Wholesale prices fell in July for the first time in two years as a plunge in energy prices slowed the pace of inflation, the Bureau of Labor Statistics reported Thursday.

The producer price index, which gauges the prices received for final demand products, fell 0.5% from June, the first month-over-month decrease since April 2020, the month after Covid-19 was declared a pandemic. Economists surveyed by Dow Jones had been expecting an increase of 0.2%.

On an annual basis, the index rose 9.8%, the lowest rate since October 2021. That compares with an 11.3% increase in June and the record 11.7% gain in March.

Most of the decline came from energy, which dropped 9% at the wholesale level and accounted for 80% of the total decline in goods prices, which fell 1.8%. The index for services rose 0.1%.

Stripping out food, energy and trade services, PPI increased 0.2% in July, which was less than the expected 0.4% gain. Core PPI rose 5.8% from a year ago.

The numbers come a day after the consumer price index showed that inflation was flat in July though up 8.5% from a year ago. The easing in the CPI also reflected the slide in energy prices that has seen prices at the pump fall below $4 a gallon after hitting record nominal levels above $5 earlier in the summer.

“Cooling prices paid by producers portend a further cooling for consumer prices, as producer prices are further up the inflation pipelines,” said Jeffrey Roach, chief economist at LPL Financial. “We expect producer prices to ease as supply chains improve. It could take up to three months for improved supply chains to affect prices for the end consumer.”

Federal Reserve officials are watching the inflation data closely for clues about where the economy stands after more than a year of wrestling with high inflation.

Before July’s easing, prices had been running at their highest levels in more than 40 years. Supply chain issues, demand imbalances, and high amounts of fiscal and monetary stimulus associated with the pandemic had driven the annual CPI rate past 9%, well above the Fed’s 2% long-run target.

This week’s data could give the Fed reason to dial back rate increases that have come in successive 0.75 percentage point increments in June and July. Markets are now pricing in a 0.5 percentage point move in September.

A separate Labor Department report Thursday showed that weekly jobless claims totaled 262,000 for the week ended Aug. 6, an increase of 14,000 from the previous week though 2,000 below the estimate.

Claims have been elevated in recent weeks in a sign that a historically tight labor market is shifting. Continuing claims rose 8,000 to 1.43 million.

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Prices that consumers pay for a variety of goods and services rose 8.5% in July from a year ago, a slowing pace from the previous month due largely to a drop in gasoline prices.

On a monthly basis, the consumer price index was flat as energy prices broadly declined 4.6% and gasoline fell 7.7%, according to the Bureau of Labor Statistics. That offset a 1.1% monthly gain in food prices and a 0.5% increase in shelter costs.

Economists surveyed by Dow Jones were expecting headline CPI to increase 8.7% on an annual basis and 0.2% monthly.

Excluding volatile food and energy prices, so-called core CPI rose 5.9% annually and 0.3% monthly, compared with respective estimates of 6.1% and 0.5%.

Even with the lower-than-expected numbers, inflation pressures remained strong.

The jump in the food index put the 12-month increase to 10.9%, the fastest pace since May 1979. Butter is up 26.4% over the past year, eggs have surged 38% and coffee is up more than 20%.

Despite the monthly drop in the energy index, electricity prices rose 1.6% and were up 15.2% from a year ago. The energy index rose 32.9% from a year ago.

Used vehicle prices posted a 0.4% monthly decline, while apparel prices also fell, easing 0.1%, and transportation services were off 0.5% as airline fares fell 1.8% for the month and 7.8% from a year ago.

Markets reacted positively to the report, with futures tied to the Dow Jones Industrial Average up more than 400 points and government bond yields down sharply.

“Things are moving in the right direction,” said Aneta Markowska, chief economist at Jefferies. “This is the most encouraging report we’ve had in quite some time.”

The report was good news for workers, who saw a 0.5% monthly increase in real wages. Inflation-adjusted average hourly earnings were still down 3% from a year ago.

Shelter costs, which make up about one-third of the CPI weighting, continued to rise and are up 5.7% over the past 12 months.

People shop at a grocery store on June 10, 2022 in New York City.
Spencer Platt | Getty Images

The numbers indicate that inflation pressures are easing somewhat but still remain near their highest levels since the early 1980s.

Clogged supply chains, outsized demand for goods over services, and trillions of dollars in pandemic-related fiscal and monetary stimulus have combined to create an environment of high prices and slow economic growth that has bedeviled policymakers.

The July drop in gas prices has provided some hope after prices at the pump rose past $5 a gallon. But gasoline was still up 44% from a year ago and fuel oil increased 75.6% on an annual basis, despite an 11% decline in July.

Federal Reserve officials are using a recipe of interest rate increases and related monetary policy tightening in hopes of beating back inflation numbers running well ahead of their 2% long-run target. The central bank has hiked benchmark borrowing rates by 2.25 percentage points so far in 2022, and officials have provided strong indications that more increases are coming.

There was some good news earlier this week when a New York Fed survey indicated that consumers have pared back inflation expectations for the future. But for now, the soaring cost of living remains a problem.

While inflation has been accelerating, gross domestic product declined for the first two quarters of 2022. The combination of slow growth and rising prices is associated with stagflation, while the two straight quarters of negative GDP meets a widely held definition of recession.

Wednesday’s inflation numbers could take some heat off the Fed.

Recent commentary from policymakers has pointed toward a third consecutive 0.75 percentage point interest rate hike at the September meeting. Following the CPI report, market pricing reversed, with traders now anticipating a better chance of a lesser 0.5 percentage point move.

“At the very least, this report takes the pressure off the Fed at the next meeting,” Markowska said. “They’ve been saying they’re ready to deliver a 75 basis point hike if they have to. I don’t think they have to anymore.”

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A shopping cart is seen in a supermarket as inflation affected consumer prices in Manhattan, New York City, U.S., June 10, 2022.
Andrew Kelly | Reuters

If inflation has been the biggest threat to U.S. economic growth, then July’s data should provide signs that there’s at least some relief in the pipeline.

Prices were flat for the month as gauged by the items that the Bureau of Labor Statistics tracks for its consumer price index. That marked the first time the aggregate measure hadn’t posted a month-over-month increase since May 2020, when the widely followed index showed a modest decline.

Just a month ago, CPI posted its fastest 12-month gain since November 1982, following a trend that helped send economic growth into contraction for the first half of the year, stirring up talk of a recession.

But with at least the short-term trend indicating the rate of price increases is abating, economic optimism is perking up.

No recession, for now

“The whole recession narrative really needs to be put on a shelf for now,” said Aneta Markowska, chief economist at Jefferies. “I think it’s going to be shifting to a stronger-for-longer narrative, which is really supported by a reversal in inflation.”

Markowska, whose forecasts this year have been accurate, sees solid growth in the near term, including a 3% growth rate in the third quarter. The Atlanta Federal Reserve’s GDPNow gauge, which tracks economic data in real time, pointed to a 2.5% growth rate in a Wednesday update, up 1.1 percentage points from its last one on Aug. 4.

However, Markowska also expects pressures to intensify in 2023, with a recession likely in the back part of the year.

Indeed, there was a little bit for both arguments in the CPI report.

Most of the tempering in inflation came because of a fall in energy prices. Gasoline slid 7.7%, the biggest monthly decline since April 2020. Fuel oil tumbled 11% as energy-related commodity prices were off 7.6%.

Transportation services cost increases also came off the boil, with airline fares tumbling 7.8% to reverse a trend that has seen tickets surge 27.7% over the past year.

But there were few other signs of inflation declines in the report, with food costs particularly high. The food index, in fact, rose 1.1% on the month, and its 10.9% pace over the past 12 months is the highest since May 1979.

That’s causing worries at places such as City Harvest, which helps feed needy New Yorkers who have been hit especially hard by price surge that began last year.

“We’re seeing many more children come into food pantries,” said Jilly Stephens, the organization’s CEO. “Food insecurity had been intractable even before the pandemic hit. Now we’re seeing even more people turn to food pantries because of the rising prices.”

Stephens said the number of children seeking food assistance about doubled a year after the Covid pandemic hit, and the organization is struggling to keep up.

“We’re always optimistic, because we are supported by incredibly generous New Yorkers,” she said.

People keep spending

Despite the surging prices, consumers have been resilient, continuing to spend even with inflation-adjusted wages contracting 3% over the past year.

Jonathan Silver, CEO of Affinity Solutions, which tracks consumer behavior through credit and debit card transactions, said spending is at a healthy pace, rising about 10.5% over the past year, though inflation is influencing behavior.

“When you start to look at specific categories, there’s been a lot of shifting in spending, and as a result, some categories are being impacted more than others by inflation,” he said. “People are delaying their spending on discretionary items.”

For instance, he said department store spending has fallen 2.4% over the past year, while discount store spending has risen 17%. Amusement park spending is down 18%, but move theaters are up 92%. Some of those numbers are influenced by rising prices, but they generally reflect the level of transactions as well.

As inflation eases, Silver expects discretionary spending to increase.

“We believe there will be a spike later in the year that will create an upward slope to the spending in key categories where the consumer has been delaying and deferring spending,” he said. “Consumers may get a holiday present of some relief on food prices.”

In the meantime, the year-over-year inflation pace is still running at 8.5%. That’s just off the most aggressive rise in 40 years and a “worryingly high rate,” said Rick Rieder, chief investment officer of global fixed income at asset management giant BlackRock.

At the center of worries about global growth is the Federal Reserve and concerns that its interest rate hikes aimed at controlling inflation will slow the economy so much that it will fall into recession.

Following Wednesday’s report, traders shifted their bets to expecting the Fed to hike just half a percentage point in September, rather than the previous trend toward 0.75 percentage points, a move that Rieder said could be mistaken.

“The persistence of still solid inflation data witnessed today, when combined with last week’s strong labor market data, and perhaps especially the still solid wage gains, places Fed policymakers firmly on the path toward continuation of aggressive tightening,” he wrote.

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