- The US unemployment rate jumped to an unexpected 4.1%.
- The US Consumer Price Index fell by 0.1% in June, the first decline in four years.
- Wholesale inflation increased by 0.2% compared to estimates of a 0.1% increase.
Interest futures surged on Thursday as Treasury yields plunged after a downbeat US inflation report led to an increase in Fed rate cut expectations. The prospect for lower borrowing costs boosted demand for US government debt.
For some weeks now, data from the US has shown weaker economic demand. Consequently, investors have raised bets that the Fed will cut rates in September. The likelihood of such a move went above 70% last week when employment data revealed a smaller addition of jobs in June. At the same time, the unemployment rate jumped to an unexpected 4.1%.
High interest rates have gradually lowered demand in the labor market and the rest of the economy. Therefore, the Fed has to think about balancing growth and inflation. If the economy deteriorates faster than inflation, they might be forced to start cutting rates with the risk that inflation will remain persistent.
In Powell’s testimony, he acknowledged the risk of a decline in the labor market. However, he also emphasized that policymakers need greater confidence that inflation will continue falling to the central bank’s target.
US inflation (Source: US Bureau of Labor Statistics)
Fortunately, data on Thursday confirmed that inflation was in a downtrend. The Consumer Price Index fell by 0.1% in June, the first decline in four years. This came as a surprise since economists had forecasted an increase of 0.1%. Meanwhile, on an annual basis, inflation increased by 3.0% compared to expectations of a 3.3% increase.
There is only one percentage point left to go to the 2% target. Therefore, policymakers should be more confident about progress. As a result, markets increased the likelihood of a September rate cut from 73% to 93%. Short-term yields that reflect rate cut expectations fell after the report, boosting interest futures.
Meanwhile, the PPI report on Friday showed that wholesale inflation increased by 0.2% compared to estimates of a 0.1% increase. However, given the CPI report carries more weight, market participants still expect a cut in September.
As the Fed gets nearer to the start of its rate-cutting cycle, Treasury yields will likely keep declining. This, in turn, will boost interest futures and could be the start of a bull market.
