Policy Message of Caution and Optimism

A number of Fed officials have taken to various stages across the country throughout the week, largely highlighting a somewhat cohesive message of optimism and caution. While several officials acknowledged the upside risks to inflation, as well as the uncertainty in the near-term outlook for the economy, many expressed an expectation – or at least hope – for inflation to revert back down towards the Fed’s 2% target, potentially allowing for further rate relief by year-end.

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Over the weekend, Federal Reserve Bank of Chicago President Austan Goolsbee seemingly downplayed a recent uptick in consumers’ expectations for rising inflation. The figure “wasn’t a great number,” Goolsbee said Sunday in an interview on News Nation. “But it’s only one month of data. You need at least two or three months for that to count.”

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Speaking in Richmond, Virginia on Tuesday, Richmond Fed President Thomas Barkin said interest rates should remain “modestly restrictive” until officials are “more confident” inflation is returning to the central bank’s 2% inflation target. “It makes sense to stay modestly restrictive until we are more confident inflation is returning to our 2% target,” Barkin noted. He went on to say, “We learned in the '70s that if you back off inflation too soon, you can allow it to reemerge. No one wants to pay that price.”

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Echoing Barkin’s comments, Atlanta Fed President Raphael Bostic cautioned that “we need to stay where we are.” Speaking at a housing conference in Atlanta yesterday, Bostic said, “You can say that we’re hitting our employment mandate, and now we have to get the price stability mandate under control...We need to be in a restrictive posture.”

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Additionally, speaking this morning at an event in Arlington, Virginia, Kansas City Fed President Jeff Schmid warned the Fed could potentially need to balance the rise in inflation expectations with a potential slowdown in economic growth. “While the risks to inflation appear to be to the upside, discussions with contacts in my district, as well as some recent data, suggest that elevated uncertainty might weigh on growth,” Schmid said. “This presents the possibility that the Fed could have to balance inflation risks against growth concerns.”

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Speaking of growth, this morning, GDP was unrevised at a 2.3% gain on an annualized basis in the second-round Q4 report, as expected and marking a three-quarter low. The four-quarter average, meanwhile, declined from 2.7% to 2.5%.

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In the details of the report, personal consumption was unrevised at a 4.2% gain in the second-round Q4 report, still marking the largest increase in seven quarters.

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Goods consumption, on the other hand, was revised down a half of a percentage point to a 6.1% increase, due to a downward revision in nondurables consumption from a 3.8% gain to a smaller 3.0% rise. Durables consumption, however, was unrevised at a 12.1% gain in the second-round Q4 report.

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Services consumption was revised up two-tenths of a percentage point to a 3.3% gain in the second-round Q4 report, a three-quarter high.

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On the other hand, gross private investment – a gauge of business spending – was revised down a tenth of a percentage point to a 5.7% decline, as inventory buildup was larger than initially reported in the fourth quarter, rising by $10.2B, albeit still lower than $57.9B in the third quarter.

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Excluding inventories, fixed investment was revised down from a 0.6% decline to a larger 1.4% drop in the second-round Q4 report, marking the weakest quarterly pace in two years.

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Nonresidential investment – including office buildings and factories – was revised down a full percentage point to a 3.2% decline, due to a downward revision in equipment investment from a 7.8% decrease to a 9.0% decline, and a downward revision in intellectual property investment from a 2.6% rise to no change (0.0%) in the second-round fourth-quarter report. Structures investment, however, was revised up from a 1.1% decline to a 1.1% rise.?

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Residential investment, meanwhile, was revised up a tenth of a percentage point to a 5.4% gain in the second-round Q4 report, the largest rise in three quarters.

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On the trade side, exports were revised up three-tenths of a percentage point to a 0.5% decline, while imports were revised down in the second-round Q4 report from a 0.8% decline to a larger 1.2% drop.

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Finally, government consumption was revised up from a 2.5% rise to a 2.9% gain in the second-round Q4 report, still lower than the 5.1% gain in the third quarter. Federal spending was revised up from a 3.2% rise to a 4.0% gain, with national defense spending revised up from a 3.3% increase to a 4.7% rise. Nondefense spending, meanwhile, was revised down from a 3.1% gain to a smaller 2.9% rise. Also, state and local spending was revised higher by two-tenths of a percentage point to a 2.2% rise.

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In addition, the Core PCE Price Index was revised up from a 2.5% rise to a 2.7% gain in the second-round Q4 report. The 2.7% increase marks an acceleration from 2.2% in the third quarter and only the second time since late 2022 that the inflation measure accelerated.

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Also, this morning, durable goods orders rose 3.1% in January, surpassing the 2.0% rise expected and marking the largest monthly gain in six months Year-over-year, headline orders rose 3.4% in January, the largest annual increase since November 2023.

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Transportation orders rose 9.8% following two consecutive monthly declines. Excluding transportation, durable goods orders were flat (0.0%) in January, falling short of the 0.3% rise expected, but increased 1.6% over the past 12 months, up from the 0.8% annual gain the month prior.

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Capital goods orders rose 10.7% in January following a 5.2% decline the month prior. Nondefense capital goods orders, meanwhile, increased 12.9% following a 5.3% drop in December. Capital goods orders excluding aircraft and defense – a proxy for business investment – rose 0.8% in January, surpassing the 0.3% increase expected and marking the largest monthly gain in two months. Year-over-year, business investment increased 2.2%, the largest annual rise since April 2023.

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In other details, electrical equipment orders ticked up 0.1%, machinery orders gained 0.2%, and computers and electronics orders jumped 1.7% in the first month of 2025. Also, primary metals orders increased 1.0% in January. On the other hand, fabricated metals orders fell 1.2% at the start of the year, a two-month low.

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Additionally, this morning, initial jobless claims jumped by 22k to 242k in the week ending February 22, the highest level since the start of December. The rise in jobless claims is largely a result of layoffs at corporations, such as Starbucks, Meta Platforms and Southwest Airlines, as well as at federal agencies with applications in D.C. rising to the highest level since March 2023. According to the median forecast, jobless claims were expected to rise to just 221k. The four-week average, meanwhile, rose from 216k to 224k. Continuing claims, or the total number of people claiming ongoing unemployment, fell slightly from 1.87M to 1.86M in the week ending February 15, a two-week low.

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Also, this morning, pending home sales fell 4.6% in January, surpassing the 0.9% decline expected and marking the largest monthly drop since April. Over the past 12 months, pending home sales fell 5.2%, the second consecutive annual decline and the largest annual decline in seven months.

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Later this morning, the Kansas City Fed Manufacturing Index is expected to rise one point to a reading of -4 in February.

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Yesterday on the economic calendar, MBA mortgage applications fell 1.2% in the week ending February 21 following a 6.6% decline the week prior. The 30-year mortgage rate, meanwhile, fell 5bps to 6.88%, the lowest since mid-December.

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Additionally, yesterday, new home sales plunged 10.5% in January from 734k (revised up from 698k) to 657k, a three-month low. According to the median forecast, sales were expected to only decline 2.6% at the start of the year.

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On a regional basis, sales in the Northeast fell 20.0% with sales declining 16.7% in the Midwest, and 14.8% in the South. Sales rose, however, 7.7% in the West at the start of the year. Over the past 12 months, new home sales fell 1.1%, the largest annual decline in three months. Due to a fall in new sales, the months’ supply of new homes rose from 8.0 to 9.0 months, the highest in three months. From a price standpoint, the median cost of a newly constructed home rose 7.5% from the month prior to $446k, up from $415k in December. Year-over-year, new home prices rose 3.7% in January.

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Tomorrow, we’ll wrap up the week with another key report, looking at January personal income and consumption, along with the latest read on the PCE – the Fed’s preferred inflation gauge.

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Personal consumption is expected to rise 0.3% in January and 5.9% on an annual basis, a potential uptick from the 5.7% annual gain in December, and still within the average established since June 2023. Income, meanwhile, is expected to rise 0.3% in January and 4.2% year-over-year, down from the 5.3% annual gain in December, although still perpetuating an average pace of over 4% since the start of 2024.?

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On the inflation front, the PCE is expected to rise 0.3% in January, matching the increase the month prior, and 2.5% on an annual basis, potentially marking a one-tenth of a percentage point decline from the pace reported in December. Stripping out food and energy, the core PCE is expected to rise 0.3% in January, a potential uptick from a more muted 0.2% gain the month prior, and 2.6% year-over-year, potentially marking a two-tenths of a percentage point decline from the pace reported in December and the smallest annual gain since June. A welcome step in the right direction following a disappointing headline rise in both the January read of the CPI and the PPI.

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Also tomorrow, the Chicago PMI Index is expected to rise from 39.5 to 40.8 in February.

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-Lindsey Piegza, Ph.D., Chief Economist