The Federal Reserve's primary inflation rate showed that core price pressures firmed up in September as consumer spending surged. Hot prices for services were only partly offset by falling goods prices. The S&P 500 opened modestly higher after the data, but soon gave up its gains and turned solidly lower on Friday afternoon. Stocks are struggling to regain their footing after the worst two-day decline since the bank crisis broke out in March.
The September inflation and spending data follows Thursday's report that the U.S. economy grew at a 4.9% annualized rate last quarter, up from Q2's 2.1% pace. Growth was fueled by a 4% rise in personal consumption expenditures, or PCE. But fixed investment grew just 0.8%, as equipment purchases fell 3.8%.
Core Inflation Rate
The personal consumption expenditures, or PCE, price index rose 0.4% in September, while the annual inflation rate held at 3.4% for a third-straight month.
Typically, Federal Reserve decision-making puts more weight on core inflation, which strips out volatile food and energy prices. Core prices rose 0.3% in September, matching estimates, even as core goods prices fell 0.5%.
The core 12-month inflation rate eased to 3.7% from 3.8% in August.
Supercore Inflation
Starting late last year, Federal Reserve chair Powell shifted the inflation focus to core PCE services excluding housing, or supercore services. That's in keeping with the Fed's view that the tight labor market and elevated wage growth have been at the root of stubbornly high inflation. Wages make up a high percentage of costs for service businesses. Therefore, supercore services inflation should ease as wage pressures moderate.
The September data for supercore PCE inflation confirms that the Fed still has a long way to go to bring down inflation for this category of spending, which includes health care, haircuts and hospitality.
September PCE data for these services showed prices rose 0.42%. While that followed a benign 0.1% rise in August, July also saw a heated 0.46% rise in supercore services prices. Over the past three months, supercore services inflation has run at a 3.9% annualized pace, up from 3.2% in August. The annual inflation rate for these core services dipped to 3.6% from 3.7%.
The rise in services prices came as the cost of air travel rose 5.3% on the month, while hotels and motels raised prices by 4.2%. Tickets for spectator sports rose 7.7% last month.
Personal Income, Spending
Personal income rose 0.3% on the month, less than the headline inflation rate, while personal consumption expenditures surged 0.7% in September. Adjusted for inflation, consumer spending rose 0.4%.
Consumers paid for their spending spree partly by saving less. Saving as a share of disposable income fell to 3.4%, the lowest since December, and less than half the level that prevailed before the pandemic.
S&P 500
The S&P 500 rose moderately at the open but reversed lower, falling 0.5% in Friday afternoon stock market action. That's despite a 7% rally in shares of Amazon on its Q3 earnings.
The S&P 500 has fallen 9.8% from its July 31 rally closing high.
The stock market selloff has begun to blunt the recent surge in Treasury yields. The 10-year Treasury yield, after falling 11 basis points on Thursday, rose 3 basis points to 4.87% on Friday.
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Federal Reserve Rate Hike Odds
After the PCE inflation report, markets were pricing in no chance of a quarter-point Fed rate hike on Nov. 1, while odds of a hike by the Dec. 13 policy update are just 24%.
Even hawkish policymakers have said lately the rise in the 10-year Treasury yield has tightened financial conditions, doing the Fed's work for it. The recent drop in the S&P 500 further dampens the chances of a rate hike.
Still, the Fed will want to see consumer spending and the job market begin to roll over before taking a rate hike off the table and shifting the focus to the timing of rate cuts. So far the data isn't cooperating, but some hints of a softer economic backdrop are emerging from earnings calls. Meta Platforms noted softer demand from advertisers in October, while UPSUPS also noted "demand softness" in its Thursday earnings call.
