- U.S. core inflation expected to match record low, challenging the Fed
- U.S. consumer sentiment expected to edge higher in late June
- May U.S. personal income and spending expected to partially reverse April’s spikes
U.S. core inflation expected to match record low, challenging the Fed — The consensus is for today’s May PCE deflator to be unchanged from April’s 4-year low of +0.5% y/y. The headline deflator is expected to stabilize in May partly because of the sharp rally in oil prices seen in May after April’s plunge into negative territory. The PCE deflator is the Fed’s preferred inflation measure.
Meanwhile, today’s May core PCE deflator is expected to edge lower to +0.9% y/y from April’s 9-year low of +1.0%. Today’s expected report of +0.9% would match the record low for the series (data since 1960), which was posted on several occasions in 2009 and 2010.
The fact that today’s core PCE deflator is expected to match its record low will clearly draw the Fed’s attention. The Fed, like the ECB and BOJ, is trying to prevent deflationary psychology from taking hold since that could be self-reinforcing and could cause consumers to curb their spending (since they expect to be able to buy products cheaper down the road). Japan’s economy has been teetering on the edge of deflation for years, which has been one reason for its lackluster economy.
Expectations for U.S. deflation could also cause nominal interest rates to turn negative, which the Fed is desperately trying to avoid. The Fed is not impressed by how negative interest rates have worked in Europe and Japan. The Fed also believes negative interest rates would be harmful for individual savers and bank profit margins. Left unsaid, the Fed is also fearful that negative interest rates could cause a run on U.S. money market funds and cause a new systemic crisis in the U.S. financial system.
The Fed is therefore battling the economic downturn and deflationary pressures with almost every tool in the shed. The Fed is targeting the funds rate near zero and has a $120 billion per month QE program. The Fed has also sidestepped the banking system with its nine specialty lending programs that are providing credit directly to businesses and the markets.
While today’s PCE deflator is expected to match its record low of +0.9% y/y, the Fed has at least made some headway in boosting inflation expectations looking ahead. The 10-year breakeven inflation expectations rate has recovered from March’s nadir of 0.47% to the current level of 1.33%. However, the breakeven rate is still about 30 bp below the 1.65% level that prevailed before the pandemic.
The recovery in the 10-year breakeven rate to 1.33% suggests that the Fed has made progress in boosting inflation expectations through its massive monetary stimulus efforts. The U.S. federal government has also done its part to support inflation expectations by giving direct stimulus payments to individuals and providing bonus unemployment benefits.
While the Fed has pushed inflation expectations higher from its April lows, the market is still expecting inflation to fall far short of the Fed’s +2.0% inflation target. Given the difficulties that the ECB and BOJ had in boosting inflation even before the pandemic, the Fed will likely need a matter of years to push inflation back up to its 2.0% target. That will mainly involve a long period of extremely low interest rates and much more QE.
U.S. consumer sentiment expected to edge higher in late June — Today’s final-June University of Michigan U.S. consumer sentiment index is expected to be revised higher by +0.3 points from early-June to 79.2, which would produce a +6.6 point rise from May rather than the +6.3 point increase seen in the preliminary-June report.
The U.S. consumer sentiment index plunged by a total of -19.2 points in March-April to an 8-1/2 year low of 71.8, but then partially recovered by +0.5 points in May and by another +6.6 points in early June.
It is notable that the U.S. sentiment index in April did not fall as far as it did during the Great Recession. That was likely because consumers this time around were hoping for a brief shutdown of the U.S. economy and a quick return of jobs. Consumer sentiment was also underpinned by the government’s stimulus checks and bonus unemployment benefits. Consumers also gained encouragement from the sharp recovery in the stock market.
However, the situation has now turned bleak again with this week’s record high in the number of new daily Covid infections. The U.S. is clearly going to have a tough time until there is an effective and widely available vaccine. In the meantime, it will be a long slog for the economy to get back to normal. Consumer sentiment could stagnate in coming weeks due to the surge in the pandemic and the overhang of massive job losses and business shutdowns.
May U.S. personal income and spending expected to partially reverse April’s spikes — The consensus is for today’s May personal spending report to show a sharp increase of +9.0% m/m, which would partially reverse April’s plunge of -13.6% m/m that was seen while the U.S. economy was largely on lock-down.
Meanwhile, today’s May personal income report is expected to show a -6.0% m/m decline, reversing part of April’s surge of +10.5% m/m. U.S. personal income spiked higher in April, mainly because of the U.S. federal government’s stimulus checks to many Americans. Some of those stimulus checks were still being sent out in May, which will continue to support personal income in May. After May, however, personal income is likely to fall sharply as the massive level of unemployment takes its toll.
