The Federal Reserve’s aggressive interest rate hikes appear to be driving down consumer expectations for inflation in the coming months and years.
The monthly Survey of Consumer Expectations for July released by the Federal Reserve Bank of New York Monday found “substantial declines” in short, medium, and long-term inflation expectations. One-year inflation expectations plunged from 6.8% to 6.2%, and three-year-ahead expectations dropped from 3.6% to 3.2%.
While those numbers are still well above the Fed’s goal of sustained 2% inflation, the declines are notable because they show that the central bank is succeeding in driving down consumer perceptions of price hikes to come.
Five-year-ahead inflation expectations fell from 2.8% in June to 2.3% in July.
HISTORIC INFLATION HITS HOUSEHOLDS HARD
The July figures mark the most notable decline in inflation expectations since they began jolting upward last year.
Still, headline inflation is the highest it has been in four decades. Inflation, as gauged by the consumer price index, clocked in at a blistering 9.1% in the 12 months ending in June.
Increases in food and energy prices are being felt most profoundly by consumers. Food prices have exploded by 10.4% in the 12 months ending in June, and energy prices have increased by a painful 41.6% over that same period.
The price of a gallon of gas in the United States now averages $4.06, an 87-cent increase from a year ago. It is worth noting that gas prices have started to tumble over the past month after peaking at about $5 per gallon.
The hotly anticipated CPI numbers for July will be released on Wednesday. They are expected to show that inflation has cooled, with the consensus expectation being that inflation tamped down to 8.7%. The declining price of gas will likely be a big factor bringing down the headline number.
In response to months of high inflation, which has been plaguing the country for over a year, the Fed has conducted a series of increasingly aggressive rate hikes.
Last month, following a two-day meeting, the Federal Open Market Committee announced that it would increase its interest rate target by three-quarters of a percentage point. The central bank typically raises rates by just a quarter of a percentage point, so the move was akin to three simultaneous rate hikes and speaks to the desperation of officials in bringing down prices.
That came after the Fed hiked rates by the same degree in June and conducted two other rate increases in March and May. Many economists believe the Fed waited too long in tightening its monetary policy as the pandemic faded into the rearview mirror.
The Fed’s action is designed to slow spending and eventually drive down prices, although the trade-off might be the economy tumbling into a recession. There are signs that lend credence to the notion that the U.S. is on the verge of, or already in, a recession.
U.S. gross domestic product fell at a 0.9% annualized rate in the second quarter, according to a preliminary estimate from the Bureau of Economic Analysis. The numbers follow a negative 1.6% GDP growth rate in the first quarter. Economists have traditionally regarded two quarters of negative GDP growth as recessionary.
The National Bureau of Economic Research, regarded by the government and economists as the authority on declaring recessions, defines a recession as “a significant decline in economic activity that is spread across the economy and that lasts more than a few months.”
One major factor lending credence to the idea that the U.S. is not in a recession is the consistently over-performing labor market. Typically, in recessions, job growth declines and the unemployment rate increases.
On Friday, it was reported that the economy defied expectations and added 528,000 jobs in July, an encouraging sign of the labor market’s resiliency. The unemployment rate also unexpectedly fell to 3.5%, matching the ultralow level it was at prior to the pandemic.
The positive jobs report will give the Fed more confidence in aggressively raising rates because it shows that the economy has been able to absorb some of the beatings from the hikes better than what was expected.
Some economists are betting that the central bank will conduct another three-quarters hike after its September meeting, which would equate to nine conventional hikes in just a matter of four months.
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The central bank and Fed Chairman Jerome Powell have made it clear that combating inflation is now the Fed’s No. 1 mission.
“It is essential that we bring inflation down to our 2% goal if we are to have a sustained period of strong labor market conditions that benefit all,” Powell said after hiking rates at the July meeting.
