Al-Watani: Decline in US inflation supports market forecasts despite geopolitical tensions

A report issued by National Bank of Kuwait stated that global markets moved last week under two conflicting factors: on the one hand, U.S. data showed the strongest signal of inflation receding in over a year; on the other, the resumption of U.S. strikes on Iranian targets and the sharp repricing of AI-linked tech stocks added further pressure to investor sentiment.

The report said U.S. inflation data delivered a clear surprise in the direction of easing inflationary pressures, as the overall Consumer Price Index (CPI) fell by 0.4% month-on-month in June, coming in below consensus forecasts and marking the largest monthly decline since April 2020. This brought the annual rate down to 3.5%, compared to 4.2% in May.

Energy was the largest contributor to the monthly decline, falling by 5.7% month-on-month, driven by a 9.7% drop in gasoline prices during a period of calm in the conflict with Iran. Meanwhile, housing costs rose by just 0.1% month-on-month, and food prices increased by 0.2%. The core CPI remained unchanged month-on-month, also coming in below expectations, and fell to 2.6% year-on-year from 2.9%.

Producer Price Index (PPI) data reinforced this signal, as the overall PPI unexpectedly fell by 0.3% month-on-month, against expectations of no change. Goods prices dropped by 1.4%, marking the largest decline since July 2022, driven by a 6.4% fall in energy prices. However, services prices rose marginally by 0.2%, while the annual rate remained elevated at 5.5%. Markets remain cautious that a resumption of escalation in the Gulf region since the survey period could lead to a rebound in energy prices, potentially reversing part of the improvement driven by lower energy costs in upcoming readings.

Inflation battle has not yet reached the “mission accomplished” stage

In his first semi-annual testimony before Congress on monetary policy policy as the 17th Federal Reserve Chair, Kevin Warsh told the House of Representatives last Tuesday and the Senate Banking Committee last Wednesday that the June decline in the CPI should not be overinterpreted. He warned that “some may look at this morning’s data and say: Mission accomplished.” He also pledged to make the wave of inflation witnessed over the past five years “a thing of the past,” describing it as a “tax on the American people and businesses.”

With the target range for the federal funds rate kept at 3.50%-3.75%, Warsh reiterated his assertion that most officials still see justification for raising interest rates at least once before the end of the year. He also criticized the flexible average inflation targeting framework adopted in 2020, calling it a “mistake,” and revealed the formation of five working groups to review communications, balance sheet management, data usage, productivity and employment, and the target inflation level, as part of a broader “system change” in Federal Reserve operations.

Swap markets continue to price in roughly one interest rate hike of 25 basis points before year-end, with the September meeting considered a potential date for this move.

U.S. retail sales slowdown and unemployment claims fall

Consumer spending momentum in the United States slowed in June, as total retail sales rose by 0.2% month-on-month, in line with consensus expectations, but recorded the weakest growth pace since January.

Also, sales excluding automobiles unexpectedly fell by 0.2%, compared with expectations of no change, marking the first decline in more than a year. The core group, which directly enters into the calculation of GDP, rose at a stronger pace of 0.5%, recording its sixth consecutive increase, keeping total retail sales up by 6.7% year-on-year.

On the other hand, the labor market remained resilient, as initial jobless claims fell by 8,000 to 208,000, coming in below the consensus forecast of 215,000. Continuing claims also declined to 1.805 million, and the four-week moving average fell to 214,000. The combination of falling inflation, stable employment, and slowing consumption—still in positive territory—continues to support the likelihood of a “soft landing.”

Eurozone industrial production falls

Eurozone industrial production fell by 0.2% month-on-month in May, reversing the 0.1% increase recorded in April, with no clear underlying trend across the region. Production rose in Germany and Spain, fell sharply in Ireland, and declined more moderately in Italy and France.

Production of durable consumer goods fell again, remaining one of the key negative factors persisting over recent months. Meanwhile, activity continues to be supported by precautionary inventory accumulation in anticipation of supply chain disruptions, relatively more favorable production conditions compared to Asia during the initial phase of the conflict, and a structural rise in defense spending.

As the energy shock continues to weigh on costs, and sentiment remains heavily dependent on hopes for geopolitical stability and public investment, the data reinforce the outlook for limited growth in the eurozone at the start of the second half of the year.