The inflation data confirms the Fed’s next question: How much should the key interest rate be cut?

This is the conclusion of today’s Morning Brief, which you Sign up to receive it in your inbox every morning, along with:

The latest inflation data provided the Fed with a brightly lit and fog-free runway for an ambitious soft landing.

Given enough time, economic data that once constrained policymakers now gives them room to maneuver. If central bankers were looking for “more good data” before flipping the stimulus switch, they probably found it on Wednesday, when the consumer price index fell below 3%, the lowest annual reading since spring 2021.

“We view this report as a signal that the Fed is more inclined to cut interest rates and expect the first cut in September,” economists at Bank of America Global Research wrote in a note on Wednesday.

But while the encouraging numbers bolstered the case for a seemingly inevitable rate cut, they also dampened expectations about how deep the Fed will cut rates on its first attempt. The debate over rate cuts quickly moved from “if” to “how many?” and “by how much?”

Market bets on Wednesday afternoon put the probability of a 50 basis point decline at about 37 percent, according to the CME FedWatch tool, down from 53 percent on Tuesday and well below the 69 percent seen last week.

But this shift may have more to do with last week's market panic and massive sell-off than with waning confidence in the Fed's ability to contain inflation. After all, the tremors of last Monday's financial earthquake prompted some observers to call for an emergency rate cut outside of scheduled Fed meetings.

It's also a testament to how fickle the market can be. Stock indexes have recovered about half of their losses since their mid-July peak. Last week, the sky fell. This week, we're back to nitpicking about Goldilocks inflation numbers.

While the market sees the possibility of lower rates as a near certainty, as President Jerome Powell likes to remind us, the Fed has other factors to consider. Three key data sets will arrive as waypoints before we get to the Fed's policy meeting in mid-September.

First, the core PCE price index, the Fed's preferred inflation indicator, will be released on August 30. Then, on September 6, the August employment report will follow, and finally, on September 11, there will be a final snapshot of price pressures before the meeting in the form of another consumer price index report.

While none of the readings offer a surprising twist, the Fed's newfound attention to both sides of its mandate complicates the monetary policy response.

The story continues

Accelerating and persistent inflation has prompted the central bank to embark on a historic tightening campaign, but the risks of a worsening labor market and a recession will likely determine how aggressively the Fed easing is.

Officials have more freedom of action today, but that doesn't mean they know what to do.

Hamza Shaban is a reporter for Yahoo Finance covering markets and economics. Follow Hamza on X @hshaban.

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