Judging by the Treasury market, the delayed September update on consumer inflation due on Friday will keep the Federal Reserve on track to cut interest rates again next week.

The policy-sensitive 2-year Treasury yield eased again on Tuesday (Oct. 21), falling to 3.46% and extending a downtrend that’s been unfolding for much of the year. Skepticism about rate cuts is in short supply in this corner.
 

Fed funds futures are also fully on board with pricing in a high probability (97%) that the central bank will ease policy again at its Oct. 29 meeting.

Friday’s scheduled update on consumer inflation, however, is on track to delivered mixed numbers, according to the consensus forecast via Econoday.com. Headline CPI is projected to rise to 3.1% in year-over-year terms through September, which translates to the highest pace in nearly a year-and-a-half. Core CPI is expected to hold steady, also at a 3.1% year-over-year rate.

If the forecasts are accurate, the market will be left to ponder if a gradual but persistent upswing in inflation still leaves room to cut rates again.

“Inflation will likely stay in the 3 percent ballpark for the time being,” says Ryan Young, senior economist at Competitive Enterprise Institute. “Look for the Fed to continue with interest rate cuts, since the Fed typically views unemployment as a more urgent problem than inflation.”

The unemployment rate ticked up in August to 4.3%, the highest since in nearly four years.

It’s unclear if further increases in the jobless rate continue – the September payrolls data is on hold until the government reopens. Meanwhile, Fed Chairman Powell recognizes that the central bank is increasingly between the rock and the hard spot:

“Inflation is above target and gently rising,” Powell said last week. Meanwhile, “the labor market [via payrolls growth] is subject to pretty clear downside risks.”

An added complication, according to some analysts, is the integrity of the data for the September CPI report.      

“Skeptics like me are going to be focused on how clean is this data,” said Vishal Khanduja, head of broad markets fixed income at Morgan Stanley Investment Management. “What were the accommodations made for the lack of full personnel staff showing up? What adjustments were made before the data got reported?”

That raises the question of how bond investors will react over the four trading days following Friday’s CPI update and the Fed meeting the following Wednesday.

“It would be fair to say approximately half of the current FOMC is more focused on the labor market and the other half on inflation risks,” said Ryan Wang, US economist at HSBC. “The difficulty for the Fed is whether this job slowdown mainly reflects bigger labor demand versus labor supply. It’s harder to be very precise about which factor is the bigger one, and that does have implications for how monetary policy should react to it.”

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