PPI Inflation Could Complicate Rate Path

INTEREST RATE MARKET FUTURES

Futures are lower across the curve after PPI inflation data for July showed a sharp rise in prices. Final demand prices rose 0.9% month-over-month and 3.3% year-over-year. This marks the strongest annual increase since February and reflects broad-based price pressures, especially in services, which rose 1.1%, driven by higher trade margins and transportation costs. Goods prices also climbed, led by a 38.9% spike in vegetable prices, alongside increases in energy and core goods.

Core PPI, which excludes volatile food, energy, and trade services, rose 0.9% in July, the largest monthly gain in over three years, and is up 3.7% year-over-year, suggesting that underlying inflationary pressures are firming and not just driven by temporary shocks. The strong rise in services prices, especially trade margins and transportation, points to persistent inflation in areas less sensitive to commodity cycles. Meanwhile, the uptick in core PPI is a warning sign that inflation may be rising quicker than expected, which could influence the Fed’s stance on interest rates. The PPI inflation, often referred to as pipeline inflation because it measures costs in the supply chain, can often be a leading indicator of CPI inflation, although the pass-through is not always one-to-one or immediate. So far, companies have been absorbing the higher costs, as businesses have been hesitant to raise prices so far as they wait and see how their supply chains and products are affected by tariffs. Recent PMI data has also pointed to the services sector facing higher costs, with rising wage costs and tariffs directly contributing to steeper input price inflation. Now that there is more certainty in regard to tariff levels, businesses will likely want to reduce the burden of the duties and raise prices, although they will still try to maintain a competitive price landscape. This will likely result in tariffs having a slow drip effect on prices as companies adjust prices gradually.

This was relatively present in Tuesday’s CPI reading, which showed that inflation in July was modest, with headline CPI rising 0.2%, down from 0.3% in June. Core CPI (excluding food and energy) rose 0.3%, up from June’s 0.2% and the largest gain in six months, reflecting persistent price pressures in shelter, medical care, recreation, and travel. Food prices were flat, as grocery costs dipped slightly while restaurant prices rose. Energy prices declined, led by a 2.2% drop in gasoline, helping to offset broader inflation.

Treasury yields fell Wednesday as markets continued to raise bets that the Fed will cut rates in September after pass-through inflation was not as apparent in July as markets were expecting. Investors will also focus on comments from Fed Chair Powell next week when the Fed hosts its economic policy symposium. Fed funds futures traders are now pricing 25.7 basis points in cuts in September, indicating they are beginning to see the possibility that the Fed could cut rates by 50 basis points next month, although it is unlikely.

Chicago Fed president Austan Goolsbee on Wednesday said he views tariffs as a stagflation shock, and that their danger is they reduce productivity growth. Goolsbee said he would become very concerned if CPI data begins to show components not tied to tariffs rise in price. Regarding employment, Goolsbee sees the sharply lower job gains as possibly reflecting the transition period from immigration and that the lower job gains may also be a sign of the drop in population growth.

The spread between the two- and 10-year yields fell to 52.8 bps from 55.6 bps on Wednesday.

CURRENCY FUTURES

The USD index is higher but hit a three-week low against the Japanese yen after Treasury Secretary Scott Bessent suggested that the Bank of Japan needs to raise interest rates soon, while the Fed cuts rates. The dollar will likely find support from the inflationary PPI data that came out Thursday morning, which showed producer prices increased drastically. The high inflation reading could complicate the Fed’s future rate path, as PPI inflation serves as a leading indicator to CPI inflation as the costs producers face take time to make their way to the final product that reaches consumers. Markets are priced in for a rate cut in September from the Fed, with some speculation about a 50 bps cut also showing in the markets, although a 50 bps cut would be highly unlikely given the economic backdrop.

Euro futures are lower on a stronger dollar, and as new data shows that industrial production in the eurozone slumped more than expected in June, as the pullback of tariff frontrunning made its effect. Industrial production fell 1.3% on the month in June, more than reversing the 1.1% increase in May, and stronger than the 0.9% fall economists were expecting. All categories of production of goods—from longer-lasting durable goods to shorter-term consumer goods—declined in the month of June. Energy production increased modestly. Despite the fall in industrial production, second-quarter GDP growth sat unrevised at 0.1% growth, matching the initial reading.

British pound futures are lower, pressured by a stronger dollar. Second quarter GDP data topped estimates. GDP grew 0.3% in the second quarter, higher than estimates of 0.1% growth and a noticeable slowdown from the previous quartera’s 0.7% growth but a resilient figure in the face of higher US tariffs. On an annualized basis, the UK economy expanded by 1.4% in the second quarter. The figures are a welcome sign for government officials in the UK, although the economy has been dealing with a softening labor market, as unemployment rose over the second quarter. Business hiring has been dropping, and consumers in the UK have been saving more and spending less as economic uncertainty has dented traditional spending habits. Manufacturing and industrial production in June also posted better than expected results, with both figures beating out estimates and posting a solid reversal from the previous month’s figures, which had shown a contraction in activity. In a sign of the uncertainty that has gripped businesses in the UK, business investment shrank 4% in the second quarter, well below estimates of 0.1% growth and a sharp drop from the first quarter’s 3.9% growth. The GDP data is a positive for the pound in the near term, but underlying risks to the economy remain due to the weak labor market and business investment trends. The Bank of England is likely to remain cautious in the face of the data and continue to stick to its gradual easing cycle as inflation in the country remains sticky, with inflation expected to peak in September.

Japanese yen futures are higher after Treasury Secretary Scott Bessent suggested that the Bank of Japan needs to raise interest rates again soon, as the Fed cuts rates. PPI inflation data showed producer price growth slowed to an 11-month low in July, underscoring the pressure on local firms from higher US tariffs. In addition, weaker domestic demand has limited inflation in the country, making the BoJ’s effort to resume policy normalization more complicated. Looking ahead, GDP data out Thursday evening and industrial production figures released shortly after should give a better snapshot of the economic picture in the country. GDP is expected to rise 0.1% in the second quarter.

Australian dollar futures are lower, pressured by the greenback. An upbeat jobs report nearly matched expectations. The Australian economy added 24,500 jobs in July, up from a revised figure of 1,000 in June, which was just below expectations of 25,300. The unemployment rate also ticked down to 4.2% from 4.3%. The data should lessen the need for a rate cut from the Reserve Bank of Australia in the near term. Market probability of a rate cut in September fell from 40% to 30% after the data was published, although a cut in November is still seen as highly likely. Wage growth data in Australia showed that wages held steady at a moderate rate of 3.4%, just above expectations of 3.3%, and not seen as an obstacle for the Reserve Bank of Australia to continue to cut rates in the future.

STOCK INDEX FUTURES

Stock index futures are lower after PPI data showed a sharp rise in services prices, especially trade margins, a key inflationary signal. The inflation shock looks to sap the enthusiasm the market has faced in the last couple of sessions, as it is likely to complicate the Fed’s decision in September. Stocks climbed higher Wednesday amid the increasing expectations that the Fed will cut rates at its next meeting, following Tuesday’s CPI inflation print.

Weekly jobless claims came in just below expectations, although the previous week’s figure was revised slightly higher. Jobless claims came in at 224,000, below expectations of 225,000, while last week’s figure of 226,000 was revised higher to 227,000. Jobless claims will likely get more attention than normal given the economic backdrop, as eyes continue to stay peeled to labor data after the previous jobs report showed a sharp deterioration in labor market conditions.

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