The U.S. economy entered August with a fresh set of inflation data — and while headline numbers offered some stability, a closer look reveals a less comforting story for policymakers.
The July Consumer Price Index (CPI) showed inflation holding steady, but a notable rise in core prices could heavily influence the Federal Reserve’s next move in September.
Headline vs. Core CPI — A Tale of Two Metrics
In July, the overall CPI increased 0.2% month-over-month and remained at 2.7% year-over-year, matching June’s pace and falling slightly below economists’ expectations.
On the surface, this suggests inflationary pressures are stabilizing, especially in the wake of recent tariff changes and global supply chain adjustments.
However, the core CPI — which strips out volatile food and energy prices — rose 3.1% year-over-year, up from June’s 2.9% and marking the highest reading since February.
Core inflation is considered a more reliable measure of long-term price trends because it filters out short-term market fluctuations.
Why Core CPI Matters More for the Fed
The Federal Reserve closely monitors core inflation when making interest rate decisions. While falling energy prices and stable food costs kept headline inflation in check, the persistent rise in housing, healthcare, and services suggests underlying inflationary pressures remain sticky.
This matters because the Fed’s long-term goal is to keep inflation anchored around 2%. A continued upward trend in core CPI may signal that underlying demand remains strong — and that reducing inflation to target could require more patience.
Markets See a September Rate Cut — But Will It Happen?
Despite the uptick in core inflation, markets remain optimistic. Futures trading shows an 89–90% probability of a Federal Reserve interest rate cut in September. Investors are betting that the Fed will focus more on the broader cooling trend in headline CPI and signs of slowing job growth, rather than letting the core figure derail its easing plans.
Still, the Fed faces a delicate balancing act: cut rates too soon, and it risks reigniting inflationary pressures; hold off, and it could slow the economy further.
Key Drivers Behind July’s Numbers
Several factors contributed to July’s CPI performance:
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Shelter Costs: Housing prices remain elevated, contributing significantly to the core inflation jump.
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Healthcare Services: Rising medical costs are keeping core prices elevated.
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Tariff Effects: Recently imposed tariffs have yet to fully ripple through consumer prices but remain a concern for the months ahead.
The September Decision — What to Watch
Between now and the September Fed meeting, two key data releases will be critical:
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August CPI Report — Will core inflation keep climbing, or was July a temporary spike?
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Labor Market Data — A further slowdown in hiring could tip the scales toward a rate cut.
If core CPI continues to rise, the Fed may signal a more cautious approach, possibly delaying a cut until November. But if broader inflationary pressures ease, September could mark the first rate cut since the central bank began its tightening cycle.
Bottom Line
The July CPI report tells two stories: one of headline stability and another of persistent core inflation. For the Federal Reserve, the latter may hold more weight in deciding whether to pull the trigger on a September rate cut. For investors and consumers alike, the next few weeks will be critical in shaping the economic outlook for the rest of 2025.
