.6% yoy and pushed price growth to its slowest pace in nearly two years.

The core personal consumer spending index rose 0.2% in June from a month earlier, the Commerce Department reported on Friday, compared with a 0.3% increase in May. Economists had expected June prices to rise 0.2% from May and fall to 4.2%.

Stocks were higher. The S&P 500 gained 0.6%, while the Dow Jones Industrial Average gained 0.5%. The Nasdaq Composite rose 1.1%.

Overall, the report underscores how inflation has generally slowed in recent months, declining steadily from its February 2022 peak of 5.4% to its current level of 4.1%. That brings the annual growth rate of core PCE prices back to the lowest level since September 2021, when prices rose 3.9% year-on-year.

The cooling has allowed the Federal Reserve to tighten monetary policy more slowly in anticipation of the effect of rate hikes on the economy. But it also underscores how much further price growth is yet to fall. June’s annual pace remains more than double the Fed’s target of 2% annual growth in core PCE.

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The slowdown in June was largely due to lower goods costs, which fell 0.1% over the month and 0.6% from the same month a year ago. The category includes big-ticket products, such as cars, as well as smaller items, including furniture and clothing.

However, services inflation remained robust in June. The cost of services, which includes everything from housing to travel and medical care, rose 0.3% over the month and was 4.9% higher than the same month last year.

Fed officials have long focused on the main PCE inflation measure, rather than the more widely viewed consumer price index, in part because the bank views it as a more comprehensive measure of spending for all American households. The CPI collects data from urban consumers and, in particular, gives much more weight to the cost of housing than the PCE.

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The PCE, meanwhile, gives more weight to core services other than housing, a category the Fed mainly focuses on because of what it can signal about where underlying inflation is headed. Services price growth has remained strong so far, partly due to the tight labor market and rapid wage increases, which are helping to fuel consumer spending.

The 4.9% annual increase in services prices in June therefore underscores how much work the Fed still has to do. Continued strength in that category, in particular, could prompt the central bank to raise rates at least once more this year. It’s a major reason why officials have emphasized that they’re likely to keep rates high for some time to come.

Prices for services are closely linked to wage gains, as labor is the largest cost item for service providers. On that front, the Fed received some good news on Friday when a separate report showed that wages cooled more than expected in the second quarter.

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Compensation costs for civilian workers rose 1% over the three months ending June and recorded an annual rate of 4.5%, the Employment Cost Index showed. Both measures fell short of economists’ expectations, marking a slowdown from the 1.2% increase in the first quarter and the 4.8% annualized growth rate.

While the annual rate remains well above the pace of about 3.5% that economists say is consistent with 2% inflation, “the numbers are moving in the right direction,” wrote Ian Shepherdson, chief economist at Pantheon Macroeconomics. From here, Shepherdson added, the two measures should largely go together.

“The declines we expect to see in both ECI wage growth and core PCE services inflation in the second half of the year are two sides of the same coin,” he wrote.

Write to Megan Cassella at megan.cassella@dowjones.com

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