PCE Report Preview: Inflation Cooling, But Will It Be Enough for the Fed?

The upcoming Personal Consumption Expenditures (PCE) report, scheduled for release on Friday, February 28, 2025, will be closely watched by investors and Federal Reserve officials. As the Fed’s preferred inflation gauge, this report provides critical insight into whether inflationary pressures continue to ease, which could influence future interest rate decisions.

Market Expectations

The report is expected to show moderate inflation and spending growth, with core PCE inflation remaining stable on a monthly basis but cooling slightly year-over-year. Here’s what economists are forecasting:

- Core PCE Price Index (MoM) (Jan): Expected to rise 0.3%, compared to 0.2% in the prior report, signaling a modest pickup in underlying inflation.

- Core PCE Price Index (YoY) (Jan): Forecast at 2.6%, down from 2.8% in the previous reading, marking the lowest annual increase since June 2024.

- Headline PCE Price Index (MoM) (Jan): Projected to rise 0.3%, unchanged from the prior month.

- Headline PCE Price Index (YoY) (Jan): Expected at 2.5%, slightly lower than 2.6% previously, reinforcing the disinflationary trend.

- Personal Income (MoM) (Jan): Forecast to increase 0.3%, a modest slowdown from 0.4% in the previous report.

- Personal Spending (MoM) (Jan): Expected to rise just 0.1%, a sharp deceleration from 0.7%, suggesting weaker consumer demand.

If these numbers align with expectations, they would support the view that inflation is continuing to ease toward the Fed’s 2% target, though at a gradual pace.

Why This Report Matters

After a hotter-than-expected Consumer Price Index (CPI) report earlier this month, which raised concerns about persistent inflation, this PCE report could offer reassurance that price pressures are indeed moderating.

A softer PCE print would help counter the fears sparked by the CPI report and could boost expectations for rate cuts later in 2025. However, with Treasury yields already declining in anticipation of a more dovish Fed, the market reaction may be muted unless the data significantly surprises in either direction.

Moreover, geopolitical risks and trade policies could complicate the inflation outlook. If President Trump’s proposed tariffs on imports from Mexico and Canada materialize, they could push inflation higher, making the Fed’s job even more challenging.

The December PCE report indicated that inflation was still on a downward trajectory, but progress was slow. Core PCE inflation had only modestly declined, and some Fed officials voiced concerns about the possibility of inflation becoming sticky above the 2% target.

If the January report follows this trend, it could reinforce the Fed’s cautious stance, delaying any immediate discussions about cutting rates.

Personal Spending and Consumer Behavior

One of the most important aspects of this report will be consumer spending, which is projected to increase by only 0.1%, down sharply from 0.7 in December.

A sharp drop in spending could suggest waning consumer confidence, especially given lingering concerns about higher borrowing costs and a weakening labor market. If confirmed, this could raise concerns about economic growth slowing too quickly and increase pressure on the Fed to ease policy sooner than expected.

Market Implications

A cooler-than-expected PCE report could reinforce the bond rally, with yields declining further as traders increase bets on rate cuts later this year. Stocks could also benefit, especially tech and rate-sensitive sectors, as expectations of looser monetary policy grow.

However, a stronger-than-expected inflation reading—especially if core PCE remains stubbornly high—could reverse the recent bond market rally and push stocks lower as investors adjust to the possibility of higher-for-longer interest rates.

Key Questions for the Fed

As policymakers analyze this report, they will focus on several key questions:

1. Is inflation continuing to decline, or are there signs of renewed price pressures?

2. How weak is consumer spending, and could it indicate an economic slowdown?

3. Could proposed tariffs push inflation higher, complicating future Fed decisions?

4. Are wage gains slowing, which could indicate lower future inflation but also softer economic growth?

Conclusion

The upcoming PCE report will be pivotal in shaping the narrative around inflation and Federal Reserve policy. While expectations suggest that inflation is cooling, markets will be watching for any unexpected surprises that could alter the trajectory of interest rates and financial conditions.

If the data aligns with expectations, it could reinforce the idea that inflation is trending toward 2%, but given the market’s recent rally in bonds and stocks, any positive impact may be muted unless the report significantly underperforms expectations.

The key takeaway: Investors should brace for potential volatility, as any deviation from forecasts could spark a meaningful reaction across asset classes.