Fed expected to stick with regular-sized rate cut after hot inflation data

Khaleej Times

a day ago

A jump in U.S. wholesale prices last month looks to have all but erased the possibility that the Federal Reserve will deliver a jumbo-sized half-percentage-point interest rate cut in September, though expectations for a quarter-percentage-point move next month, followed by another in October, remain intact.
U.S. producer prices rose 0.9% in July amid a surge in the costs of goods but also of services like machinery and equipment wholesaling, the Labor Department's Bureau of Labor Statistics said on Thursday. The increase, which far exceeded economists' expectations, may get passed on to consumers, who so far have not experienced a strong overall increase in prices even as the Trump administration has ratcheted up import tariffs.
"We expect a stronger pass-through of levies into consumer prices in coming months, with inflation likely to climb modestly over the second half of 2025," said Ben Ayers, senior economist at Nationwide. The rise in services inflation will be particularly worrisome to Fed policymakers like Chicago Fed President Austan Goolsbee, who said on Wednesday he's on alert for signs that inflation is seeping into prices beyond those for goods affected directly by tariffs.
An increase in services inflation, also evident in the consumer price data released on Tuesday, suggests inflation could become a more persistent problem, he said. U.S. Treasury Secretary Scott Bessent, who is leading the search for a replacement for Fed Chair Jerome Powell, has been pushing for a bigger rate cut next month, citing tame inflation, though on Thursday he said the U.S. central bank could start with a quarter-percentage-point move.
Before the data, traders put about a 3% probability on the idea of a half-percentage-point rate cut, with most bets firmly on a quarter-percentage-point reduction. After the data, traders erased bets on a 50-basis-point move.
San Francisco Fed President Mary Daly, who signaled earlier this week that she is increasingly open to the idea of a rate cut given the softening in the labor market, told the Wall Street Journal in a story published on Thursday that a 50-basis-point rate cut would signal an urgency about the job market that she does not feel. "It has been acting as a bucket of really cool water poured on the heads of those calling for 50 basis points in September," Slawomir Soroczynski, head of fixed income at Crown Agents Investment Management, said after the data.
Rate-sensitive two-year Treasury yields jumped more than five basis points after the data and were last at 3.722%, over three basis points higher than on Wednesday. Benchmark 10-year yields were up about two basis points on the day, at 4.264%.
"The large spike in the Producer Price Index this morning shows inflation is coursing through the economy, even if it hasn't been felt by consumers yet," said Chris Zaccarelli, chief investment officer for Northlight Asset Management.
"Given how benign the CPI (consumer price index) numbers were on Tuesday, this is a most unwelcome surprise to the upside and is likely to unwind some of the optimism of a 'guaranteed' rate cut next month," he said in a note.
The Fed will get another round of inflation data and a fresh jobs report before its September 16-17 policy meeting.