Quick Hit: The Fed’s Target Draws Near

For much of the last six months, a common narrative has held that, although inflation was slowing towards the Fed’s 2% y/y target, the last mile—getting it down from a lower-but-above-target rate to the bullseye—would prove the toughest task yet. This narrative always lacked evidence, in our view. And now the Bureau of Economic Analysis’s (BEA’s) November Personal Consumption Price Index (PCE Price Index) has proven it. Let us show you in today’s quick hit.

First, a reminder: PCE is the nation’s broadest dataset on consumer spending, including both retail sales and spending on services, which the Census Bureau’s Retail Sales report largely lacks. PCE is what feeds GDP. It is the bellwether of consumer incomes, spending and—wait for it—prices. The headline PCE Price Index, which it uses to inflation-adjust (real) spending, is the Fed’s targeted inflation measure. (Editors’ Note to financial reporters: Not the core rate! Stop conflating the two!) And, for that matter, the BEA uses the same index to derive real GDP.

In November, we got a clear positive report across the board, even if spending growth rates weren’t boom-ish. Real consumer spending rose 0.3% m/m in November.^[i] And, before you presume this was all about Americans going deeper into hock, note that real after-tax personal income rose more—0.4%.^[ii] But most attention, as one may expect, was on the inflation measures.

The headline PCE Price Index fell -0.1% m/m—the first actual monthly decline in prices since April 2020.^[iii] On a year-over-year basis, it hit 2.6%—just 0.6 percentage point above the target.^[iv] Core PCE prices (which exclude food and energy) rose 0.1% m/m and 3.2% y/y.^[v]

But perhaps more interesting is this: The last six months have shown a vast slowing in the Fed’s targeted rate. Over this span, headline PCE rose an annualized 2.003%.^[vi] On target!

Exhibit 1: Headline PCE Price Index, Rolling Six-Month Annualized Rate

Source: Federal Reserve Bank of St. Louis, as of 12/22/2023.

Now, of course, the Fed aims at year-over-year inflation rates, not annualized over shorter periods. But as an indication of the trend, you can clearly see going that last mile doesn’t look as tough as many pundits previously presumed. And, with supply chain snarls largely vanquished as money supply gently declines, we doubt it is going to get harder from here.

Of course, many use data like this to try and surmise what the Fed may do. Don’t. The cabal of people who set US monetary policy aren’t predictable, often defying past “guidance” based on bias and unknowable interpretations of the incoming data. Investors don’t need to, either, considering stocks have climbed since October 2022—during rate hikes, since the Fed “paused” and since cut speculation started. The influence is limited at best.