The Bureau of Economic Analysis revealed that total Personal Consumption Expenditure (PCE) deflator inflation slowed further in August, but core and super core inflation ticked up year-over-year. Meanwhile, household income growth was revised upward over the last year and continues to grow, and consumers remain content to spend (Figure 1).

Figure 1. Consumers continued to spend over July-August span

Sources: Bureau of Economic Analysis and The Conference Board.

Trusted Insights for What’s Ahead™

• Ongoing moderation in total inflation towards the Fed’s 2-percent target supports further interest rate cuts.
• However, robust household spending especially on services, and a continued influx of income, especially from employment, poses upside risk to real GDP growth.
• Moreover, heavy consumption of services may continue to place upward pressure on super core Inflation given strong consumer demand and labor shortages that are keeping wage and benefits growth elevated.
• Indeed, both core (total less food and energy) and super core inflation (services less housing and energy) hastened on a year-over-year basis after several months of cooling.
• Stalling of inflation’s progress toward stabilization at the target, strong real GDP growth, and/or continued health in the labor market, might warrant more measured interest rate cuts ahead.
• Markets are pricing in another 50bp of cuts in November and some Fed officials are also expressing support for going big once again.
• Other observers, including The Conference Board, believe that just as there are downside risks to the outlook, there are upside risks to forthcoming data releases that may render a 25bp cut, or even a pause, more appropriate.
• For now, we maintain our calls for 25bp cuts at each the November and December 2024 meetings.
• Conditions that would change our call to 50bp in November include, material deterioration in labor market data, weaker-than-expected domestic demand, and/or a faster pace of cooling in consumer inflation.
• Conditions that would prompt us to propose a November pause would include major upside surprises in labor and GDP data and stalling or even reversal of the progress in inflation back to target.

Report Highlights

Underlying price stall

Total PCE rose by 0.1 percent month-over-month in August after increasing by 0.2 percent in July. Prices for goods fell by 0.2 percentage point in the month, while prices for services were up 0.2 percentage point. Core PCE, which excludes food and energy from the total, rose by 0.1 percent month-over-month. On a year-over-year basis, total PCE inflation slowed to 2.2 percent in August from 2.4 percent in July (Figure 2). However, core inflation rounded up to 2.7 percent year-over-year in August after rounding down to 2.6 percent in July. Super core inflation picked up pace to 3.3 percent year-over-year in August from 3.2 percent in July.

Figure 2. Total PCE inflation slowed but core and super core ticked up

Sources: Bureau of Economic Analysis and The Conference Board.

Goods prices in deflation mode

Goods prices are falling year-on-year and have been a major contributor to slowing in overall PCE inflation. Prices for big ticket items like motor vehicles, furniture, and RVs are down compared to last year. Declines in gasoline prices are also helping to offset rising prices for goods, clothing, and other nondurable goods (Figure 3).

Figure 3. Goods prices are falling on a year-over-year basis

Sources: Bureau of Economic Analysis and The Conference Board.

Services inflation challenged by shelter costs and super core

Meanwhile, services inflation continues to cool at a far slower pace. While shelter costs have been calming on a year-over-year basis, progress appears to have stalled in August (Figure 4).  Labor shortages are still placing upward pressure on wages in high demand services industries (e.g., restaurants, childcare) and higher labor costs in these sectors continue to be passed on to the consumer.  Additionally, insurance costs continue to rise year-over-year (e.g., health) or remain extremely elevated (e.g., home, auto). Health insurance likely is climbing as the population ages and requires more care. Home insurance is rising due to more costly natural disaster events, and auto insurance is rising as cars become more high-tech and costly to replace or repair.

Figure 4. Services prices inflation cooling challenged by shelter costs and super core

Sources: Bureau of Economic Analysis and The Conference Board.

Shelter cost inflation outlook sunny

Despite the setback in shelter cost cooling in August, past deceleration in rents and home prices suggest PCE shelter costs should resume slowing going forward (Figure 5). We expect total and core PCE inflation to return to target by mid-2025. However, stalling in this progress might extend the time it takes inflation to stabilize at the Fed’s 2-percent target.

Figure 5. Home prices signal slower shelter cost inflation despite August uptick

Sources: Bureau of Economic Analysis, Bureau of Labor Statistics, S&P, and The Conference Board.

Consumers can’t help but spend

Nominal consumer spending rose by 0.2 percent month-over-month in August following a 0.5 percent gain in July. Real spending rose by 0.1 percent in August after a 0.4 percent increase in July. Real July-August spending was 2.8 percent annualized above the second quarter, following a 2.8 percent annualized gain over the April-June span (Figure 6). The spending data bode well for Q3 real consumer expenditures and for real GDP growth. We project consumer spending rose by 2.0 percent annualized in Q3 and real GDP by 0.8 percent annualized over the same period.

Figure 6. Q3 real consumer spending tracking strongly

Sources: Bureau of Economic Analysis and The Conference Board.

Consumers had more capacity to spend than thought

It is true that consumers are still spending more than they bring home in real after-tax income (Figure 7), but this is only recently after major upward revisions to both income and spending over the last few years (Figure 8 and Figure 9). Real after-tax income was revised up notably, especially in 2024 according to new BEA data, suggesting households had more capacity to spend than originally thought. This is significant, as consumers ran out of stimulus check money in late 2023. We posit that strong employment gains, few layoffs, and elevated wage growth over the last year was a greater support for spending than debt accumulation. The higher rate of income growth and the outsized upward revision in the savings rate provide upside risk to spending ahead (Figure 10).

Figure 7. Consumers more recently spending more than income

Sources: Bureau of Economic Analysis and The Conference Board.

Figure 8. Real after-tax income revised up

Sources: Bureau of Economic Analysis and The Conference Board.

Figure 9. Real consumption also revised up somewhat

Sources: Bureau of Economic Analysis and The Conference Board.

Figure 10. Savings rate revised up materially

Sources: Bureau of Economic Analysis and The Conference Board.

Debt spending warrants continued monitoring

We remain concerned about households that have accumulated a sizable degree of debt and associated interest payments over the last few years (Figure 11). The upward revision to aggregate incomes suggests that perhaps fewer households are under material duress. Moreover, considerable rate cuts over the course of the next year should be beneficial for providing relief for households that levered up. Still, household may devote more income to paying down those debts going forward which is a downside risk to consumption and GDP ahead.

Figure 11. Debt accumulation warrants further monitoring

Sources: Bureau of Economic Analysis, Federal Reserve, and The Conference Board.