Inflation cools, giving more likelihood for interest rate cuts soon
Susan Tompor, Detroit Free Press
Updated 5 min read
A month from now, we might finally see the start of what could be a fairly long, drawn out, goodbye to supersized interest rates.
Inflation has cooled considerably. The consumer price index posted its smallest year-over-year increase — up 2.9% in July — in more than three years going all the way back to March 2021, according to data released Wednesday by the U.S. Bureau of Labor Statistics.
"The CPI numbers strongly suggest inflation is consistent with the Fed’s inflation target, and when combined with the softer job market data and extraordinary volatility in global financial markets, are a bright green light for a rate cut in September," said Mark Zandi, chief economist for Moody's.
The Fed has a 2% inflation target and has been extremely reluctant to roll out the first rate cut until inflation is well under control. Fed officials say they won't wait until the 2% rate is hit. Some, including Zandi, maintained that the Fed should have cut rates already this summer.
Inflation is cooling from its high points in 2022. Food at home was up 1.1% year-over-year in July, according to the latest data. Eating out, though, cost consumers much more, as food away from home was up 4.1% in July year-over-year. File art: Shopper at supermarket in Canton in 2022.
Prices aren't rising as fast as they once did
Many consumers, naturally, aren't happy with the prices they still see at the store or on restaurant menus. But prices aren't going up as much as they had been.
Overall prices for a category called "food at home" was up 1.1% year-over-year. Eating out, though, cost consumers much more, as food away from home was up 4.1% in July year-over-year.
The category called "meat, poultry, fish, and eggs" was up 3% year-over-year.
The consumer price index was up 0.2% on a month-to-month basis in July after posting a decline of 0.1% in June.
The big trouble spot centered on how much people spend for rent and housing. The index for shelter rose 0.4% month-to-month in July, and according to the Bureau of Labor Statistics that accounted for nearly 90% of the monthly increase in the overall CPI. Shelter rose 5.1% year-over-year.
Zandi said he wouldn’t read anything into the month-to-month data relating to the cost of shelter, which he says is "extraordinarily difficult to measure accurately."
When you cut through the noise in the data, Zandi said, the growth in the cost of housing is slowly moderating.
Car prices, too, are coming down. New vehicle prices are down 1% in the past 12 months through July, based on the latest data. And used car and truck prices tumbled by 10.9% year-over-year, representing the biggest drop in any category.
Where will interest rates go?
Unfortunately, consumers aren't going to see dramatic reductions in the cost of borrowing immediately.
It remains debatable whether the Federal Reserve will cut interest rates by a quarter of a percentage point or, perhaps move more aggressively, and cut rates by half of a percentage point at the next meeting on Sept. 17 and Sept. 18.
Zandi said he would expect the Fed to begin cutting rates in 2024 with one quarter percentage point in September, and then another quarter point cut in December. Diane Swonk, chief economist at KPMG, issued a report Wednesday saying that we're likely to see a "one-half percentage cut in September to ensure the labor market remains on solid footing."
But more analysts express confidence in the likelihood that the Fed will cut rates in September. It would be the first rate cut since the Federal Reserve began a series of 11 rate hikes that kicked off in March 2022 and ended in July 2023.
The federal funds rate currently remains within a target range of 5.25% to 5.5% — which is where short-term rates have been since late July 2023. One has to go back to late January 2001 — or more than 23 years — to see the federal funds target as high as 5.5%.
September would mark only the beginning of a series of interest rate cuts by the Federal Reserve that would extend into 2025 and possibly into 2026. A year from now, though, interest rates should be considerably lower.
Again, we saw rates climb up over many months and they're likely to fall over time, as well.
"The Fed has pushed rates higher by 5.25 percentage points since March 2022 and it's the cumulative effect that's most important," said Ted Rossman, senior industry analyst for Bankrate.com.
"At least the worst is over in terms of interest rate increases."
One quarter-point rate cut would only drive the average credit card rate down to 20.54% from a record 20.79% currently, Rossman said.
"That's not going to provide much relief."
Again, consumers will see more relief on their credit card rates as the Fed initiates rate cuts at its meetings ahead.
Mortgage rates, which are not directly determined by the short-term federal funds rate, already began falling as bond markets anticipate the start of an upcoming round of Fed rate cuts.
But again, many homebuyers are still priced out of the market by high rates and high home prices. The average 30-year mortgage rate fell to 6.47% in early August, the lowest level in more than a year, based on U.S. weekly average data issued Aug. 8 by mortgage buyer Freddie Mac. That's down nearly a half of a percentage point from a year ago. Mortgage rates had spiked to a 23-year high as of 7.79% in October 2023.
Rossman said mortgage rates would need to fall below 6% — or maybe even below 5% — for many people to feel better about taking out a mortgage.
Some analysts say the 30-year fixed mortgage rate could ultimately settle between 5.5% to 6% by early 2026.
Zandi said he would expect the funds rate to be 4% on August 2025 and 3% on August 2026. "I expect the 30-year fixed mortgage rate hovering near 6% by this time next year," Zandi said.
