Suspense Builds for Fed as Growth Downshifts and Inflation Lingers
Recent data call into question chances of Fed rate cuts this summer
By Aaron Back
U.S. retail sales rose a seasonally adjusted 0.6% in February, below economists’ expectations. PHOTO: JOHN TAGGART/BLOOMBERG NEWSA mixed set of economic data over the past week delivered a whiff of the dreaded S-word: Stagflation. But only a whiff.
First, consumer price inflation in February came in slightly higher than expected.
Then retail sales for the month disappointed, with a downward revision to January as well, and February producer prices also came in on the warm side.
On Friday, a preliminary reading from the University of Michigan’s consumer sentiment survey showed a decline to 76.5 in March from 76.9 previously, against expectations for a slight rise.
Taken together, the data hinted at a possibility that would spook investors: that growth could keep slowing even while inflation plateaus, making it difficult for the Federal Reserve to cut rates this summer. 
The likelihood of a quarter-point cut by June, as implied by markets, has fallen to 50.4% from 57.4% a week ago, according to the CME FedWatch tool.
The implied chance that the Fed could stand pat through its July meeting has risen to 24.1% from just 8.1% a week ago.
In a note on Thursday, Bank of America strategists argued that the macroeconomic picture is “flipping from goldilocks to stagflation,” which they defined as growth below 2% and inflation of between 3% and 4%.
They highlighted trades that could benefit from stagflation such as gold, crypto and cash.
But investors should keep the bigger picture in mind.
Growth, while coming off the boil, is still solid.
And inflation is well below where it was just a few months ago.
Taking into account the latest consumer and producer inflation readings, economists at Goldman Sachs inched up their estimate for the February core personal-consumption expenditures price index, the inflation measure favored by the Fed, by 0.02 percentage point.
They now expect it rose 2.8% in February from a year earlier.
That would be unchanged from January, but down from 3.2% as recently as November.
Meanwhile they expect first-quarter gross domestic product growth of 1.7% on an annualized basis, down from an earlier estimate of 2.1%.
Industrial production ticked up by 0.1% in February, compared with a 0.5% decline in January. PHOTO: JON CHERRY FOR THE WALL STREET JOURNALFurthermore, there continued to be encouraging signs on the supply side of the U.S. economy.
Industrial production ticked up by 0.1% in February, compared with a 0.5% decline in January, data from the Fed showed on Friday.
The February headline figure was pulled down by a 7.5% drop in utility output because of warmer-than-typical temperatures.
Manufacturing output rose 0.8% and business equipment production jumped 1.7%, with broad-based gains across transport, industrials and information processing, which analysts at Capital Economics wrote “bodes well for equipment investment in the first quarter.”
In short, the U.S. economy appears to be entering a new phase, with rapid disinflation being replaced by a slower slog downward.
Meanwhile, business investment is at least partly taking the baton from consumer spending as a growth driver.
Investors will get a better idea what this means for the Fed’s plans when it releases a new set of economic and rate projections at its policy-setting meeting next week.
But it is a far cry from stagflation.
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