Inflation drops in May, but not enough to slow interest rate hikes

Inflation dropped more than expected in May to 4% from the previous year, according to the Consumer Price Index (CPI) released by the Bureau of Labor Statistics (BLS). But economists explained this may not be enough to stop the Federal Reserve from once again raising interest rates. 

In May, inflation was down from the annual inflation rate of 4.9% in April, but it increased 0.1% on a monthly basis, according to BLS. 

The cost of housing was the largest contributor to the monthly increase in May, and the cost of used vehicles followed. Food prices also increased in May after holding steady the past two months. The cost of energy, however, fell in May. 

But economists are warning not to focus on the decrease, saying core inflation actually remains high.

"Don't get sidetracked by falling headline inflation," Morning Consult Chief Economist John Leer said. "The real story from today’s release is that core inflation remains persistently elevated, coming in at 0.4% for the third consecutive month. 

"Despite the Fed’s aggressive increases in interest rates beginning last spring, core CPI has actually trended higher since last October," Leer said. "The Fed may pause hiking rates tomorrow, but it will have to raise rates again if it hopes to tame inflation."

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Federal Reserve likely to continue interest rate hikes

As inflation remains high, the Federal Reserve is likely to continue raising rates, but may pause from its rate hikes at its June meeting. This would come after 10 consecutive meetings where the Federal Open Markets Committee (FOMC) voted to raise rates. 

"Inflation and the labor market are not responding as the Fed expected, according to the FOMC’s latest Summary of Economic Projections," First American Deputy Chief Economist Odeta Kushi said. "The unemployment rate ticked up to 3.7% in May, while the March FOMC projections expected the unemployment rate to reach 4.5% by the fourth quarter of 2023. The Fed also expected core PCE to decline to 3.6% year-over-year by the fourth quarter, yet it remained at 4.7% as of April.

"In both cases, nearly an entire percentage point for each indicator is a wide gulf to cross in the next six months and unlikely to happen at the current pace of change without a significant shift in economic conditions," Kushi said. "The Fed remains data dependent. More months of above-expectation economic indicators increases the likelihood that more rate hikes are ahead."

But other economists are more optimistic, saying the decrease in inflation is enough to pause rate hikes at the June meeting. 

"This is an encouraging report for the Federal Reserve to pause the rate hike during the June meeting," Credit Union National Association (CUNA) Senior Economist Dawit Kebede said. "The core inflation, excluding shelter, which the Federal Reserve tracks as a measure future inflation trend, has continuously declined in previous months."

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Inflation seeing highest increase in these cities

Inflation rose at an annual rate of 4% in May across the U.S., but some cities are struggling with higher levels of inflation. When comparing the top 23 largest Metropolitan Statistical Areas (MSAs), WalletHub found that these cities saw the strongest inflation increases. 

Here are the top five MSAs with the strongest inflation growth in May, when compared to the previous two months:

• Detroit-Warren-Dearborn, Michigan - up 2.1%
• Miami-Fort Lauderdale-West Palm Beach, Florida - up 1.4%
• Tampa-St. Petersburg-Clearwater, Florida - up 1.7%
• Phoenix-Mesa-Scottsdale, Arizona - up 1.5%
• Seattle-Tacoma-Bellevue, Washington - up 1%

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