US Consumer Sentiment Rebounds Sharply as Inflation Fears Subside
A surprise jump in the University of Michigan's December index, driven by falling inflation expectations, is fueling market hopes for Federal Reserve rate cuts.
A key gauge of U.S. consumer sentiment posted a surprise rebound in early December, lifted by a significant easing of inflation expectations that bolstered investor hopes for the Federal Reserve to begin cutting interest rates in the near future.
The University of Michigan's preliminary consumer sentiment index rose to 53.3 this month, up from November's 51.0 and comfortably ahead of economists' forecasts of 52.0. The more crucial detail for markets, however, came from the survey's inflation components. Year-ahead inflation expectations fell to 4.1% from 4.5% a month prior, marking their lowest level since January. Long-run inflation expectations also softened to 3.2%.
The report, published Friday by the university's Surveys of Consumers, provides a critical data point for Fed officials, who have been closely monitoring consumer expectations as a key indicator of future price pressures. The decline in expectations suggests that the central bank's aggressive policy tightening is effectively anchoring inflation fears, a prerequisite for considering a pivot to looser monetary policy.
"The decline in inflation expectations is the most important part of this report," said one chief economist. "It gives the Fed the green light to shift its focus towards supporting growth, now that the inflation genie appears to be getting back in the bottle."
Market reaction to the data was swift, reinforcing the prevailing bullish sentiment. Following the release, traders firmed up bets on a forthcoming policy shift. Market pricing now indicates an 87.2% probability of a 25-basis-point rate cut at the Fed's next meeting, reflecting a growing consensus that the central bank's hiking cycle is over.
While the headline sentiment remains at historically subdued levels, the internals of the report pointed to a divergence in outlooks. The Index of Consumer Expectations, a forward-looking measure, jumped to 55.0 from 51.0. In contrast, the gauge of current economic conditions saw a slight dip, falling to 50.7 from 51.1.
The improvement was largely driven by younger consumers, according to the survey's director, suggesting a potential shift in economic optimism among key demographics as gasoline prices have fallen and wage growth has remained resilient.
Investors will now turn their attention to the upcoming Consumer Price Index (CPI) report, which will provide a more definitive look at the state of inflation. Should the official CPI data confirm the disinflationary trend suggested by the sentiment survey, calls for the Fed to ease policy early next year are likely to grow louder, providing a potential tailwind for equities and bonds heading into the new year.