Dive Brief:

• An inflation gauge closely tracked by the Federal Reserve — the core personal consumption expenditures price index excluding food and energy — rose 4.2% in July compared with a year earlier as consumers, the main driver of the economy, stepped up spending during the month by 0.8%, the Commerce Department said Thursday.
• The 0.1-percentage-point gain in core PCE compared with June leaves the inflation measure far below the most recent peak of 5.4% in February 2022. The slight increase coincides with comments of guarded optimism by Fed policymakers regarding their campaign to reduce inflation to their 2% target.
• “The battle against inflation has seen significant progress,”Atlanta Fed President Raphael Bostic said in a speech Thursday. “Inflation is well off the very elevated levels we saw in the last year, but it's essential that it be brought all the way back to our target,” he said.

Dive Insight:

Consumers in July spent more on services including insurance, housing, dining out and financial services, as well as vehicles, groceries and recreational goods, the Commerce Department said. Spending outpaced by 0.2 percentage points the 0.6% gain in June and was the highest rate since January.

Strong consumer spending has surprised Fed policymakers and prompted many economists, both at the Fed and in the private sector, to replace predictions of recession with forecasts of a slowdown in growth.

In an Aug. 25 speech, Fed Chair Jerome Powell noted that an increase in the federal funds rate from near zero to range between 5.25% and 5.5% has not averted “robust” consumer spending, signs of vitality in the housing sector and unexpectedly high economic growth.

The Atlanta Fed forecast on Aug. 24 that the economy will grow at a 5.9% annual rate during the third quarter, increasing its estimate from 3.9% on Aug. 1.

“Additional evidence of persistently above-trend growth could put further progress on inflation at risk and could warrant further tightening of monetary policy,” Powell said.

Assessing the Fed’s most aggressive effort to quell price pressures in four decades, Powell divided core PCE into three categories — inflation for goods, for housing services and for all other services.

The increase in the federal funds rate to a 22-year high has steadily reduced core goods inflation, Powell said, while noting a need for additional slowing.

Price pressures in housing services have begun to fall, although declining growth in rents requires close monitoring by the central bank in coming months, he said.

In contrast, inflation in non-housing services — which accounts for more than half of core PCE and includes health care, food services, transportation and accommodation — “has moved sideways” since the central bank began raising the main interest rate in March 2022, Powell said.

“Many of these services were less affected by global supply chain bottlenecks and are generally thought to be less interest sensitive than other sectors such as housing or durable goods,” he said. “Given the size of this sector, some further progress here will be essential to restoring price stability.”

Overall, inflation “remains too high,” Powell said, leaving the door open to further tightening if necessary.

“We are prepared to raise rates further if appropriate, and intend to hold policy at a restrictive level until we are confident that inflation is moving sustainably down toward our objective,” he said.

Bostic on Thursday echoed Powell. “Inflation in the United States is still too high,” he said, emphasizing that he does not favor “easing policy any time soon.”

Still, Powell, like Bostic, noted progress in curbing inflation. He signaled that policymakers may leave the benchmark interest rate unchanged at the end of a two-day meeting on Sept. 20.

“Given how far we have come, at coming meetings we are in a position to proceed carefully,” he said.