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June's inflation data shows that the Fed is getting closer to its 2% target

U.S. inflation rate continues its nosediving campaign. Indeed, the U.S. Bureau of Labor Statistics released the latest inflation data on Wednesday, and the data show that inflation declined from 4% in May to 3% in June.

The Consumer Price Index (CPI) in the United States increased by 3.1% in June 2023 compared to the same month last year. This is the lowest annual inflation rate since March 2021. The monthly CPI also increased by 0.3% in June, compared to May.

The main drivers of inflation in June were energy prices, which rose 7.5% from a year ago. Food prices also increased by 1% in June. However, core inflation, which excludes food and energy prices, rose 5% in June, the lowest level since November 2021.

The slowdown in inflation is a welcome development, but it is too early to say whether it is a lasting trend. The Federal Reserve is expected to continue raising interest rates in an effort to cool inflation, and it remains to be seen how these measures will affect the economy.

The Federal Reserve’s aggressive interest-rate hike strategy has proven to be effective. Since the central started propping these interest rates on a quarter-point basis, inflation has been consistently declining. Will the Federal Reserve continue to be as aggressive toward propping up interest rates?

Chair Jerome Powell gave clear signs that the Federal Reserve was not going to stop increasing interest rates until it reached its 2%-target. But that does not mean that the central bank ought to prop up interest rates with the same aggressiveness anymore. As inflation continues its nosediving journey, we shall expect the Federal Reserve to slow the pace of rate hikes.

The Fed is also likely to continue reducing its balance sheet. The Fed's balance sheet has grown significantly in recent years, and this has helped to keep interest rates low. However, the Fed is now in the process of reducing its balance sheet, and this will help to raise interest rates.

Can we then say that the worst of inflation is behind us? Based on the steep decline we witnessed between 2022 and 2023, it is objective to say that inflation is indeed behind us, but this does not mean that we shall start loosening up. Inflation can go back up at any time if prices aren’t stabilized enough.

Inflation, currently at 3%, indicates that the economy is getting closer and closer to a soft landing. We expect the Federal Reserve to raise interest rates again to make inflation decline all the way to its 2%-target, but it needs to be careful not to raise interest rates so high that it would trigger a recession. The Fed will need to carefully monitor the economy and adjust its policies accordingly.


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