Macro Consensus Challenger: Weak Demand Keeps Inflation in Check

Summary

• July CPI roughly aligned with expectations.
• The passthrough from US tariffs to goods was weaker than in June.
• Shelter costs were marginally higher but will slow further due to weakening rental and property markets.
• An acceleration in supercore inflation was driven by medical costs, perennial outperformers, and by a bunching of increases in other services prices whose trends remain benign.

Market Implications

• Because the Fed is concerned by a sustained increase in inflation rather than by price increases, I still expect two-three cuts in 2025 starting in September, aligning with market pricing.

CPI Roughly Aligns With Expectations

July CPI roughly aligned with expectations and Sam’s model (Table 1).

Although MoM core CPI accelerated, details show inflation trends remain benign, largely due to demand weaknesses.

Table 1: MoM CPI Roughly Aligned With Expectations

Table 2: Higher July Core CPI MoM

Weaker July Tariff Passthrough

The tariff passthrough was more limited in July than June.

July core goods MoM inflation was virtually unchanged at 21bp from June’s 20bp. Excluding used cars, core goods inflation slowed to 17bp from June’s 32bp. Goods with high import penetration, such as consumer electronics, household furnishing and clothes, slowed markedly while new car prices were flat (Chart 1).

The slowdown in core goods ex-used cars inflation is against rising tariffs (Chart 2). Actual average effective tariff will not be known until 29 August, when the goods trade balance is released. However, given the gap between the Trump administration’s desired and actual tariffs, it is likely the latter increased in July.

The combination of weaker core goods inflation and higher tariffs implies lower passthrough. Exporters, importers, wholesalers and retailers have partly absorbed tariffs (Chart 3).

Used car prices increased 48bp, but this follows four months of deflation with prices still below January levels, suggesting this month could have been a one-off.

Food and energy, including housing fuels, fell MoM though the trend for food and housing fuels remains upward (Chart 4)

Chart 1: Weaker July Tariff Passthrough	Chart 2: Rising Effective Tariffs
Chart 3: Exporters Partly Absorbing Tariffs	Chart 4: Food Prices Rising

Shelter Disinflation to Continue Due to Demand Weaknesses

July shelter costs MoM increased marginally to 23bp from June’s 18 bp (Table 3). The increase was driven by a smaller decline in lodging away from home as OER was virtually unchanged (Chart 5).

OER and shelter costs inflation are set to slow further as the rental market is weakening. Market rent inflation is slowing and vacancies are rising (Charts 6 and 7). This likely reflects that income growth has not kept up with housing costs (Chart 8). The US economy is still going through a K-shaped recovery with high-income households doing well but low-income households struggling, as shown for instance by high credit card delinquencies. On average though, households seem to be struggling to afford market rents.

Table 3: Stable OER

Chart 5: Unchanged OER Inflation	Chart 6: Market Rent Inflation Slowing
Chart 7: Rising Vacancies	Chart 8: Weaker Housing Affordability

Administered Prices Drives Supercore Inflation Increase

Supercore services inflation accelerated to 48bp from June’s 21bp (Table 3 and Chart 9). However, details do not suggest a long-term pick up.

First, medical services contributed 20bp of the 48bp increase. Medical services tend to run faster than average core services inflation due to structural inefficiencies, irrespective of demand pressures (Chart 10). Excluding medical services, supercore trends look more benign (Chart 11).

Second, the rise in prices other than medical services largely reflects deflation earlier in the year (Chart 12). No evidence exists of a sustained increase in those prices.

Table 4: Faster Supercore Inflation (MoM)

Chart 9: Higher Supercore Inflation	Chart 10: Medical Inflation Always High
Chart 11: Stable Supercore Ex-Medical Serv.	Chart 12: Stable Services Prices

Market Consequences

The Fed is not concerned by the passthrough from tariffs to prices, which is unavoidable. Rather the Fed is concerned by risks that a price level increase becomes a lasting inflation acceleration.

Chair Powell’s base case is for a price level rather than inflation increase. This month’s CPI print is unlikely to change his view as no signs exist of broadening inflationary pressures beyond tariffed goods and services disinflation continues making up for accelerating goods inflation (Chart 13). Also, the tariff passthrough seems weaker than last month. The Fed is likely to draw further comfort from stable long-term inflation expectations (Chart 14).

Therefore, I still expect two-three cuts this year starting in September, aligning with market pricing. My base case is for a 25bp cut based on unemployment remaining in its 4-4.2% range. This assumes the next NFP and CPI reports still show benign wage growth, no signs of inflation contagion from tariffed goods to non-tariffed goods or to services, and that long-term BEs remain stable, also my base case.

Chart 13: Roughly Stable Inflation Trends	Chart 14: Long-term BEs Remain Stable

(The commentary contained in the above article does not constitute an offer or a solicitation, or a recommendation to implement or liquidate an investment or to carry out any other transaction. It should not be used as a basis for any investment decision or other decision. Any investment decision should be based on appropriate professional advice specific to your needs. You are not permitted to publish, transmit, or otherwise reproduce this information, in whole or in part, in any format to any third party without the express written consent of Macro Hive. This includes providing or reproducing this information, in whole or in part, as a prompt.)