U.S. inflation may have peaked as consumer spending slows in May

U.S. consumer spending fell in May, as less motor vehicles were available and higher prices forced consumers to cut back on other goods. This was another indication that the recovery in economic growth in the second quarter was slowing down.

The Commerce Department’s Thursday report suggested that inflation has probably peaked. However, price pressures remain strong enough for the Federal Reserve to continue its aggressive monetary policy tightening. 

Although rising interest rates and tighter financial conditions are raising fears of a recession in the near future, economic data shows that there has been moderate growth. Despite layoffs in the technology and housing sectors, new claims for unemployment benefits remained lower last week. Other data showed that this was despite the fact that claims for benefits were still growing.

“The Fed has not yet won the war against inflation, but there are some encouraging signs that the economy slows down.” saidChristopher Rupkey, chief economic officer at FWDBONDS New York.

“Despite the recession fears, the number of job losses has not yet reached high enough levels for us to say that the economy may be heading over the cliff and into recession.”

In five months, consumer spending has seen the smallest growth

Consumer spending, which accounts for more than two-thirds of U.S. economic activity, gained 0.2 per cent in May, the smallest rise in five months. Data for April was revised down to show outlays increasing 0.6 per cent instead of 0.9 per cent as previously reported.

Also, data from January was revised downwards, indicating a weaker growth profile for spending in this year.

Motor vehicles dragged down the spending on goods that are designed to last for three years or more by 3.2 percent. As well as furniture and durable household equipment, purchases of recreational goods and vehicles also fell. That partially offset a 0.7 per cent increase in services, which was driven by housing and utilities as well as health care and international travel.

Reuters polled economists and found that they expected consumer spending to rise 0.4%. The report joined data on housing starts, building permits and manufacturing production in suggesting that the economy was struggling to gain altitude after gross domestic product dropped at an annualized 1.6 per cent rate in the first quarter.

Wall Street stocks were lower. The dollar was stable against a basket currency. The U.S. Treasury price rose.

Inflation peaked

The U.S. central banks increased their policy rate by three-quarters a percentage point this month. This is the largest increase since 1994. Since March, the Fed increased its benchmark overnight interest rates by 150 basis points.

May saw inflation maintain its upward trend. The personal consumption expenditures (PCE) price index rose 0.6 per cent last month after gaining 0.2 per cent in April. In the 12 months through May, the PCE price index climbed 6.3 per cent after a similar gain in April. It was driven mainly by higher prices for goods, and services.

However, the underlying pressures on prices are starting to ease. Excluding the volatile food and energy components, the PCE price index rose 0.3 per cent for the fourth straight month.

The so-called core PCE price index advanced 4.7 per cent on a year-on-year basis in May, the smallest increase since last November, after rising 4.9 per cent in April. The PCE price indexes are the Fed’s favoured measures for its two per cent inflation target.

The PCE price indexes are running lower than the consumer price index, which increased 8.6 per cent year-on-year in May, because they have a smaller weight for the fast rising residential rents.

Although health care is given a greater weighting in the PCE measures than other sectors, legislated cuts to Medicare payments have helped lower medical services prices. They have also benefited as a result of falling financial services costs and falling asset prices.

“Data for July and June could also show similar soft PCE relative to CPI. However we expect the Fed to see evidence that inflationary pressure is slowing across a range data points before slowing rate hikes.” saidVeronica Clark is an economist at Citigroup New York.

A downside risk to economic expansion

Consumer spending adjusted for inflation fell 0.4 per cent in May, the first drop since December. This combined with strong inventory accumulation in Q1, especially at general merchandise shops, creates a downside risk for economic growth.

Growth estimates for this quarter range from as low as a 0.3 per cent rate to as high as a 2.9 per cent pace.

With a tight labour market that has seen solid wage increases and ample household savings, moderate nominal spending is expected, supported by services. This should limit job loss.

Wages increased 0.5 per cent in May, contributing to the 0.5 per cent rise in personal income. The saving rate rose to 5.4 per cent, the first increase this year, from 5.2 per cent in April.

A separate report from U.S. Labour Department indicated that initial claims to state unemployment benefits fell by 2,000 to a seasonally adjusted 231,000 during the week ended June 25,

“The labour market is tight, as providing services accounts to disproportionately more jobs that producing goods,” saidBill Adams is the chief economist at Comerica Bank, Dallas. “This decreases the self-reinforcing transfer of lower spending to job reductions to lower incomes and further lower spending.