Cooling Inflation and a Consumer Pullback Support a Patient, Wait-and-See Fed
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Cooling Inflation and a Consumer Pullback Support a Patient, Wait-and-See Fed
July inflation data were broadly benign, while retail sales declined after a strong second quarter. Nomura expects the Fed to remain on hold, but cautions against AI-related goods price increases and policy-credibility risks.
- July core PCE is expected to rise 0.234% month over month, with the year-over-year rate broadly unchanged at 3.28%.
- July retail sales fell 0.6% month over month; Nomura views this mainly as a normal pullback after second-quarter promotions and one-off factors faded.
- The July FOMC meeting minutes are expected to show that most officials favored a wait-and-see approach toward potential rate hikes.
- Nomura lowered its second-quarter GDP tracking estimate from 1.7% to 1.5% and expects third-quarter growth to rebound to 2.8%.
Report interpretation
Overview
This report assesses U.S. July inflation, retail sales, and the forthcoming FOMC meeting minutes. Nomura believes that a benign core PCE outlook and cooling consumer momentum will reduce the risk of a September rate hike, making a patient, wait-and-see policy stance more likely in the near term; however, inflation remains materially above the 2% target, and the policy outlook still carries upside interest-rate risks.
Core views
July CPI and PPI data were broadly in line with expectations. Core PCE inflation remains elevated but has not accelerated materially further. Weaker consumption mainly reflects a giveback after unusually strong second-quarter performance and is not yet sufficient to indicate a serious deterioration in demand. Business investment remains resilient, while housing is constrained by elevated mortgage rates; trade is expected to continue weighing on growth.
Analysis framework
The report tracks core PCE monthly using CPI and PPI components, assesses consumer momentum through real retail sales, and updates GDP tracking following retail-sales revisions. It also evaluates the monetary-policy reaction function through FOMC officials' remarks and expectations for the meeting minutes.
Methodology notes
Estimates core PCE inflation using CPI and PPI components related to PCE.
July CPI, PPI, and components such as financial services jointly form the basis for forecasting month-over-month and year-over-year core PCE readings.
Dynamically adjusts quarterly GDP forecasts based on high-frequency and monthly economic data.
Downward revisions to second-quarter retail sales prompted a reduction in the second-quarter GDP tracking forecast; the third-quarter forecast incorporates slower consumption, resilient business investment, and a trade drag.
Compares two policy scenarios: continued inflation moderation and a rebound in inflation.
The base case is for policy to remain unchanged, but a rise in inflation pressures or concerns over central-bank credibility could lead to rate hikes.
Asset mapping & comparison
Structured mapping from thesis to named assets (strengths, weaknesses, peers, risks).
- U.S. TreasuriesThe base case of the Fed pausing rate hikes helps ease upward pressure on front-end rates.
- Strengths
- Weaker inflation momentum, slower consumption, and a patient policy stance provide support.
- Weaknesses
- Core inflation remains above target, and market concerns about policy credibility may limit rate declines.
- Comparison
- Relative to a rate-hike scenario, holding rates unchanged is more favorable for duration assets; however, the report does not expect rapid easing.
- Risks
- AI-driven price pressures, geopolitical escalation, and rising inflation expectations could push yields higher.
- U.S. Consumer Discretionary SectorThe decline in retail sales reflects cooling consumer momentum and creates near-term pressure for companies reliant on promotions and nonstore retailing.
- Strengths
- The report judges the current pullback to be closer to a mild giveback after exceptionally strong second-quarter performance than to a severe deterioration in demand.
- Weaknesses
- Personal consumption is expected to slow in the third quarter, while high mortgage rates also restrain housing-related consumption.
- Comparison
- Growth resilience in business-investment-related areas is relatively stronger than in consumer- and housing-related sectors.
- Risks
- If the consumer pullback exceeds a mild normalization, corporate revenue and earnings expectations could be revised down.
- Semiconductors and Consumer ElectronicsAI-related demand and supply constraints may pass through to consumer-electronics prices.
- Strengths
- Business investment is expanding beyond AI, and expectations for capital-expenditure growth remain resilient.
- Weaknesses
- The report's base case assumes semiconductor price pressures will ease as supply catches up with demand.
- Comparison
- This area faces more pronounced AI-driven upside price risks than general consumer goods.
- Risks
- Memory-chip shortages, supply-chain disruptions, or an AI investment boom could all raise goods inflation and trigger tighter monetary policy.
Key data
- July Core PCE MoM Forecast0.234%Revised up from the 0.211% forecast before the CPI release.
- July Core PCE YoY Forecast3.28%Expected to be broadly unchanged from the prior estimate.
- July Core CPI MoM0.215%June was -0.017%.
- July Retail Sales MoM-0.6%Nomura believes this mainly reflects normalization after strong second-quarter consumption.
- July Real Retail Sales MoM-0.4%Based on the report's estimate of the deflator.
- Second-Quarter GDP Tracking Forecast1.5% (seasonally adjusted annual rate)Previously 1.7%; the downgrade was mainly due to retail-sales data revisions.
- Third-Quarter GDP Tracking Forecast2.8% (seasonally adjusted annual rate)The report expects slower consumption, resilient business investment, and an ongoing trade drag.
- Q4 2026 Core PCE YoY Forecast3.2%Planned BEA methodological changes could lower the reading by about 20 basis points to 3.0%.
Impact & implications
For markets, slower near-term inflation momentum and cooling consumption should help temper expectations of further rate hikes, but they do not mean the inflation problem has been resolved. The interest-rate path will remain highly dependent on subsequent inflation data, FOMC communication, and whether the AI investment boom lifts goods and services prices.
Risks
- The AI investment boom could intensify price pressures for goods and services.
- AI-driven memory-chip shortages and supply-chain disruptions could trigger a second round of goods inflation.
- Insufficient Fed forward guidance, confusing communication, or political pressure could undermine anti-inflation credibility and trigger severe market reactions.
- Geopolitical escalation could tighten financial conditions and worsen the fiscal outlook.
- A collapse of the AI boom could lead to significant asset-price adjustments and weaker business investment.
- If consumer weakness evolves from a short-term giveback into deteriorating demand, the growth outlook will face downside risks.
What to watch
- Language in the July FOMC meeting minutes on the wait-and-see stance, inflation momentum, and the threshold for potential rate hikes.
- Whether subsequent core PCE, CPI, and PPI data confirm a gradual decline in inflation.
- Whether retail sales and personal consumption represent only a short-term giveback from earlier promotional activity.
- Housing starts, building permits, pending home sales, and changes in mortgage rates.
- Whether industrial production and manufacturing output can sustain their recovery.
- The impact of prices for AI-related electronics, semiconductors, and financial services on inflation.