US Consumer Price Index set to give last inflation snapshot ahead of Federal Reserve meeting

The US Consumer Price Index is forecast to rise 2.6% YoY in August, at a softer pace than July’s 2.9% increase.
Annual core CPI inflation is expected to hold steady at 3.2%.
The inflation data could alter the odds of a 50 bps Fed rate cut in September and rock the US Dollar.

The Bureau of Labor Statistics (BLS) will publish the highly anticipated Consumer Price Index (CPI) inflation data from the United States (US) for August on Wednesday at 12:30 GMT.

The US Dollar (USD) braces for intense volatility, as any surprises from the US inflation report could significantly impact the market’s pricing of the Federal Reserve (Fed) interest rate cut expectations in September.

What to expect in the next CPI data report?

Inflation in the US, as measured by the CPI, is expected to increase at an annual rate of 2.6% in August, down from the 2.9% rise reported in July. The core CPI inflation, which excludes volatile food and energy prices, is seen to stay unchanged at 3.2% in the same period.

Meanwhile, the CPI and the core CPI are both forecast to rise 0.2% on a monthly basis, matching July’s increase.

Previewing the August inflation report, “we expect core CPI prices to remain largely under control in August, printing a fourth consecutive gain under 0.2% m/m. Services inflation will play a key role owing to cooling shelter prices,” said TD Securities analysts in a weekly report. “Headline inflation likely also stayed subdued with energy prices returning to deflation. Our unrounded core CPI forecast at 0.14% m/m suggests larger risks toward a rounded 0.2% increase.”

Following several soft inflation readings in a row, Federal Reserve policymakers made it clear that they will shift their focus to the labor market amid growing signs of a cooldown. “We have a little more tolerance for an upside surprise on CPI as the longer arc shows inflation coming down,” Chicago Fed President Austan Goolsbee said recently.

Economic Indicator

Consumer Price Index ex Food & Energy (YoY)

Inflationary or deflationary tendencies are measured by periodically summing the prices of a basket of representative goods and services and presenting the data as the Consumer Price Index (CPI). CPI data is compiled on a monthly basis and released by the US Department of Labor Statistics. The YoY reading compares the prices of goods in the reference month to the same month a year earlier. The CPI Ex Food & Energy excludes the so-called more volatile food and energy components to give a more accurate measurement of price pressures. Generally speaking, a high reading is bullish for the US Dollar (USD), while a low reading is seen as bearish.

Why it matters to traders?

The US Federal Reserve has a dual mandate of maintaining price stability and maximum employment. According to such mandate, inflation should be at around 2% YoY and has become the weakest pillar of the central bank’s directive ever since the world suffered a pandemic, which extends to these days. Price pressures keep rising amid supply-chain issues and bottlenecks, with the Consumer Price Index (CPI) hanging at multi-decade highs. The Fed has already taken measures to tame inflation and is expected to maintain an aggressive stance in the foreseeable future.

How could the US Consumer Price Index report affect EUR/USD?

The market anticipation of a 50 basis points Fed rate cut in September will be put to the test when September inflation data is released.

Following the mixed August jobs report, the probability of the Fed lowering the policy rate by 50 bps at the upcoming meeting declined below 30% from nearly 50% earlier in the month, according to the CME Group FedWatch Tool. The US Bureau of Labor Statistics announced on Friday that Nonfarm Payrolls rose 142,000 in August. This reading followed the 89,000 (revised from 114,000) increase recorded in July and fell short of the market forecast of 160,000. On a positive note, the Unemployment Rate edged lower to 4.2% from 4.3% in July and the annual wage inflation, as measured by the change in the Average Hourly Earnings, rose to 3.8% from 3.6%.

The market positioning suggests that it will take a significant miss in the CPI data for investors to reconsider a large rate reduction next week. In case the monthly core CPI comes in at 0% or in negative territory, the immediate reaction could revive expectations for a 50 bps cut and trigger a US Dollar (USD) selloff. On the other hand, an increase of 0.3%, or stronger, could confirm a 25 bps cut and help the USD stay resilient against its rivals. However, the fact that such a rate decision is already strongly priced in shows that the USD doesn’t have a lot of room on the upside.

Eren Sengezer, European Session Lead Analyst at FXStreet, offers a brief technical outlook for EUR/USD and explains: “EUR/USD’s near-term technical picture highlights a lack of buyer interest. The pair stays well below the 20-day Simple Moving Average (SMA) and the Relative Strength Index stays near 50.”

“EUR/USD could face first support at 1.1000, where the Fibonacci 38.2% retracement of the two-month-long uptrend that started in late June is located. Below this level, the 50-day SMA and the Fibonacci 50% retracement form the next support area at 1.0950-1.0930. On the other side, in case the pair clears 1.1070-1.1080 (Fibonacci 23.6% retracement, 20-day SMA) resistance, it could target 1.1200 (end-point of the uptrend) and 1.1275 (July 18, 2023, high) next.”

Interest rates FAQs

What are interest rates?

Interest rates are charged by financial institutions on loans to borrowers and are paid as interest to savers and depositors. They are influenced by base lending rates, which are set by central banks in response to changes in the economy. Central banks normally have a mandate to ensure price stability, which in most cases means targeting a core inflation rate of around 2%. If inflation falls below target the central bank may cut base lending rates, with a view to stimulating lending and boosting the economy. If inflation rises substantially above 2% it normally results in the central bank raising base lending rates in an attempt to lower inflation.

How do interest rates impact currencies?

Higher interest rates generally help strengthen a country’s currency as they make it a more attractive place for global investors to park their money.

How do interest rates influence the price of Gold?

Higher interest rates overall weigh on the price of Gold because they increase the opportunity cost of holding Gold instead of investing in an interest-bearing asset or placing cash in the bank. If interest rates are high that usually pushes up the price of the US Dollar (USD), and since Gold is priced in Dollars, this has the effect of lowering the price of Gold.

What is the Fed Funds rate?

The Fed funds rate is the overnight rate at which US banks lend to each other. It is the oft-quoted headline rate set by the Federal Reserve at its FOMC meetings. It is set as a range, for example 4.75%-5.00%, though the upper limit (in that case 5.00%) is the quoted figure. Market expectations for future Fed funds rate are tracked by the CME FedWatch tool, which shapes how many financial markets behave in anticipation of future Federal Reserve monetary policy decisions.

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