US core PCE inflation set to tick up slightly as markets mull timing of Federal Reserve rate cuts

• The core Personal Consumption Expenditures Price Index is forecast to rise 0.1% MoM and 2.6% YoY in May.
• Headline annual PCE inflation is set to increase to 2.3% in the reported month.
• Markets broadly expect the Federal Reserve to stand pat on interest rates in July.

The United States (US) Bureau of Economic Analysis (BEA) will publish the Personal Consumption Expenditures (PCE) Price Index data for May on Friday at 12:30 GMT. 

This index is closely scrutinized as it is the Federal Reserve's (Fed) preferred measure of inflation at a moment when traders are looking for hints about when the US central bank will resume interest-rate cuts.

Anticipating the PCE: Insights into the Fed's key inflation metric

The core PCE Price Index, which excludes volatile food and energy prices, is expected to advance 0.1% month-over-month (MoM) in May, at the same pace as seen in April.

Over the last twelve months, the core PCE inflation is set to tick a tad higher to 2.6% in May from 2.5% in April.

Meanwhile, the headline annual PCE inflation is seen rising to 2.3% from 2.1% in the same period. 

Markets usually brace for a big reaction to the PCE inflation data as Fed officials consider this inflation gauge when deciding on the next policy move.

During the two-day semiannual congressional testimony earlier in the week, Fed Chairman Jerome Powell noted that he expects policymakers to stay on hold until they have a better handle on the impact tariffs will have on prices.  

"We're just trying to be careful and cautious," he said.

Powell's comments dismissed reviving expectations of the Fed lowering interest rates as early as July. These expectations had been prompted by comments from Fed Governors Christopher Waller and Michelle Bowman, who advocated for a July rate reduction a week ago.

Markets currently expect an 18% chance of a July Fed rate cut, while pricing in a 70% probability of a cut in September, according to the CME Group's FedWatch Tool.

 Previewing the PCE inflation report, TD Securities said:

"We look for core PCE prices to stay subdued in May, rising 0.14% MoM after a similar increase in April. Headline PCE inflation should also come in soft at 0.10%. On a year-over-year (YoY) basis, we look for core PCE inflation to rise by one-tenth to 2.6% (headline: 2.3%). Separately, we forecast personal spending to decline 0.2% MoM as normalization after front-loading outlays in Q1 continues."

How will the Personal Consumption Expenditures Price Index affect EUR/USD?

The US Dollar (USD) hangs close to weekly lows against its major currency rivals amid reduced safe-haven demand, following the Iran-Israel ceasefire announced on Tuesday. Hawkish comments from Fed Chair Powell failed to lift the USD, helping EUR/USD stay close to the highest level so far this year at 1.1718.

The monthly core PCE figure will hold utmost relevance as it is not distorted by base effects. However, Fed Chair Powell already spilled the beans in the June post-policy meeting press conference, stating he expects the annual headline PCE price index at 2.3% and core PCE at 2.6% for the 12 months ending May.

Therefore, an upside surprise in the monthly core print is needed to affirm the hawkish Fed expectations, supporting the USD in an immediate reaction.

Conversely, the Greenback could come under a fresh selling wave if the reading shows 0% or a negative number. In such a case, markets would reassess the probability of a rate reduction in July amid easing worries over sticky inflation.

Dhwani Mehta, Asian Session Lead Analyst at FXStreet, shares a brief technical outlook for EUR/USD:

"The 14-day Relative Strength Index (RSI) is prodding the overbought territory in the lead-up to the PCE inflation release as EUR/USD sits at its highest since September 2021. The leading indicator suggests that there is more room for upside before a pullback could seep in."

"The immediate resistance is spotted at the 1.1800 round number, above which the mid-September 2021 highs around 1.1850 will be tested. The next hurdle will be at the 1.1900 threshold. Looking south, the first line of defense is located at the June 16 high of 1.1616. If that support caves in, sellers will then target the 21-day Simple Moving Average (SMA) at 1.1493. Deeper declines could challenge the 50-day SMA at 1.1385."