A key inflation gauge showed price hikes slowed last month. But economic jitters remain

By Alicia Wallace, CNN

(CNN) — US wholesale inflation slowed as expected in July, easing after an unexpected flare-up the month before. That sets the stage for an even more crucial reading on price hikes due out Wednesday.

The Producer Price Index, a measurement of average price changes seen by producers and manufacturers, was 2.2% for the 12 months ended in July, a stark pullback from the 2.7% increase registered in June, according to Bureau of Labor Statistics data released Tuesday.

On a monthly basis, prices rose 0.1%, a slower pace than the 0.2% increase seen in June.

Economists had expected that prices would increase 0.2% on a monthly basis and slow to 2.3% annually, according to FactSet estimates.

The Dow jumped 409 points, or 1%, on Tuesday as investors cheered the slowdown in price hikes. The S&P 500 gained 1.7% and the Nasdaq Composite added 2.4%.

PPI serves as a potential bellwether for retail-level inflation in the months ahead. On Wednesday, the BLS will release the Consumer Price Index for July, providing a critical look at how prices are changing for consumers in their everyday lives.

The modest monthly increase in the overall PPI was attributed to a 0.6% jump in goods prices, according to the BLS report. Services prices fell 0.2%, a decrease driven mostly by a correction in the volatile trade services category (a measurement of margins), which fell 1.3% after leaping 1.4% in June and creating a deceptively strong overall PPI reading that month.

When stripping out energy and food prices — categories that also tend to be volatile — core PPI prices were flat for the month, bringing down the annual gain to 2.4%, its lowest since March.

“Markets searching for stability just got more evidence of cooling inflation,” Chris Larkin, managing director of trading and investing for E*Trade, said in commentary issued Tuesday. “[The July] PPI may be the appetizer for [Wednesday’s] CPI main course, but the lower-than-expected reading will probably be welcomed by a stock market attempting to bounce back from its biggest pullback of the year.”

All eyes on CPI

This week’s inflation data, especially Wednesday’s CPI, is expected to be closely scrutinized as it’s coming on the heels of an unexpectedly weak jobs report that sent markets into a tailspin last week.

The PPI, although closely watched because it shows how inflation is trending upstream of the consumer, typically plays second fiddle to CPI and lands a day after its retail-level counterpart.

This month, however, PPI is serving as the opening act — and all eyes are on the headliner.

Economists expect CPI to show that inflation continues to wane, although the progress will appear much more gradual than Tuesday’s data.

The CPI for July is expected to show “that the disinflation process continues, and that it remains on track,” Lydia Boussour, senior economist at EY-Parthenon, told CNN in an interview on Monday.

The forecasts are for CPI to rise 0.2% from June, likely pushed higher by rising gas prices, and hold steady at 3% annually, according to FactSet estimates. Core CPI is expected to rise 0.2% as well but slow on an annual basis to 3.2%.

It’s possible that the headline CPI reading could move higher than anticipated for July, likely reflecting that gas prices are no longer the drag they were in May and June, Boussour said. However, she noted that food prices should remain fairly tame and should help to counter the increase on the energy side.

The biggest piece to watch will be shelter inflation, which has long been the outsized contributor to high inflation. However, shelter inflation has slowed in recent months and the CPI’s measurement of housing-related prices (a lagged and amorphous process that includes estimating the rental value of owner-occupied homes) is now starting to better reflect the slower rent hikes seen in real life.

In June, the shelter index rose just 0.2%, the slowest monthly increase in three years. On an annual basis, shelter-related price-hikes rose 5.2%, the slowest reading in two years.

“We have to see whether we get confirmation that we’ve taken a step down from the stronger pace that we had seen at the beginning of the year or whether that was a one-off,” she said. “We do expect that softer momentum to be sustained in the latest reading.”

Given inflation’s trajectory and what Boussour sees as a gradual slowdown in the economy, she’s projecting three quarter-point rate cuts from the Federal Reserve to close out the year and another 1.25 points of cuts in 2025.

But what if CPI comes in hot?

One month does not a trend make, but a hotter-than-anticipated lift in the July CPI could further unnerve already jittery investors and prompt a “quick market reaction” of stagflation fears, said Andy Schneider, senior US economist at BNP Paribas. Stagflation is a period of economic decline combined with rising inflation – the worst of both worlds and a spiral that can be difficult to emerge from.

But those fears are unfounded, he said.

Schneider noted that the current 4.3% unemployment rate, although rising recently, remains well below the average seen during the past 50 years. Inflation, he added, also has cooled significantly since hitting a 40-year high in June 2022.

On top of this, new survey data released this week from the Federal Reserve Bank of New York showed that consumers’ three-year inflation expectations sunk in July to 2.3% — the lowest ever rate seen during the survey that was started in 2013.

Inflation expectations at the one- and five-year horizons held steady at 3% and 2.8%, respectively, according to the New York Fed survey.

“The key variable you need to really seriously entertain a stagflationary environment is inflation expectations that are relatively high,” he said.

Even Federal Reserve Chair Jerome Powell said back in May following a lackluster GDP report and unexpected rise in March CPI, “I don’t see the stag or the ‘flation.”

An acceleration in inflation also likely won’t change the Fed’s calculus for loosening monetary policy, Schneider told CNN. The central bank is widely expected to cut its key benchmark lending rate at its September meeting.

This story has been updated with additional context and developments. As stocks settle after the trading day, levels might change slightly.

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CNN’s Elisabeth Buchwald contributed reporting.