Key Takeaways
The Bureau of Economic Analysis is overhauling how it measures three components of the Federal Reserve's preferred inflation gauge, a statistical revision expected to lower core PCE by about two-tenths of a percentage point when fully reflected after September's data release.
"The revisions are routine adjustments necessary to make the statistics as faithful as possible," Connie O'Connell, head of public affairs at the BEA, said in a statement.
The changes target how the agency calculates prices for computer software, investment management and legal services — categories that have distorted the personal-consumption expenditures price index in recent years. The software revision alone could lower core PCE by about a tenth of a percentage point, according to Alan Detmeister, an economist at UBS. The investment management change could shave off another two-tenths, he estimated, while legal services will push inflation slightly higher but not enough to offset the reductions.
The revisions come at a pivotal moment for monetary policy. Core PCE has been running above the consumer-price index — an unusual inversion of the historical relationship — with economists estimating June's reading at 3.3%, compared with core CPI at 2.6%. The BEA's updated methodology, applied retroactively over five years, will narrow that gap and could weaken the case for additional rate increases at a time when Fed officials are divided over the inflation outlook.
How the Methodology Is Changing
The BEA, which relies primarily on price data collected by the Bureau of Labor Statistics, is adjusting its formulas to better reflect actual consumer spending patterns. The software category had been contaminated by hardware costs such as flash drives, whose prices surged because of artificial-intelligence demand. The new approach blends additional producer-price data on videogame software and web-hosting services, producing a cleaner inflation reading.
Investment management fees, which are often tied to portfolio values, had been rising in lockstep with the stock market's rally — a dynamic that former Fed Governor Stephen Miran argued overstates inflation because higher fees reflect a greater volume of assets under management, not higher prices for the same service. The BEA's new method compares financial firms' income with labor inputs in the industry.
Legal services will shift from CPI-based data to the producer-price index, a change that will nudge inflation slightly higher.
What It Means for the Fed
The revisions do not change the reality consumers face. Prices are still rising faster than the Fed's 2% target, and pre-pandemic price levels are not returning. But perception matters in financial markets. Cooler reported inflation readings could reinforce expectations that the central bank has room to ease policy, particularly after Chair Kevin Warsh signaled he focuses on inflation "to the left of the decimal point."
The last time the BEA made comparable methodological changes was in September 2022, when it updated how it measured airline fares and health insurance, adjustments that lowered reported inflation by roughly a tenth of a point at a time when the Fed was in the midst of its most aggressive tightening cycle in decades.
For investors, the implications are most pronounced in rate-sensitive sectors. Lower measured inflation could support higher valuations in technology, housing and consumer discretionary stocks by reducing the probability of further rate increases. Overnight-index-swap markets will be watching the Sept. 30 release closely for confirmation of the downward revision.
Some economists have questioned the opacity of the BEA's process. Detmeister said the selection of categories left him wondering "why did they choose these?" The agency maintains the changes are purely statistical and driven by career staff without policy considerations.
This article is for informational purposes only and does not constitute investment advice.
