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A shopper surveys stacks of clothing on a sales table in a Costco warehouse in Colorado Springs, Colo., on June 22.David Zalubowski/The Associated Press

An inflation index that is closely monitored by the Federal Reserve tumbled last month to its lowest level since April, 2021, pulled down by lower gas prices and slower-rising food costs.

At the same time, consumers barely increased their spending last month, boosting it just 0.1 per cent, after a solid 0.6 per cent gain in April.

The inflation index showed that prices rose 3.8 per cent in May from 12 months earlier, down sharply from a 4.4 per cent year-over-year surge in April. And from April to May, prices ticked up just 0.1 per cent.

Still, last month’s progress in easing overall inflation was tempered by an elevated reading of “core” prices, a category that excludes volatile food and energy costs. The increase underscored the Fed’s belief that it will need to keep raising interest rates to conquer high inflation.

Core prices rose 4.6 per cent in May from a year earlier, down slightly from the annual increase of 4.7 per cent in April. It was the fifth straight month that the core figure was either 4.6 per cent or 4.7 per cent – a sign that the Fed’s streak of 10 rate hikes over the past 15 months hasn’t subdued all categories of prices. From April to May, core prices increased 0.3 per cent, a pace that, if it lasts, would keep inflation well above the Fed’s 2-per-cent target.

Grocery prices edged up just 0.1 per cent from April to May, providing some relief to consumers, though food costs are still 5.8-per-cent higher than they were a year ago. Gas prices, which sank 5.6 per cent just from April to May, have plunged 22 per cent over the past year.

Used cars soared 4.7 per cent from April to May, though they’re still 2.2-per-cent cheaper than they were a year ago. Economists expect used car prices to fall soon because measures of wholesale used car costs are declining.

Housing costs keep rising and fuelling overall inflation, with rents increasing 0.5 per cent from April to May and 8.7 per cent over the past year.

Friday’s government report also showed that Americans’ incomes rose a solid 0.4 per cent from April to May, outpacing inflation and providing more fuel for future spending.

The report arrives two days after chair Jerome Powell said the Fed was prepared to keep interest rates at their peak for an extended period to tame the still-rising prices that have shrunk Americans’ inflation-adjusted paycheques and disrupted businesses. The Fed’s policy makers, as a group, envision two additional rate hikes this year.

“The bottom line is that [interest-rate] policy hasn’t been restrictive enough for long enough,” Mr. Powell said in his remarks at an international forum in Sintra, Portugal. He reiterated his view that prices for services, such as restaurant meals, hotel rooms and health care, are still rising too fast, driven in part by the need of many companies to raise pay to attract and keep workers.

Inflation has also eased in the 20 countries that use the euro, according to a separate report released Friday. Prices rose 5.5 per cent in June compared with a year ago, down from 6.1 per cent in May. But as in the United States, core inflation has proved more stubborn: It ticked up from 5.3 per cent to 5.4 per cent.

European Central Bank president Christine Lagarde and Bank of England governor Andrew Bailey, along with Mr. Powell, warned in remarks at the Sintra conference that they, too, will keep raising borrowing costs to fight high inflation.

The U.S. inflation gauge that was issued Friday, called the personal consumption expenditures price index, is separate from the government’s better-known consumer price index. The government reported earlier this month that the CPI rose 4 per cent in May from 12 months earlier.

Since inflation began surging after the pandemic recession, the PCE index has tended to show lower inflation than CPI. In part, that was because rents, which were among the biggest inflation drivers, carry twice the weight in the CPI that they do in the PCE. In addition, the PCE index seeks to account for changes in how people shop when inflation jumps – when, for example, consumers shift away from pricey national brands in favour of cheaper store brands.

Beginning with its first hike in March, 2022, the Fed has lifted its benchmark interest rate to about 5.1 per cent, its highest level in 16 years, before forgoing a hike at its most recent meeting earlier this month.

The economy has shown surprising resilience despite the Fed’s rate hikes, defying long-standing forecasts of a recession. A measure of the economy’s growth in the first three months of the year was sharply upgraded Thursday to a solid annual pace of 2 per cent, from a previous estimate of 1.3 per cent.

Still, the economy’s durability could prove a mixed blessing. The Fed is raising rates to try to cool borrowing and spending by businesses and consumers. It hopes employers will then reduce their demand for workers, which, in turn, could slow wage increases and inflation pressures.

Yet if the economy continues to expand at a solid pace, the Fed would likely feel compelled to send rates even higher to achieve its goal of bringing inflation back down to 2 per cent.

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