Party Crasher

Those hoping for one more dovish surprise on the inflation front before the weekend were disappointed on Friday.

Longer-term inflation expectations from the University of Michigan’s consumer sentiment survey ticked higher in the preliminary read for August, touching 3% after receding last month. It was a bit of a party crasher.

As most readers are acutely aware, a worrying uptick in 5-10 year expectations in the Michigan poll was in part responsible for the Fed’s decision to upsize June’s rate hike. That month, an initial reading of 3.3% was insult to injury following a disconcerting CPI report released less than two hours earlier. The combination of the two data points, which hit on a Friday during the Fed’s pre-meeting quiet period, tipped the scales in favor of a 75bps hike, which was telegraphed one business day later by the Wall Street Journal‘s Nick Timiraos.

The offending print was later revised lower, to 3.1%, and it dropped again in July to 2.9%. The preliminary print for August thus represented a move back in the wrong direction (orange in the figure below).

Prices at the pump fell for 59 straight days through Friday. AAA pricing showed the national average dropped back below $4 this week. But it appears lower gas prices are showing up in consumers’ near-term inflation expectations, which dropped to 5% in the Michigan survey, the lowest since February.

Of course, the incrementally unfavorable longer-term reading didn’t completely offset the good vibes from this week’s cooler-than-expected CPI and PPI reports, but it did underscore the notion that the path to lower inflation won’t be smooth. Every data point isn’t going to spell relief.

The Michigan data came on the heels of a relatively benign read on consumers’ inflation outlook from the latest edition of the New York Fed’s survey. In a testament to the impossibility of pinpointing expectations with anything like precision, note that 3% on the Michigan 5-10 year gauge was a tick away from cycle highs, while 3.2% on the New York Fed’s three-year expectations measure was a 15-month low. (Something about blindfolds and darts.)

The headline Michigan sentiment gauge actually improved this month, although that’s a relative term. At 55.1, the index is still loitering near an all-time low (figure below), but managed to beat forecasts. Economists expected 52.5 from the preliminary reading.

The current conditions index faded, but the expectations gauge moved up substantially, from 47.3 to 54.9. “Americans are spending $400 million less per day filling up their gas tanks,” ING noted, editorializing around the 59-day streak mentioned above. “It’s also likely that the 15% bounce in the S&P since June 16 and the ongoing decent labor numbers are providing a bit more support for sentiment,” the bank added.

The improvement in expectations was concentrated among low- and middle-income consumers “for whom inflation is particularly salient,” as the survey’s chief economist, Joanne Hsu, put it Friday. “The year-ahead economic outlook rose substantially to just above its average reading from the second quarter 2022,” she added, before noting that “high income consumers, who generate a disproportionate share of spending, registered large declines in both their current personal finances as well as buying conditions for durables.”

It’s probably best to declare the inflation outlook in flux. In addition to the juxtaposition between slightly higher longer-term expectations and a six-month low on the near-term outlook, inflation uncertainty (as measured by the interquartile range in expectations) fell.

The bottom line for the Fed is that this fight is far from over. Longer-term expectations may be “anchored,” but they’re anchored a full percentage point (or more) above the Fed’s target. As for households, this is very simple. As Hsu noted, “the share of consumers blaming inflation for eroding their living standards remained near 48%.”

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