The Fed doesn't have an inflation crystal ball, but it does have "sticky-price CPI"

More inflation data came out Thursday, but the numbers are from June — a time when there was a fragile truce between the U.S. and Iran, and oil and gasoline prices were trending lower.

The Department of Commerce said the Federal Reserve’s preferred inflation measure — the personal consumption expenditures price index — came in at an annual rate of 3.7%. That's down from 4.1% in May.

There is yet another measure that is more of a prediction about the future instead of a look at the past: the Federal Reserve Bank of Atlanta’s sticky-price consumer price index. The reading there is 2.8%.

The Atlanta Fed said sticky-price CPI is supposed to predict what inflation will be way down the line — in two years or longer. And in that context, 2.8% is not exactly good news.

“That tells us that to a large degree … it's still going to take time for inflation to get back to 2%,” said Olu Sonola, head of U.S. Economics at Fitch Ratings.

2% is the Fed’s target. America hasn’t been there since early 2021.

Among the biggest components of the sticky-price index are housing prices, costs of eating out at restaurants, and recreational activities.

“Those tend to be sticky because when prices move higher, it takes a while for them to come down,” Sonola said.

Think rent, insurance prices, labor costs.

“Things that are in contracts that take longer to adjust and unwind,” Sonola said.

But Kathy Bostjancic, chief economist at Nationwide, said to take the sticky-price measure with a grain of salt. It’s just part of the inflation picture.

“The other part is the flexible part of inflation,” Bostjancic said. “So, yes, there could be some stickiness that lingers, but then there's also other components that adjust more quickly and often.”

Like prices for electronics, used cars, clothing, and jewelry.

Bostjancic prefers the core PCE measure — inflation minus energy and food prices — for a broader reading. It’s currently at 3.3%.

But if the core PCE is at 3.3% and the sticky-price index is predicting 2.8% in a few years, does that mean that underlying currents driving inflation are actually slowing?

Michael Pearce, chief U.S. economist at Oxford Economics said yes.

“I do think that underlying trend in inflation is still gradually downwards,” Pearce said. “I think it's just a question of whether it comes down fast enough for Fed officials to be comfortable about.”

In the meantime, Pearce cautioned that the sticky-price inflation reading tends to overshoot its estimates. It’s based on a lot of assumptions about where prices are headed. In fact, around this time in 2022, the index predicted 5.8% inflation. The U.S. has come nowhere near that.