Fed Rate Hike Possible as Inflation Holds at 3.4%

Is an interest rate hike imminent? New inflation data has financial experts predicting a rate increase next week. Here is a look at the data and what this means for a sputtering U.S. economy.

Consumer Prices Hold Steady

Consumer prices increased at a 3.4% annual rate in August, coming in at the same pace as July. The report from the U.S. Bureau of Labor Statistics (BLS) and its Consumer Price Index (CPI) has increased the odds that the Federal Reserve will increase interest rates in an attempt to prevent future price jumps.

Inflation has been on an upward trajectory since the start of the war with Iran. The nation's central bank is scheduled to meet next week to decide how to proceed with the interest rate as they try to slow down inflation.

According to the BLS, prices increased 0.4% in August, a significant acceleration from July's 0.1% rate. Gas prices were also up 3.9%, translating to roughly a third of the overall increase.

The most concerning aspect of the August data is that inflation has expanded beyond what Americans are paying for fuel. Core inflation rates increased 2.4% in the 12 months ending in August. This figure takes out food and energy costs, meaning that prices everywhere are up.

The worrisome data has led Wall Street to boost the chance of a rate hike from 70% on Thursday to 90% on Friday.

Not surprisingly, the spiraling inflation is negatively impacting how Americans view the economy. A recent University of Michigan consumer sentiment survey demonstrated a 7.5% drop early this month. This is the second-lowest reading since the tool was launched over 70 years ago. The overall favorability of the economy has been lower than during the weeks after 9/11 and the Great Recession.

Joanne Hsu, director of the consumer sentiment survey, noted that “With a resurgence in fuel prices and trade tensions, consumers anticipate greater pressures on their pocketbooks to come."

All Eyes on the Fed

Attention now turns to the Fed and its upcoming meeting. Fed Chairman Kevin Warsh has been hesitant to signal how he sees interest rate decisions unfolding since taking on this role. However, at the Fed's annual conference in Wyoming last month, Warsh hinted that a rate increase is possible if inflation rates do not ease.

Fed Governor Christopher Waller has been more forthcoming about his opinion, saying earlier in the month that he would consider voting for a hike in September if the August data was not promising. Waller said that “It may not take much acceleration in inflation to nudge me into supporting tighter policy."

While higher interest rates are typically rolled out to prevent inflation from deepening, it takes time for these changes to impact the economy in meaningful ways. The full impact of a rate hike or drop can take up to two years to be felt in the broader economic landscape. As such, Fed officials need to be proactive about considering where they expect the economy to be months down the road.

Rising oil prices continue to be a thorn in the economy's side. Diesel prices jumped to a record $6 per gallon on Friday. These prices are not expected to improve anytime soon as there is no end in sight of the war with Iran. The Fed has little control over the soaring oil prices and global conflicts, leaving its hands tied in many regards. Inconsistent and erratic job growth is also weighing down the economy.

Inflation Not Limited to Gas Prices

There is no doubt that oil and fuel prices are responsible for a large portion of the inflation concerns. However, this is not the only sector to blame.

According to the August CPI report, some of the most significant price increases came in the tech sector. The computer software and accessory prices category notched its largest annual price increase on record, coming in up 25.4% for the 12-month period ending in August. For instance, computer and smart home assistants were plagued by a jump of 8.4% compared to last year.

A silver lining of this report was that smartphone prices came down 12.2% compared to last year. The trend is likely to change in the near future after Apple recently announced that it is increasing prices of older models by $100 when it rolls out its next-generation phones. Apple is blaming the price increase on rising costs of producing chips.

Other categories that saw sharp increases include vehicle maintenance, rental cars, nursing home care, and daycare and preschool costs. The crackdown on immigrant workers is partially responsible for the shortages in eldercare and childcare workers, spurring the higher costs in these categories. For instance, more than half of the 330,000 Haitians who lost their Temporary Protected Status (TPS) at the end of July were working in the care economy.

Lastly, corporate America is warning consumers that it could get worse before it gets better. Many large corporations have been bailed out by tariff refunds. However, CEOs are now warning investors that these benefits will soon fall off their balance sheets. Until now, corporations have been able to absorb rising fuel costs with the refunds. The companies will be left with fewer options to mitigate these costs in the future, forcing them to pass the buck to consumers.

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