12-month inflation v. 1-month inflation – HubbardOBrienEconomics.com Blog

PCE Inflation Increases Slightly in September

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Today (December 5), the Bureau of Economic Analysis (BEA) released monthly data on the personal consumption expenditures (PCE) price index for September as part of its “Personal Income and Outlays” report. Release of the report was delayed by the federal government shutdown.

The following figure shows headline PCE inflation (the blue line) and core PCE inflation (the red line)—which excludes energy and food prices—with inflation measured as the percentage change in the PCE from the same month in the previous year. In September, headline PCE inflation was 2.8 percent, up slightly from 2.7 percent in August. Core PCE inflation in September was also 2.8 percent, down slightly from 2.9 percent in August. Both headline and core PCE inflation were equal to the forecast of economists surveyed.

Fed Chair Jerome Powell has frequently mentioned that inflation in non-market services can skew PCE inflation. Non-market services are services whose prices the BEA imputes rather than measures directly. For instance, the BEA assumes that prices of financial services—such as brokerage fees—vary with the prices of financial assets. So that if stock prices fall, the prices of financial services included in the PCE price index also fall. Powell has argued that these imputed prices “don’t really tell us much about … tightness in the economy. They don’t really reflect that.” The following figure shows 12-month headline inflation (the blue line) and 12-month core inflation (the red line) for market-based PCE. (The BEA explains the market-based PCE measure here.)

Headline market-based PCE inflation was 2.6 percent in September, up from 2.4 percent in August. Core market-based PCE inflation was 2.6 percent in September, unchanged from August. So, both market-based measures show inflation as stable but above the Fed’s 2 percent target.

In the following figure, we look at 1-month inflation using these measures. One-month headline market-based inflation increase sharply to 3.7 percent in September from 2.6 percent in August. One-month core market-based inflation increased to 2.7 percent in September from 2.0 percent in August. As the figure shows, the 1-month inflation rates are more volatile than the 12-month rates, which is why the Fed relies on the 12-month rates when gauging how close it is coming to hitting its target inflation rate.

Data on real personal consumption expenditures were also included in this report. The following figure shows compound annual rates of growth of real real personal consumptions expenditures for each month since January 2023. Measured this way, the growth in real personal consumptions expenditures slowed sharply in September to 0.5 percent from 3.0 percent in August.

Does the slowing in consumptions spending indicate that real GDP may have also grown slowly in the third quarter of 2025? Economists at the Federal Reserve Bank of Atlanta prepare nowcasts of real GDP. A nowcast is a forecast that incorporates all the information available on a certain date about the components of spending that are included in GDP. The Atlanta Fed calls its nowcast GDPNow. As the following figure from the Atlanta Fed website shows, today the GDPNow forecast—taking into account today’s data on real personal consumption expenditures—is for real GDP to grow at an annual rate of 3.5 percent in the third quarter, which reflects continuing strong growth in other measures of output.

In a number of earlier blog posts, we discussed the policy dilemma facing the Fed. Despite the Atlanta Fed’s robust estimate of real GDP growth, there are some indications that the labor market may be weakening. For instance, earlier this week ADP estimated that private sector employment declined by 32,000 jobs in November. (We discuss ADP’s job estimates in this blog post.) As the Fed’s policy-making Federal Open Market Committee (FOMC) prepares for its next meeting on December 9–10, it has to balance guarding against a potential decline in employment with concern that inflation has not yet returned to the Fed’s 2 percent annual target.

If the committee decides that inflation is the larger concern, it is likely to leave its target range for the federal funds rate unchanged. If it decides that weakness in the labor market is the larger concern, it is likely to reduce it target range by 0.25 percentage point (25 basis points). Statements by FOMC members indicate that opinion on the committee is divided. In addition, the Trump administration has brought pressure on the committee to cut its target rate.

One indication of expectations of future changes in the FOMC’s target for the federal funds rate comes from investors who buy and sell federal funds futures contracts. (We discuss the futures market for federal funds in this blog post.) Investors’ expectations have been unusually volatile during the past two months as new macroeconomic data or new remarks by FOMC members have caused swings in the probability that investors assign to the committee cutting the target range.

As of this afternoon, investors assigned a 87.2 percent probability to the committee cutting its target range for the federal funds rate by 25 basis points to 3.50 percent to 3.75 percent at its December meeting. At the December meeting the committee will also release its Summary of Economic Projections (SEP) giving members forecasts of future values of the inflation rate, the unemployment rate, the federal funds rate, and the growth rate of real GDP. The SEP, along with Fed Chair Powell’s remarks at his press conference following the meeting, should provide additional information on the monetary policy path the committee intends to follow in the coming months.

FOMC Meeting Results in Expected Rate Cut

Photo of Federal Reserve Chair Jerome Powell from federalreserve.gov

Today’s meeting of the Federal Reserve’s policymaking Federal Open Market Committee (FOMC) occurred against a backdrop of a shutdown of the federal government that has delayed release of most government economic data. (We discuss the government shutdown here, here, and here.)

As most observers had expected, the committee decided today to lower its target for the federal funds rate from a range of 4.00 percent to 4.25 percent to a range of 3.75 percent to 4.oo percent—a cut of 0.25 percentage point, or 25 basis points. The members of the committee voted 10 to 2 for the 25 basis point cut with Governor Stephen Miran dissenting because he preferred a 50 basis point cut and Jeffrey Schmid, president of the Federal Reserve Bank of Kansas City, dissenting because he preferred that the target range be left unchanged at this meeting.

The following figure shows, for the period since January 2010, the upper bound (the blue line) and the lower bound (the green line) for the FOMC’s target range for the federal funds rate, as well as the actual values of the federal funds rate (the red line). Note that the Fed has been successful in keeping the value of the federal funds rate in its target range. (We discuss the monetary policy tools the FOMC uses to maintain the federal funds rate in its target range in Macroeconomics, Chapter 15, Section 15.2 (Economics, Chapter 25, Section 25.2).)

During his press conference following the meeting, Fed Chair Jerome Powell made news by stating that a further cut in the target rate at the FOMC’s meeting on December 9–10 is not a foregone conclusion. This statement came as a surprise to investors who buy and sell federal funds futures contracts. (We discuss the futures market for federal funds in this blog post.) As of yesterday, investors has assigned a probability of 90.5 percent to the committee cutting its target range by another 25 basis points at the December meeting. Today that probability dropped to zero. Instead investors now assign a probability of 67.8 percent to the target remaining unchanged at that meeting, and a probability of 32.2 percent of the committee raising its target by 25 basis points.

Powell also indicated that he believes that the recent increase in inflation was largely due to the effects of the increase in tariff rates that the Trump administration began implementing in April. (We discuss the recent data on inflation in this post.) Powell indicated that committee members expect that the tariff increases will cause a one-time increase in the price level, rather than a long-term increase in the inflation rate. As a result, he said that the shift in the “balance of risks” caused the committee to believe that cutting the target for the federal funds rate was warranted to avoid the possibility of a significant rise in the unemployment rate.

In discussing inflation, Powell highlighted three aspects of the recent CPI report: inflation in goods, inflation in shelter, and inflation in services not including shelter. (The BLS explains is measurement of shelter here.) The following figure shows inflation in each of those categories, measured as the percentage increase from the same month in the previous year. Inflation in goods (the blue line) has been trending up, reflecting the effect of increased tariffs rates. Inlation in shelter (the red line) and in services minus shelter (the green line) have generally been trending downward. Powell noted that the decline in inflation in shelter has been slower than most members of the committee had expected.

Still, Powell argued that with the downward trend in services, once the temporary inflation in goods due to the effects of tariffs had passed through the economy, inflation was likely to be close the Fed’s 2 percent annual target. He thought this was particularly likely to be true because even after today’s cut, the federal funds rate was “restrictive” because it remained above its long-run nominal and real values. A restrictive monetary policy will slow spending and inflation.

In the following figure, we look at the 1-month inflation rates—that is, the annual inflation rates calculated by compounding the current month’s rates over an entire year—for the same three categories. Calculated as the 1-month inflation rate, goods inflation (the blue line) was running at a very high 6.6 percent in September. inflation in shelter (the red line) had declined to 2.5 per cent in September. Inflation in services minus shelter rose slightly in September to 2.1 percent.

Assuming that the shutdown of the federal government ends within the next few weeks, members of the FOMC will have a great deal of data on inflation, real GDP growth, and employment to consider before their next meeting in December.

CPI Inflation for September Slightly Below Forecasts but Still Above Target

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As we’ve noted in recent blog posts (here and here), the shutdown of the federal government has interrupted the release of government data, including the “Employment Situation” report prepared monthly by the Bureau of Labor Statistics (BLS). The federal government made an exception for the BLS report on the consumer price index (CPI) because annual cost-of-living increases in Social Security payments are determined by the average inflation rate in the CPI during July, August, and September.

Accordingly, today (October 24), the Bureau of Labor Statistics (BLS) released its report on the consumer price index (CPI) for September. The following figure compares headline CPI inflation (the blue line) and core CPI inflation (the red line).

The headline inflation rate, which is measured by the percentage change in the CPI from the same month in the previous year, was 3.0 percent in September, up from 2.9 percent in August.
The core inflation rate, which excludes the prices of food and energy, was also 3.0 percent in September, down slightly from 3.1 percent in August.

Headline inflation and core inflation were both slightly lower than the 3.1 rate for both measures that economists had expected.

In the following figure, we look at the 1-month inflation rates for headline and core inflation—that is the annual inflation rate calculated by compounding the current month’s rate over an entire year. Calculated as the 1-month inflation rate, headline inflation (the blue line) declined from the very high rate of 4.7 percent in August to the still high rate of 3.8 percent in September. Core inflation (the red line) declined from 4.2 percent in August to 2.8 percent in September.

The 1-month and 12-month inflation rates are both indicating that inflation remains well above the Fed’s 2 percent annual inflation target in September. Core inflation—which is often a good indicator of future inflation—in particular has been running well above target during the last three months.

Of course, it’s important not to overinterpret the data from a single month. The figure shows that the 1-month inflation rate is particularly volatile. Also note that the Fed uses the personal consumption expenditures (PCE) price index, rather than the CPI, to evaluate whether it is hitting its 2 percent annual inflation target.

Does the increase in inflation represent the effects of the increases in tariffs that the Trump administration announced on April 2? (Note that many of the tariff increases announced on April 2 have since been reduced.) The following figure shows 12-month inflation in durable goods—such as furniture, appliances, and cars—which are likely to be affected directly by tariffs, all core goods, and core services. Services are less likely to be affected by tariffs.. To make recent changes clearer, we look only at the months since January 2022. In August, inflation in durable goods declined slightly to 1.8 percent in September from 1.9 percent in August. Inflation in core goods was unchanged in September at 1.5 percent. Inflation in core services fell slightly in September to 3.5 percent from 3.6 percent in August.

The following figure shows 1-month inflation in the prices of these products, which may makes clearer the effects of the tariff increases. In September, durable goods inflation was a high 4.0 percent, although down from 5.1 percent in August. Core goods inflation in September was 2.7 percent, down from 3.4 percent in August. Core service inflation was 2.9 percent in August, down from 4.3 percent in August.

To better estimate the underlying trend in inflation, some economists look at median inflation and trimmed mean inflation.

Median inflation is calculated by economists at the Federal Reserve Bank of Cleveland and Ohio State University. If we listed the inflation rate in each individual good or service in the CPI, median inflation is the inflation rate of the good or service that is in the middle of the list—that is, the inflation rate in the price of the good or service that has an equal number of higher and lower inflation rates.
Trimmed-mean inflation drops the 8 percent of goods and services with the highest inflation rates and the 8 percent of goods and services with the lowest inflation rates.

The following figure shows that 12-month trimmed-mean inflation (the blue line) was 3.2 percent in September, down slightly from 3.3 August. Twelve-month median inflation (the red line) 3.5 percent in September, down slightly from 3.6 in August.

The following figure shows 1-month trimmed-mean and median inflation. One-month trimmed-mean inflation declined from 3.2 percent in August to 2.4 percent in September. One-month median inflation declined from 3.4 percent in August to 2.4 percent in September. These data are consistent with the view that inflation is still running above the Fed’s 2 percent target.

With inflation running above the Fed’s 2 percent annual target, we wouldn’t typically expect that the Fed’s policymaking Federal Open Market Committee (FOMC) would cut its target for the federal funds rate at its October 28–29 meeting. At this point, though, it seems likely that the FOMC will “look through” the higher inflation rates of the last few months because the higher rates may be largely attributable to one-time price increases caused by tariffs. Committee members have signaled that they are likely to cut their target for the federal funds rate by 0.25 percentage point (25 basis points) at the conclusion of next week’s meeting.

This morning, investors who buy and sell federal funds futures contracts assign a probability of 96.7 percent to the FOMC cutting its target for the federal funds rate at that meeting by 25 basis points from its current target range of 4.00 percent to 4.25 percent. Investors assign a 95.9 percent probability of the committee cutting its target by an additional 25 basis points to 3.50 percent to 3.75 percent at its December 9–10 meeting. If persistently high inflation rates reflect more than just the temporary effects of tariffs, these rate cuts will make it unlikely that the Fed will reach its 2 percent inflation target anytime soon.

CPI Inflation Worsens, as Expected

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Today (September 11), the Bureau of Labor Statistics (BLS) released its report on the consumer price index (CPI) for August. The following figure compares headline CPI inflation (the blue line) and core CPI inflation (the red line).

The headline inflation rate, which is measured by the percentage change in the CPI from the same month in the previous year, was 2.9 percent in August, up from 2.7 in July.
The core inflation rate, which excludes the prices of food and energy, was 3.1 percent in August, up slightly from 3.0 percent in July.

Headline inflation and core inflation were both the same as economists surveyed had expected.

In the following figure, we look at the 1-month inflation rate for headline and core inflation—that is the annual inflation rate calculated by compounding the current month’s rate over an entire year. Calculated as the 1-month inflation rate, headline inflation (the blue line) jumped from 2.4 percent in July to 4.7 percent in August. Core inflation (the red line) increased from 3.9 percent in July to 4.2 percent in August.

The 1-month and 12-month inflation rates are both indicating that inflation accelerated in August. Core inflation—which is often a good indicator of future inflation—in particular has been running well above the Fed’s 2 percent inflation target during the last two months.

Core inflation had been running significantly higher than headline inflation in the past few months because gasoline prices had generally been falling since February. Gasoline prices turned around in August, however, increasing at a 25.5 percent annual rate. As shown in the following figure, 1-month inflation in gasoline prices moves erratically—which is the main reason that gasoline prices aren’t included in core inflation.

Does the increase in inflation represent the effects of the increases in tariffs that the Trump administration announced on April 2? (Note that many of the tariff increases announced on April 2 have since been reduced) The following figure shows 12-month inflation in durable goods—such as furniture, appliances, and cars—which are likely to be affected directly by tariffs, and services, which are less likely to be affected by tariffs.. To make recent changes clearer, we look only at the months since January 2022. In August, inflation in durable goods increased to 1.9 percent from 1.2 percent in July. Inflation in services in August was 3.8 percent, unchanged from July.

The following figure shows 1-month inflation in the prices of these products, which may make the effects of tariffs clearer. In August, durable goods inflation was 5.1 percent up from 4.5 percent in July. Service inflation was 3.9 percent in August, down slightly from 4.0 percent in July. Inflation in goods and services both running well above 2 percent is not good news for inflation falling back to the Fed’s 2 percent target in the near future.

To better estimate the underlying trend in inflation, some economists look at median inflation and trimmed mean inflation.

Median inflation is calculated by economists at the Federal Reserve Bank of Cleveland and Ohio State University. If we listed the inflation rate in each individual good or service in the CPI, median inflation is the inflation rate of the good or service that is in the middle of the list—that is, the inflation rate in the price of the good or service that has an equal number of higher and lower inflation rates.
Trimmed-mean inflation drops the 8 percent of goods and services with the highest inflation rates and the 8 percent of goods and services with the lowest inflation rates.

The following figure shows that 12-month trimmed-mean inflation (the blue line) was 3.3 percent in August, up slightly from 3.2 July. Twelve-month median inflation (the red line) 3.6 percent in August, unchanged from July.

The following figure shows 1-month trimmed-mean and median inflation. One-month trimmed-mean inflation rose from 2.9 percent in July to 3.2 percent in August. One-month median inflation remained unchanged at 3.4 percent in August. These data are consistent with the view that inflation is running above the Fed’s 2 percent target.

The CPI inflation data combined with the recent jobs data (which we discuss here and here), indicate that the U.S. economy may be entering a period of stagflation—a combination of rising inflation with falling, or stagnating, output. Stagflation poses a policy dilemma for the Fed’s policymaking Federal Open Market Committee (FOMC) because cutting its target for the federal funds rate to increase economic growth and employment may worsen inflation. At this point, it seems likely that the FOMC will “look through” this month’s rising inflation because it may be largely due to one-time price increases caused by tariffs. Committee members have signaled that they are likely to cut their target for the federal funds rate by 0.25 percent (25 basis points) at the conclusion of their meeting on September 16–17 and again at the conclusion of the following meeting on October 28–29.

PCE Inflation Is Steady, but Still Above the Fed’s Target

On August 29, the Bureau of Economic Analysis (BEA) released data for July on the personal consumption expenditures (PCE) price index as part of its “Personal Income and Outlays” report. The Fed relies on annual changes in the PCE price index to evaluate whether it’s meeting its 2 percent annual inflation target.

The following figure shows headline PCE inflation (the blue line) and core PCE inflation (the red line)—which excludes energy and food prices—for the period since January 2017, with inflation measured as the percentage change in the PCE from the same month in the previous year. In July, headline PCE inflation was 2.6 percent, unchanged from June. Core PCE inflation in July was 2.9 percent, up slightly from 2.8 percent in June. Headline PCE inflation and core PCE inflation were both equal to what economists surveyed had forecast.

The following figure shows headline PCE inflation and core PCE inflation calculated by compounding the current month’s rate over an entire year. (The figure above shows what is sometimes called 12-month inflation, while this figure shows 1-month inflation.) Measured this way, headline PCE inflation fell from 3.5 percent in June to 2.4 percent in July. Core PCE inflation increased slightly from 3.2 percent in June to 3.3 percent in July. So, both 1-month PCE inflation estimates are above the Fed’s 2 percent target, with 1-month core PCE inflation being well above target. The usual caution applies that 1-month inflation figures are volatile (as can be seen in the figure), so we shouldn’t attempt to draw wider conclusions from one month’s data. In addition, these data may reflect higher prices resulting from the tariff increases the Trump administration has implemented. Once the one-time price increases from tariffs have worked through the economy, inflation may decline. It’s not clear, however, how long that may take and it’s likely that not all the effects of the tariff increases on the price level are reflected in this month’s data.

As usual, we need to note that Fed Chair Jerome Powell has frequently mentioned that inflation in non-market services can skew PCE inflation. Non-market services are services whose prices the BEA imputes rather than measures directly. For instance, the BEA assumes that prices of financial services—such as brokerage fees—vary with the prices of financial assets. So that if stock prices fall, the prices of financial services included in the PCE price index also fall. Powell has argued that these imputed prices “don’t really tell us much about … tightness in the economy. They don’t really reflect that.” The following figure shows 12-month headline inflation (the blue line) and 12-month core inflation (the red line) for market-based PCE. (The BEA explains the market-based PCE measure here.)

Headline market-based PCE inflation was 2.3 percent in July, unchanged from June. Core market-based PCE inflation was 2.6 percent in July, also unchanged from June. So, both market-based measures show inflation as stable but above the Fed’s 2 percent target.

In the following figure, we look at 1-month inflation using these measures. One-month headline market-based inflation declined sharply to 1.1 percent in July from 4.1 percent in June. One-month core market-based inflation also declined sharply to 2.1 percent in July from 3.8 percent in June. As the figure shows, the 1-month inflation rates are more volatile than the 12-month rates, which is why the Fed relies on the 12-month rates when gauging how close it is coming to hitting its target inflation rate. Still, looking at 1-month inflation gives us a better look at current trends in inflation, which these data indicate is slowing significantly.

As we noted earlier, some of the increase in inflation is likely attributable to the effects of tariffs. The effect of tariffs are typically seen in goods prices, rather than in service prices because tariffs are levied primarily on imports of goods. As the following figure shows, one-month inflation in goods prices jumped in June to 4.8 percent, but then declined sharply to –1.6 in July. One-month inflation in services prices increased from 2.9 percent in June to 4.3 percent in July. Clearly, the 1-month inflation data—particularly for goods—are quite volatile.

Finally, these data had little effect on the expectations of investors trading federal funds rate futures. Investors assign an 86.4 percent probability to the Federal Open Market Committee (FOMC) cutting its target for the federal funds rate at its meeting on September 16–17 by 0.25 percentage point (25 basis points) from its current range of 4.25 percent to 4.5o percent. There has been some speculation in the business press that the FOMC might cut its target by 50 basis points at that meeting, but with inflation remaining above target, investors don’t foresee a larger cut in the target range happening.

CPI Inflation Comes in Slightly Below Expectations, Increasing Likelihood of Fed Rate Cuts

Fed Chair Jerome Powell (left) and Vice Chair Philip Jefferson (photo from federalreserve.gov)

Today (August 12), the Bureau of Labor Statistics (BLS) released its report on the consumer price index (CPI) for July. The following figure compares headline CPI inflation (the blue line) and core CPI inflation (the red line).

The headline inflation rate, which is measured by the percentage change in the CPI from the same month in the previous year, was 2.7 percent in July, unchanged from June.
The core inflation rate, which excludes the prices of food and energy, was 3.0 percent in July, up slightly from 2.9 percent in June. (Note that there was some inconsistency in how the core inflation rate is reported. The BLS, and some news outlets, give the value as 3.1 percent. The unrounded value is 3.0486 percent.)

Headline inflation and core inflation were slightly lower than what economists surveyed had expected.

In the following figure, we look at the 1-month inflation rate for headline and core inflation—that is the annual inflation rate calculated by compounding the current month’s rate over an entire year. Calculated as the 1-month inflation rate, headline inflation (the blue line) declined from 3.5 percent in June to 2.4 percent in July. Core inflation (the red line) increased from 2.8 percent in June to 3.9 percent in July.

The 1-month and 12-month inflation rates are telling somewhat different stories, with 12-month inflation indicating that inflation is stable, although moderately above the Fed’s 2 percent inflation target. The 1-month core inflation rate indicates that inflation may have increased during July.

A key reason for core inflation being significantly higher than headline inflation is that gasoline prices declined by 23.1 percent at an annual rate in June. As shown in the following figure, 1-month inflation in gasoline prices moves erratically—which is the main reason that gasoline prices aren’t included in core inflation.

Does the increase in inflation represent the effects of the increases in tariffs that the Trump administration announced on April 2? (Note that many of the tariff increases announced on April 2 have since been reduced) The following figure shows 12-month inflation in three categories of products whose prices are thought to be particularly vulnerable to the effects of tariffs: apparel (the blue line), toys (the red line), and motor vehicles (the green line). To make recent changes clearer, we look only at the months since January 2021. In July, prices of apparel fell, while the prices of toys and motor vehicles rose by less than 1.0 percent.

The following figure shows 1-month inflation in these prices of these products. In July, motor vehicles prices and apparel prices increased by less than 1 percent, while toy prices increased by 1.9 percent after having soared soared by 24.3 percent in June. At least for these three products, it’s difficult to see tariffs as having had a significant effect on inflation in July.

To better estimate the underlying trend in inflation, some economists look at median inflation and trimmed mean inflation.

Median inflation is calculated by economists at the Federal Reserve Bank of Cleveland and Ohio State University. If we listed the inflation rate in each individual good or service in the CPI, median inflation is the inflation rate of the good or service that is in the middle of the list—that is, the inflation rate in the price of the good or service that has an equal number of higher and lower inflation rates.
Trimmed-mean inflation drops the 8 percent of goods and services with the highest inflation rates and the 8 percent of goods and services with the lowest inflation rates.

The following figure shows that 12-month trimmed-mean inflation (the blue line) was 3.2 percent in July, unchanged from June. Twelve-month median inflation (the red line) 3.6 percent in July, unchanged from June.

The following figure shows 1-month trimmed-mean and median inflation. One-month trimmed-mean inflation declined from 3.9 percent in June to 2.9 percent in July. One-month median inflation also declined from 4.1 percent in June to 3.7 percent in July. These data indicate that inflation may have slowed in July (the opposite conclusion we noted earlier when discussing 1-month core inflation), while remaining above the Fed’s 2 percent target.

What are the implications of this CPI report for the actions the Federal Reserve’s policymaking Federal Open Market Committee (FOMC) may take at its next meetings? Even before today’s relatively favorable, if mixed, inflation report, the unexpectedly weak jobs report at the beginning of the month (which we discuss in this blog post) made it likely that the FOMC would soon begin cutting its target for the federal funds rate.

Investors who buy and sell federal funds futures contracts assign a probability of 94.3 percent to FOMC cutting its target for the federal funds rate at its September 16–17 meeting by 0.25 (25 basis points) from its current target range of 4.25 percent to 4.50 percent. That probability increased from 85.9 percent yesterday. (We discuss the futures market for federal funds in this blog post.) Investors assign a probability of 61.5 percent to the FOMC cutting its target again by 25 basis points at its October 28–29 meeting, and a probability of 50.3 percent to a third 25 basis point cut at the committee’s December 9–10 meeting.

PCE Inflation Comes in Higher Than Expected

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Yesterday, in this blog post, we discussed the quarterly data on inflation as measured by changes in the personal consumption expenditures (PCE) price index. Today (July 31), the Bureau of Economic Analysis (BEA) released monthly data on the PCE price index as part of its “Personal Income and Outlays” report. The Fed relies on annual changes in the PCE price index to evaluate whether it’s meeting its 2 percent annual inflation target.

The following figure shows headline PCE inflation (the blue line) and core PCE inflation (the red line)—which excludes energy and food prices—for the period since January 2017, with inflation measured as the percentage change in the PCE from the same month in the previous year. In June, headline PCE inflation was 2.6 percent, up from 2.4 percent in May. Core PCE inflation in June was 2.8 percent, unchanged from May. Headline PCE inflation was higher than the forecast of economists surveyed, while core PCE inflation was the same as forecast.

The following figure shows headline PCE inflation and core PCE inflation calculated by compounding the current month’s rate over an entire year. (The figure above shows what is sometimes called 12-month inflation, while this figure shows 1-month inflation.) Measured this way, headline PCE inflation jumped from 2.0 percent in May to 3.4 percent in June. Core PCE inflation increased from 2.6 percent in May to 3.1 percent in June. So, both 1-month PCE inflation estimates are well above the Fed’s 2 percent target. The usual caution applies that 1-month inflation figures are volatile (as can be seen in the figure), so we shouldn’t attempt to draw wider conclusions from one month’s data. In addition, these data likely don’t capture fully the higher prices likely to result from the tariff increases the Trump administration has implemented, including those in trade agreements that have only been announced in the past few days.

Fed Chair Jerome Powell has frequently noted that inflation in non-market services can skew PCE inflation. Non-market services are services whose prices the BEA imputes rather than measures directly. For instance, the BEA assumes that prices of financial services—such as brokerage fees—vary with the prices of financial assets. So that if stock prices fall, the prices of financial services included in the PCE price index also fall. Powell has argued that these imputed prices “don’t really tell us much about … tightness in the economy. They don’t really reflect that.” The following figure shows 12-month headline inflation (the blue line) and 12-month core inflation (the red line) for market-based PCE. (The BEA explains the market-based PCE measure here.)

Headline market-based PCE inflation was 2.3 percent in June, up from 2.1 percent in May. Core market-based PCE inflation was 2.6 percent in June, up from 2.4 percent in May. So, both market-based measures show similar rates of inflation in June as the total measures do. In the following figure, we look at 1-month inflation using these measures. The 1-month inflation rates are both higher than the 12-month rates. One-month headline market-based inflation soared to 3.9 percent in June from 1.6 percent in May. One-month core market-based inflation also increased sharply to 3.6 percent in June from 2.2 percent in May. As the figure shows, the 1-month inflation rates are more volatile than the 12-month rates, which is why the Fed relies on the 12-month rates when gauging how close it is coming to hitting its target inflation rate. Still, looking at 1-month inflation gives us a better look at current trends in inflation, which these data indicate is rising significantly.

Is the increase in inflation attributable to the effects of tariffs? At this point, it’s too early to tell, particularly since, as noted earlier, all tariff increases have not yet been implemented. We can note, though, that the effect of tariffs are typically seen in goods prices, rather than in service prices because tariffs are levied primarily on imports of goods. As the following figure shows, one-month inflation in goods prices jumped from 0.9 percent in May to 4.8 percent in June, while one-month inflation in services prices increased only from 2.5 percent in May to 2.8 percent in June.

Finally, we noted in a blog post yesterday that investors trading federal funds rate futures assigned a 55.0 percent probability to the Federal Open Market Committee leaving its target for the federal funds rate unchanged at its meeting on September 16–17. With today’s PCE report showing higher than expected inflation, that probability has increased to 60.8 percent.

Effect of Tariffs May Have Pushed Up CPI Inflation in June

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Today (July 15), the Bureau of Labor Statistics (BLS) released its report on the consumer price index (CPI) for June. The following figure compares headline CPI inflation (the blue line) and core CPI inflation (the red line).

The headline inflation rate, which is measured by the percentage change in the CPI from the same month in the previous year, was 2.7 percent in June—up from 2.4 percent in May.
The core inflation rate, which excludes the prices of food and energy, was 2.9 percent in June—up slightly from 2.8 percent in May.

Headline inflation was slightly higher and core inflation was slightly lower than what economists surveyed had expected.

In the following figure, we look at the 1-month inflation rate for headline and core inflation—that is the annual inflation rate calculated by compounding the current month’s rate over an entire year. Calculated as the 1-month inflation rate, headline inflation (the blue line) surged from 1.0 percent in May to 3.5 percent in June. Core inflation (the red line) also increased sharply from 1.6 percent in May to 2.8 percent in June.

The 1-month and 12-month inflation rates are telling different stories, with 12-month inflation indicating that the rate of price increase is running moderately above the Fed’s 2 percent inflation target. The 1-month inflation rate indicates more clearly that inflation increased significantly during June.

Does the increase in inflation represent the effects of the increases in tariffs that the Trump administration announced on April 2? (Note that some of the tariff increases announced on April 2 have since been reduced) The following figure shows 12-month inflation in three categories of products whose prices are thought to be particularly vulnerable to the effects of tariffs: apparel (the blue line), toys (the red line), and motor vehicles (the green line). To make recent changes clearer, we look only at the months since January 2021. In June, prices of apparel fell, while the prices of toys and motor vehicles rose by less than 1.0 percent.

The following figure shows 1-month inflation in these prices of these products. In June, the motor vehicles prices fell, while apparel prices increased 5.3 percent and the prices of toys soared by 24.3 percent, which was the second month in a row of very large increases in toy prices.

The 1-month inflation data for these three products are a mixed bag with two of the products showing significant increases and one showing a decline. It’s likely that some of the effects of the tariffs are still being cushioned by firms increasing their inventories earlier in the year in anticipation of price increases resulting from the tariffs. As firms draw down their inventories, we may see tariff-related increases in the prices of more goods later in the year.

To better estimate the underlying trend in inflation, some economists look at median inflation and trimmed mean inflation.

Median inflation is calculated by economists at the Federal Reserve Bank of Cleveland and Ohio State University. If we listed the inflation rate in each individual good or service in the CPI, median inflation is the inflation rate of the good or service that is in the middle of the list—that is, the inflation rate in the price of the good or service that has an equal number of higher and lower inflation rates.
Trimmed-mean inflation drops the 8 percent of goods and services with the highest inflation rates and the 8 percent of goods and services with the lowest inflation rates.

The following figure shows that 12-month trimmed-mean inflation (the blue line) was 3.2 percent in June, up from 3.0 percent in May. Twelve-month median inflation (the red line) 3.6 percent in June, up from 3.5 percent in May.

The following figure shows 1-month trimmed-mean and median inflation. One-month trimmed-mean inflation rose sharply from 2.2 percent in May to 3.9 percent in June. One-month median inflation also rose sharply from 2.7 percent in May to 4.1 percent in June. These data provide some confirmation that inflation likely rose from May to June.

What are the implications of this CPI report for the actions the Federal Reserve’s policymaking Federal Open Market Committee (FOMC) may take at its next meetings? Investors who buy and sell federal funds futures contracts still expect that the FOMC will leave its target for the federal funds rate unchanged at its July 29–30 meeting before cutting its target by 0.25 (25 basis points) from its current target range of 4.25 percent to 4.50 percent at its September 16–17 meeting. (We discuss the futures market for federal funds in this blog post.) The FOMC’s actions will likely depend in part on the effect of the tariff increases on the inflation rate during the coming months. If inflation were to increase significantly, it’s possible that the committee would decide to raise, rather than lower, its target range.

Mixed PCE Inflation Report and Slowing Growth Provides Murky Outlook for the Fed

Image generated by ChatGTP-4o

Today (June 27), the BEA released monthly data on the personal consumption expenditures (PCE) price index as part of its “Personal Income and Outlays” report. The Fed relies on annual changes in the PCE price index to evaluate whether it’s meeting its 2 percent annual inflation target. The following figure shows headline PCE inflation (the blue line) and core PCE inflation (the red line)—which excludes energy and food prices—for the period since January 2016, with inflation measured as the percentage change in the PCE from the same month in the previous year. In May, headline PCE inflation was 2.3 percent, up from 2.2 percent in April. Core PCE inflation in May was 2.7 percent, up from 2.6 percent in April. Headline PCE inflation was equal to the forecast of economists surveyed, while core PCE inflation was slightly higher than forecast.

The following figure shows PCE inflation and core PCE inflation calculated by compounding the current month’s rate over an entire year. (The figure above shows what is sometimes called 12-month inflation, while this figure shows 1-month inflation.) Measured this way, PCE inflation increased in from 1.4 percent in April to 1.6 percent in May. Core PCE inflation also increased from 1.6 percent in April to 2.2 percent in May. So, both 1-month PCE inflation estimates are close to the Fed’s 2 percent target. The usual caution applies that 1-month inflation figures are volatile (as can be seen in the figure), so we shouldn’t attempt to draw wider conclusions from one month’s data. In addition, these data likely don’t capture fully the higher prices likely to result from the tariff increases the Trump administration announced on April 2.

Headline market-based PCE inflation was 2.1 percent in May, up from 1.9 percent in April. Core market-based PCE inflation was 2.4 percent in May, up from 2.3 percent in April. So, both market-based measures show similar rates of inflation in May as the total measures do. In the following figure, we look at 1-month inflation using these measures. The 1-month inflation rates are both lower than the 12-month rates. One-month headline market-based inflation was 1.5 percent in May, down from 2.3 percent in April. One-month core market-based inflation was 2.1 percent in May, down from 2.7 percent in April. As the figure shows, the 1-month inflation rates are more volatile than the 12-month rates, which is why the Fed relies on the 12-month rates when gauging how close it is coming to hitting its target inflation rate.

Earlier this week, the BEA released a revised estimate of real GDP growth during the first quarter of 2025—January through March. The BEA’s advance estimate, released on April 30, was that real GDP fell by 0.3 percent in the first quarter, measured at an annual rate. (We discussed the BEA’s advance estimate in this blog post.) The BEA’s revised estimate is that real GDP fell by 0.5 percent in the first quarter. The following figure shows the current estimated rates of real GDP growth in each quarter beginning in 2021.

As we noted in our post discussing the advance estimate, one way to strip out the effects of imports, inventory investment, and government purchases—which can all be volatile—is to look at real final sales to private domestic purchasers, which includes only spending by U.S. households and firms on domestic production. According to the advance estimate, real final sales to private domestic purchasers increased by 3.0 percent in the first quarter of 2025. According to the revised estimate, real final sales to private domestic purchasers increased by only 1.9 percent in the first quarter, down from 2.9 percent growth in the fourth quarter of 2024. These revised data indicate that economic growth likely slowed in the first quarter.

In summary, this week’s data provide some evidence that the inflation rate is getting close to the Fed’s 2 percent annual target and that economic growth may be slowing. Do these data make it more likely that the Fed’s policymaking Federal Open Market Committee (FOMC) will cut its target for the federal funds rate relatively soon?

Investors who buy and sell federal funds futures contracts still expect that the FOMC will leave its federal funds rate target unchanged at its next meetings on July 29–30 and September 16–17. Investors expect that the committee will cut its target at its October 28–29 meeting. (We discuss the futures market for federal funds in this blog post.) There remains a possibility, though, that future macroeconomic data releases, such as the June employment data to be released on July 3, may lead the FOMC to cut its target rate sooner.

Not Much Sign of the Effects of Tariffs in the May CPI Inflation Report

Image generated by ChatGTP-4o of someone shopping for clothes.

Today (June 11), the Bureau of Labor Statistics (BLS) released its report on the consumer price index (CPI) for May. The following figure compares headline CPI inflation (the blue line) and core CPI inflation (the green line).

The headline inflation rate, which is measured by the percentage change in the CPI from the same month in the previous year, was 2.4 percent in May—up slightly from 2.3 percent in April.
The core inflation rate, which excludes the prices of food and energy, was 2.9 percent in May—up slightly from 2.8 percent in April.

Headline inflation was slightly lower and core inflation was the same as what economists surveyed had expected.

In the following figure, we look at the 1-month inflation rate for headline and core inflation—that is the annual inflation rate calculated by compounding the current month’s rate over an entire year. Calculated as the 1-month inflation rate, headline inflation (the blue line) decreased from 2.7 percent in April to 1.0 percent in May. Core inflation (the red line) decreased from 2.9 percent in April to 1.6 percent in May.

The 1-month and 12-month inflation rates are telling different stories, with 12-month inflation indicating that the rate of price increase is running slightly above the Fed’s 2 percent inflation target. The 1-month inflation rate indicates a significant slowing of inflation during May.

One of the key questions facing Federal Reserve policymakers is to what extent inflation will be affected by the increase in tariffs that the Trump administration announced on April 2. The following figure shows 12-month inflation in three categories of products whose prices are thought to be particularly vulnerable to the effects of tariffs: apparel (the blue line), toys (the red line), and motor vehicles (the green line). In May, prices of apparel fell, while the prices of toys and motor vehicles rose by less than 0.5 percent.

The following figure shows 1-month inflation in these categories. In May, the prices of apparel and motor vehicles fell, while the price of toys soared by 17.4 percent, but that followed a decline of 10.3 percent in April.

Taken together this month’s CPI data don’t show much effect of tariffs on inflation. It’s possible that some of the effects of the tariffs have been cushioned by firms increasing their inventories earlier in the year in anticipation of price increases resulting from the tariffs. If so, as firms draw down their inventories, we may see tariff-related increases in the prices of some goods later in the year.

To better estimate the underlying trend in inflation, some economists look at median inflation and trimmed mean inflation.

Median inflation is calculated by economists at the Federal Reserve Bank of Cleveland and Ohio State University. If we listed the inflation rate in each individual good or service in the CPI, median inflation is the inflation rate of the good or service that is in the middle of the list—that is, the inflation rate in the price of the good or service that has an equal number of higher and lower inflation rates.
Trimmed-mean inflation drops the 8 percent of goods and services with the highest inflation rates and the 8 percent of goods and services with the lowest inflation rates.

The following figure shows that 12-month trimmed-mean inflation (the blue line) was 3.0 percent in May, unchanged from April. Twelve-month median inflation (the red line) 3.5 percent in May, also unchanged from April.

The following figure shows 1-month trimmed-mean and median inflation. One-month trimmed-mean inflation decreased from 3.0 percent in April to 2.2. percent in May. One-month median inflation declined from 4.0 percent in April to 2.7 percent in May. These data provide some confirmation that inflation likely fell somewhat from April to May.

What are the implications of this CPI report for the actions the Federal Reserve’s policymaking Federal Open Market Committee (FOMC) may take at its next several meetings? Investors who buy and sell federal funds futures contracts still do not expect that the FOMC will cut its target for the federal funds rate at its next two meetings. (We discuss the futures market for federal funds in this blog post.) Investors assign the highest probability to the FOMC making two 0.25 percentage point (25 basis points) cuts in its target rate by the end of the year. Those cuts would reduce the target range from the current 4.25 percent to 4.50 percent range to a range of 3.75 to 4.00 percent. The FOMC’s actions will likely depend in part on what the tariff increases will end up being following the conclusion of the current trade negotiations and what the effect on inflation from the tariff increases will be.