Producer Price Index Retreat Strengthens Expectations for Fed Rate Cut Next Week
Data from the U.S. Bureau of Labor Statistics shows that the Producer Price Index fell 0.1% month-over-month in August and rose 2.6% year-over-year, still above the Fed's 2% target. Despite inflationary pressures from tariffs, the retreat in the PPI strengthens the case for a Fed rate cut next week. The market sees a rate cut on September 17 as nearly certain, with the probability of a cumulative 75-basis-point cut by year-end rising to 73%.
Key Points
- The U.S. Producer Price Index (PPI) unexpectedly fell 0.1% month-over-month in August, with service costs declining 0.2%. Despite high tariffs pushing up inflation, the data provides support for the Federal Reserve to begin its first rate cut of the year next week.
- Data released by the Bureau of Labor Statistics on Wednesday showed that PPI rose 2.6% year-over-year, still above the Fed's 2% long-term inflation target.
- Scott Helfstein, head of investment strategy at Global X, said in an email: "This better-than-expected and relatively moderate producer price report is both good news and bad news. Input costs may be under control, but this could raise concerns about an economic slowdown." He expects the Fed to cut its benchmark interest rate on September 17.
In-Depth Analysis
The latest PPI data contrasts with other recent signs that price pressures remain persistently above the Fed's target. Excluding volatile food and energy prices, core inflation, as measured by the Personal Consumption Expenditures (PCE) price index, edged up to 2.9% in July.
The core Consumer Price Index (CPI) rose 3.1% year-over-year in July. August CPI data will be released on Thursday, serving as the final major price report before Fed officials meet for their monetary policy meeting on September 16-17.
After the PPI data release, interest rate futures traders increased their bets that the Fed will cut rates by at least 75 basis points cumulatively by December. On Wednesday, they priced in a 73% probability of this outcome, up from 69% on Tuesday, according to CME Group's FedWatch tool. Traders see a zero probability that the benchmark rate range of 4.25%-4.5% will be maintained at next week's policy meeting.
In recent weeks, Fed officials have expressed concern over signs of weakness in the labor market and have signaled a leaning toward easing policy, even though inflation remains above target. Some policymakers have also recently stated that the Trump administration's tariffs may only cause a temporary rise in price pressures rather than a sustained increase.
New York Fed President John Williams said on September 4: "I have not seen signs of second-round effects from tariffs broadening across overall inflation trends." He expects import tariffs to push up prices by 1% to 1.5%, but their inflationary impact will fade by the second half of 2026.
Williams noted that long-term inflation expectations remain stable, which is a positive signal for price stability. A monthly survey released by the New York Fed on Monday showed that consumers expect inflation of 3% over the next three years and 2.9% over the next five years.