US CPI comes in at 2.5% in August
Penelope Graham, Director of Content
The chance of a September rate cut from the US Federal Reserve was clinched this morning, as the latest Consumer Price Index (CPI) report came in lower than expected.
The US Bureau of Labor Statistics reports that the headline inflation number slowed to 2.5% in August, down from 2.9% in July. That marks the second month in a row that the measure has come in below the 3% threshold, and is also the lowest reading seen since February 2021. It also shows significant progress since the CPI hit 9.1% in June 2022 – a 40-year peak.
The report came in slightly below the anticipated consensus of 2.6%, with most of the major CPI components seeing price growth below 1%. Lower energy prices, which fell 2.1% year over year, also largely contributed to the decrease.
Shelter inflation was the main driver behind the increase in the all-items measure, rising 0.5% due to higher rent costs. Food prices, however, remained roughly unchanged at 2.1% year-over-year growth.
Not a question of “if”, but “how much” for Fed cut
Overall, US inflation appears to be slowing at a broad, and sustainable, pace, write RBC economists Nathan Janzen and Abbey Xu.
“While most of the pullback in year-over-year CPI growth in August came from the volatile energy component, underlying details continue to point to softening broader price growth trends. And a gradual updrift in the unemployment rate should signal to monetary policymakers that inflation will continue to drift lower rather than higher,” they wrote in an economic note following the report’s release.
With inflation’s downward trajectory now firmly in place, the question isn’t whether the Fed will cut rates, but by how much, and when. Following the job report-induced stock market slide in early August, some analysts raised concerns that the Fed was already too late to the rate-cutting game, and ought to cut them by larger increments to support the labour market. However, the most recent jobs numbers show that things were firming up compared to July, removing the urgency for the Fed to make a bigger cut.
With all that taken into account, today’s inflation report justifies just a quarter-point cut, write Janzen and Xu.
“The small upward surprise in core price growth reduces the odds (which we already thought were quite low) of a larger-than-normal 50 basis point interest rate cut from the Fed later this month but should do nothing to dissuade the central bank from kicking off a gradual easing cycle with a 25 reduction,” they write.
The US Federal Reserve’s next rate meeting and announcement are scheduled for September 17 -18. A cut would break the rate hold the Fed has maintained since July 2023, and would also be the first downward movement seen since March 2020, when the Federal Funds Rate was slashed to the 0% - 0.25% range as a pandemic response.
What does the US CPI report mean for Canadians?
The saying ‘what’s good for the goose is good for the gander’ applies to North America’s central banks, as the factors informing the Fed’s rate decision – such as inflation and stability in the jobs market – are the same as what's considered by the Bank of Canada.
The Canadian central bank has already kicked off its cutting cycle, lowering its benchmark Overnight Lending Rate – which sets the pricing for lenders’ prime rates – to 4.25% via quarter-point increments made in June, July, and September. Prior, the rate had also remained stagnant at 5% since July 2023, following an aggressive 10-point hiking series that started in March 2022.
Like the US Federal Reserve, the BoC has been fighting to pull inflation down from record highs, with the most recent Canadian July reading coming in at 2.5%. Analysts and markets have already baked in two more cuts in 2024, and potentially another four next year, which could bring the benchmark rate down to 2.75%.
But given how closely intertwined the Canadian and US economies are – our American neighbours account for 75% of Canadian trade – the two central banks can’t deviate too far from each other on rates before it risks weakening the Loonie, and driving inflation back up.
More Canadian rate cuts to come
So, the Federal Reserve preparing to kick off its rate cutting cycle nicely tees up another rate cut from the Bank of Canada in its next announcement on October 23. While a quarter-point cut from the BoC is most likely, Canada’s own CPI report next week will provide more insight as to the size of the decrease.
Once that cut occurs, the prime rate will lower once again across Canada’s lenders and, by extension, variable mortgage rates. Fixed mortgage rates, while not directly impacted by central bank moves, have also been trending lower in recent weeks on lower bond market yields, and further discounts are in store; the Government of Canada five-year yield remained in the 2.7% range following this morning’s announcement, their lowest since March 2023.
Another Bank of Canada rate cut will also impact some banking products, including high interest savings accounts (HISAs) and Guaranteed Income Certificates (GICs), the returns of which are also based on lenders' prime rates.
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Penelope Graham, Director of Content
Penelope has over a decade of experience covering real estate, mortgage, and personal finance topics and her commentary on the housing market is featured on both national and local media outlets.