Today’s data for the May CPI extended the run of soft inflation data: 12-month core CPI inflation dropped to 1.7%, from 1.9% in April. This suggests that 12-month core PCE inflation will likely edge down even further, possibly to as low as 1.4%. The weakness was fairly broad-based, and it’s getting harder to put all the blame on temporary factors. Our call has been for three hikes this year, with an additional hike in September following the one we expect today and an announcement on reinvestment policy in September. Three hikes still seem right, but this report makes a September hike seem less likely. One reason is that there is less of a need to maintain the flexibility to hike a fourth time this year. We still see an announcement on reinvestment policy in September as very likely. Although May retail sales came in below expectations, after factoring in upward revisions to previous months, consumer spending in the current quarter looks at least as strong as we had projected in the most recent forecast—so not much policy-relevant news there.
As for the implications for today’s FOMC meeting, we have little doubt that the FOMC will still hike the fund’s rate. To do otherwise would be a powerful signal of a change in course for policy, strongly at odds with the FOMC’s emphasis on gradually normalizing the fund’s rate as is warranted by the medium-term outlook. We had already anticipated that the FOMC statement’s language on inflation would be adjusted (by removing the qualifier “somewhat”), and after today’s data, we remain comfortable with our guess of how the language might change [link].
We still expect the dots to show a consensus for three hikes in 2017. We’d written in our FOMC Briefing that a few dots at three might move up to four, but this report may have shaken those participants considering such a move. (We should note, however, that participants likely submitted their dots before this report and therefore may have been less inclined to revise.) In reconsidering the prospects for a rate hike in September, we’ll pay close attention to Chair Yellen’s remarks today as well as the updated macro projections and dots.