RBC U.S. Inflation Watch

The Bottom Line:

• Core CPI moderated in February, in-line with our expectations and proving that seasonal spikes were a January effect this year. February data indicated that inflation expectations in consumer surveys were overblown. But this divergence highlights a key yellow flag emerging in the US economy – a divergence between “soft” sentiment data and hard data.
• The pace of core services halved relative to a month ago and a sizable decline in airfares contributed to this. We are watching demand for travel as a leading indicator of higher-income households paring back spending. Hotel prices also moderated this month suggesting travel demand is fading.
• Additionally, we have witnessed a spike in year-over-year used car prices in contrast to the continued declines in prices for new cars. We are watching closely to see if the recent retracement on the stock market results in a pullback from high-income consumers.
• Still, this morning’s data adds to our conviction that the Fed will keep rates on hold at next week’s meeting as the y/y pace of core inflation remained elevated at 3.1% and the unemployment rate remained low at 4.1%. But a moderation in inflationary pressures alongside a softer trajectory for employment data (thanks to DOGE layoffs and education hiring freezes) shifts the balance of risks, providing a potential cutting bias if the labor market continues to weaken.

The Details:

• February’s US CPI data suggests that the Q1 bump was largely contained in January. Core CPI moderated (+0.2% MoM) after a January spike attributed to seasonality. Year-over-year core inflation moved down to 3.1%, in-line with our expectations.
• Headline inflation surprised to the downside, up only 0.2% month-over-month with year-over-year price growth moving lower to 2.8% (from 3.0% in January).
• The pressure came off for core goods (+0.2% MoM) and services (+0.25%). Used auto prices and automotive services are still elevated but moved meaningfully lower in February. The retracement in core services (which halved between January and February) was assisted by a drop in airfares (down -4% from January), thanks to lower fuel costs but also likely due to a drop in demand for travel.
• Both rents and owners’ equivalents held steady at a modest pace (+0.3% MoM) and accounted for roughly half of the month-over-month increase in headline.
• In January, we noted a rise in the breadth of inflationary pressures. This month, the trend reversed. As of February, roughly 29% of CPI basket items reported price growth above 5%, compared to 33% in February 2024 and 45% in January 2025.

The Bottom Line:

• Core CPI’s upside surprise was another reflection of the “January effect”- seasonality strikes again! Even still, if the FOMC was not in a further easing mindset before, this morning’s data release will not incentivize them to move from the sidelines.
• More importantly, today’s print was one of many upside surprises to the economic data in recent months- following two successive moves lower in the unemployment rate.
• Our expectation is for the Fed to hold rates at 4.25% to 4.5% through the year, and January’s CPI numbers add to that conviction. At the January FOMC meeting, Chair Powell emphasized that the Fed remains data dependent. Still, he acknowledged we are in a “fatter tails” scenario where the odds of a shock to the economy are wider. It is still too premature for the impact of tariff announcements to show up in core goods, but we will be watching in the coming months. Over the longer-term, a structural shift will become more problematic- tighter labour market thanks to higher retirements and stringent immigration policies, which will exert upward pressure on wages.
• While headline inflation is sitting at 3.0%, it still feels like 3.2% for lower income households. This disparity will continue to be an important story in a higher-rate environment, as lower-income earners become more dependent on debt to sustain spending. The $40.8 billion increase in consumer credit outstanding in December (the largest month-over-month increase in season history) could be a growing sign of higher prices weighing on lower-income consumers.

The Details:

• U.S. headline CPI growth surprised markets- proving the “January effect” is still alive and well. Headline moved up 0.5% m/m January on a seasonally-adjusted basis, with year-over-year growth ticking up to 3.0 % exceeding market expectations (and our own).
• Core CPI moved notably higher, up 0.4% on a month-over-month basis, with year-over-year core price growth up by one-tenth to 3.3%.
• Shelter price growth moved up 0.4% month-over-month, driven primarily by a spike in lodging away from home. The one bright spot of today’s report was the more modest 0.3% increases for both rents and owners’ equivalents. Growth in shelter costs is still accounting for just under half of total year-over-year price growth
• The breadth of inflationary pressured widened significantly – currently ~38% of the U.S. CPI basket (excluding shelter) is reporting price growth above 5%- the highest share since mid-2023 and up significantly from 28% in December. At the same time, the share of basket items reporting price growth below 1% also moved significantly higher, suggesting a concerning divergence among products.
• The Fed’s super-core measure moved higher, to 0.8% from 0.2% in December, with the 3-month moving average annualized growth rate sitting at a higher 5.3%, up meaningfully from December’s 3.3%.
• Recent tariff announcements were not expected to show up in core goods prices just yet- still, core goods rose by 0.3% relative to December- this was the highest increase in over one year.

The Bottom Line:

• The tick lower in core price growth in December follows a string of upside surprises and shouldn’t be enough to justify another Federal Reserve rate cut later this month. Inflation has still slowed from where it was a year ago, but evidence has mounted that the persistent run of U.S. economic growth outperformance is also limiting the pace of slowing in inflation.
• We continue to expect the Fed will need to keep interest rates higher for longer than other regions to offset the inflationary impact of a resilient economy and large government budget deficit for this point in the economic cycle, and do not expect the Fed to cut the fed funds target range further this year.

The Details:

• U.S. headline CPI growth edged up to 2.9% – its highest level since July – but with the pickup from a 2.7% rate in November largely due to a smaller year-over-year decline in the volatile energy component.
• Core (ex-food & energy) price growth edged down to 3.2% from 3.3% in each of the three prior months on 0.2% month-over-month increase from November.
• Growth in home rents is still accounting for more than half of total year-over-year price growth, but continued to show signs of slowing with the bulky owner’s equivalent rent component up 0.3% month-over-month in December and the year-over-year rate ticking down to 4.8%.
• More worrying in recent months have been signs of a broader reacceleration in price pressures — but most of those measures looked better in December.
• Core services ex-rent prices (Fed’s so-called super-core) edged up 0.2%, its smallest month-over-month increase since July and pushing the 3-month average growth rate down to an annualized 3.5%.
• Core goods prices edged up 0.1% despite a 0.5% rise in new vehicle prices. Prices for appliances plunged 2.9% month-over-month and clothing prices were little changed.
• The breadth of inflation over the last 3 months narrowed slightly – by our count 55% of the consumer basket ex-shelter was rising at a 3% or more annualized rate over the last three months, down from 61% in November, but still up from below 30% in Q3 of last year.

Breadth of inflation pressures in the U.S. narrowed in December

Fed’s favoured core inflation measure edged lower in December

Headline CPI edged higher on smaller decline in energy price growth

The Bottom Line:

• The November CPI report showed headline inflation was largely in line with expectations. Both core ex-food & energy and the Fed’s preferred core measure remained sticky. Still, persistent inflationary pressures came from sectors like services and housing.
• Inflation has still slowed from where it was earlier this year and, combined with gentle softening in labour markets (unemployment rate edging higher, job openings lower) supports the view that current interest rates are still higher than needed to achieve the Fed’s 2% target sustainably. We maintain our base-case projection for 25 basis point rate cuts in December and January, but to pause at those levels for the rest of 2025 with interest rates expected to need to stay high to offset the inflationary impact of a resilient economy and large government budget deficit.

The Details:

• U.S. headline CPI growth increased marginally in November, with the year-over-year rate climbing to 2.7% from 2.6% in October, driven primarily by a slower pace of energy price declines.
• Food prices showed a slight pickup in momentum, rising 2.4% from a year ago, up from 2.1% in October, though remaining well below the elevated rates seen in 2022.
• Core inflation (excluding food and energy) remained stable at 3.3% year-over-year for the third straight month, suggesting some stickiness in underlying price pressures.
• The Fed’s closely-watched “super-core” measure (core services ex-home rents) remained elevated, with the 3-month rolling average holding steady at an annualized 4.3%.
• The breadth of inflation pressures across non-shelter components widened in November, with the share of the CPI basket growing at above a 3% annualized rate over the last three months rising to 63% from 49% in October.
• The housing components cooled in November, with shelter costs up 4.7% year-over-year versus 4.9% in the prior month. While shelter component continued to account for a significant portion of core inflation, market indicators suggest this pressure should gradually ease as new lease rates flow through to CPI rent calculations.

Breadth of inflation pressures widened in November

Fed’s favoured core inflation measure was little changed from October

Headline CPI edged higher on sticky core price growth

Treasury market implied inflation still close to the 2% target

Wage growth showed signs of reacceleration after slowing earlier this year

The Bottom Line:

• The October CPI data was broadly as-expected and shouldn’t prevent another cut in interest rates from the Federal Reserve in December.
• Inflation has still slowed from where it was earlier this year, and (gradually) softening labour markets argue interest rates are higher than they need to be to get price growth fully and sustainably back to the Fed’s 2% objective even with a resilient U.S. economy and the inflationary impact of a large government budget deficit.
• The Federal reserve is still highly data dependent and will see another month of inflation and labour market data before the next policy decision in December. Our own base-case projections expect 25 basis point rate cuts to the fed funds range in December and January, and then a pause for the rest of 2025 at a 4% to 4.25% range.

The Details:

• U.S. price growth came in largely as expected in October with a 0.2% increase in headline CPI growth pushing the year-over-year rate up to 2.6% from 2.4% in September.
• Core (ex-food & energy) price growth also edged higher, up (a still larger than “usual”) 0.3% from October and 3.3% from a year ago.
• Two-thirds of year-over-year core price growth is still coming from the bulky home rent components, and growth in those will fade as slower growth in market rent prices flows through to CPI growth with a lag as leases are renewed.
• Still, by our count, the breadth of inflation pressures across non-shelter components also widened. By our count, the share of the CPI basket excluding shelter with price growth above a 3% annualized rate over the last three months rose to just under 50% in October. That is still well-below levels closer to 90% in 2022, but up from below 30% over the summer.
• The 3-month rolling average increase in the Fed’s “super-core” (core services ex-home rents) accelerated to an annualized 4.3% and the year-over-year rate of increase ticked up to 4.4% from 4.3% in September.
• Core goods prices were little changed after rising 0.2% in September, and were still down 1.2% from a year ago.

Breadth of inflation pressures widened in October

Fed’s preferred core measure ticked higher

Headline CPI edged higher on sticky core price growth

Rent CPI growth to follow market rent growth lower

Excess labour demand continued to trend lower in September

• U.S. price growth surprised broadly on the upside in September – year-over-year CPI growth ticked down less than expected (to 2.4% from 2.5%) on broadly firmer month-over-month increases across subcomponents.
• Ex-food & energy price growth edged higher (on a year-over-year basis) for the first time since March 2023, on a second consecutive larger than ‘normal’ 0.3% month-over-month increase.
• Unlike in August, when core price growth was driven largely by an increase in the bulky home rent component, the September gain was relatively broadly based.
• The Fed’s ‘supercore’ (core services ex-shelter) prices rose 0.4% month-over-month in September – the largest increase since April. That followed a 0.3% jump in August and pushed the 3-month rolling average growth rate to an annualized 3.8%.
• And core goods prices rose for the first time since February (+0.2% month-over-month)
• The breadth of the CPI basket seeing larger than normal price growth is still narrower than it was earlier this year, but widened in September. The share of the CPI basket (excluding the large shelter component) with price growth above a 3% annualized rate over the last three months jumped to 33% in September from 22% in August (although still below the average 45% share over the first half of 2024).

Bottom line: The (small) upward surprise in September price growth isn’t likely enough to prevent the Fed from following through with additional interest rate cuts, but further lowers odds of a repeat September’s 50 bp reduction that already fell dramatically after September’s strong payroll report last week. We continue to expect, as a base-case, that broader inflation pressures will continue to ease as a gradual softening in labour markets continues (the spike higher in initial jobless claims separately reported this morning was likely distorted by the impact of hurricanes and strikes). But stickier inflation readings over the last two months and resilient labour markets to-date are consistent with our expectation for a gradual and limited additional fed rate cutting cycle into next year (just three additional 25 basis point cuts assumed per Fed meeting into January of 2025)

Price pressures remained narrow, with over 50% of the CPI basket growing at rate less than 1%.

Fed’s preferred core measure accelerated in September.

Headline CPI edged lower to 2.4% as energy prices drop lower in September.

War in the middle east disrupts oil prices in September.

Wage growth continues to broadly trend lower in the U.S.

• Headline CPI growth edged down to 2.5% in August after dipping below 3% (2.9%) for the first time since March 2021 in July alongside underlying details that also point to further easing in broader inflation pressures.
• The slower year-over-year growth came almost entirely from lower energy prices. Food price growth was little changed (2.1% from a year ago) and core (ex-food & energy) price growth surprised (slightly) on the upside with a 0.3% month-over-month increase that was the biggest since April.
• But the upward surprise in core prices was not broadly-based Much of the increase came from a 0.5% jump the bulky owners’ equivalent rent component that won’t likely be repeated in months ahead as broader trends in rent price growth remain slower. And airfares jumped 3.9% from July.
• Outside of the large shelter component, the breadth of price pressures continues to narrow. By our count, the share of the CPI basket growing at a rate above 3% annualized rate over the last 3 months dropped to 21% from 25% in July, and the share of the basket with price growth below 1% has jumped to 63%.
• The Fed’s preferred ‘supercore’ (core services ex-rent) measure also ticked higher in August, but softer earlier leadings left the 3-month rolling average at a still relatively low 1.9% annualized rate.

Bottom line: While most of the pullback in year-over-year CPI growth in August came from the volatile energy component, underlying details continue to point to softening broader price growth trends. And a gradual updrift in the unemployment rate should signal to monetary policymakers that inflation will continue to drift lower rather than higher. The small upward surprise in core price growth reduces the odds (which we already thought were quite low) of a larger-than-normal 50 basis point interest rate cut from the Fed later this month but should do nothing to dissuade the central bank from kicking off a gradual easing cycle with a 25 reduction.

Headline inflation edged lower to 2.5% year-over-year on slower energy price growth

The breadth of inflation pressure remained narrow, with more than 60% of the CPI basket with inflation (on a three-month annualize basis) at less than 1%

Fed’s closely watched core services ex-shelter inflation measure ticked higher but was still below the 2% target on an annualized three-month rolling basis

Grocery inflation continued to drop, and has returned back to pre-pandemic levels

Lower ratio of vacancies to unemployment means very little slack in the labour market, and downward pressure on wage growth moving forward

• Headline CPI growth edged down to 2.9% in July (the lowest since March 2021) from 3.0% in June and with further signs that underlying inflation trends continue to slow after a worrying reacceleration earlier this year.
• The Fed’s closely watched ‘supercore’ (core services excluding home rents) rose a ‘normal’ looking 0.2% month-over-month after consecutive downside surprises in the prior two months. The 3-month annualized increase in the measure slowed to just 0.5%, the lowest since a sharp price pullback during the pandemic.
• The breadth of price pressures continues to narrow – by our count, the share of the CPI basket (excluding shelter) growing at a rate above a 3% annualized rate over the last 3 months dropped to 25% in July, down from 31% in June and below the 29% pre-pandemic average in 2019.
• Excluding food and energy products, core CPI growth is still elevated at 3.2% year-over-year, but down from 3.3% in June and with a disproportionate share of the increase coming from high price growth in home rents. Those rent price increases are expected to continue to broadly slow as smaller increases in current market rents filter through to leases with a lag.
• Year-over-year energy and food price growth were both little changed in July (1.1% and 2.2%, respectively)

Bottom line: The U.S. economic backdrop isn’t collapsing in a way that would force the Federal Reserve to panic. But a gradual rise in the unemployment rate is increasing the odds that wage growth and inflation will continue to drift lower, and interest rates are still at levels well above the Fed’s estimate of long-run neutral. The Fed will still get another jobs and inflation report ahead of the next scheduled interest rate decision in September, but we continue to look for a 25 basis point rate cut at that meeting and think risks of a larger 50 basis point reduction would be contingent on a significantly more pronounced (and unexpected) deterioration in labour market data for August.

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• Headline inflation dipped to 2.9% year-over-year, primarily due to slower price growth in core goods.

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• The Fed’s preferred core measure decreased again on a 3-month rolling average basis.

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• Inflationary pressures remained narrow compared to pre-pandemic levels.

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• Rent inflation trended lower in recent months, consistent with the slower growth in market rents observed previously.

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• Market-based estimates of future price inflation fell below the 2% target, suggesting that price growth is likely to continue slowing in the U.S.

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• In June, headline CPI growth in the U.S. edged down to 3% from 3.3% in May. That’s below consensus expectations and marked another downside surprise after May.
• Details generally looked at least as soft for price growth as the headline would suggest with the breadth of price growth across products narrowing and the Fed’s preferred core services ex-rent component (‘supercore’) declining for a second straight month.
• That closely watched supercore measure posted a second consecutive outright decline (-0.04% in May and -0.05% in June) to leave the three-month annualized basis down to 1.3% in June. That’s the slowest reading since October 2021 and just half of the pre-pandemic run rate of 2.6%.
• The easing among core services components was also widespread, with transport and education services seeing monthly declines from May. In June, just under half of the CPI basket (excluding shelter) saw three-month annualized inflation reading above 2%, comparing to 60% three month ago.
• Energy CPI dropped lower to 1% in June upon a second monthly decline in gasoline prices. Food CPI was little changed at 2.2%, as slower reading for grocery CPI (1.1%) continued to balance off still elevated inflation for dining out (4.1%).
• The broader ‘core’ CPI excluding food and energy also dropped to 3.3% above last year after a smaller 0.1% monthly increase from May. That’s in part thanks to a long-anticipated slowing in the home rent component. In June, rents grew by 0.2% from May, the slowest reading in almost three years.
• In the future, we continued to expect further moderations in rents CPI after a long lag behind slowing in market posted rents that gradually filter through to average rents as leases are renewed.

Bottom line: A second U.S. CPI downside in a row in June has added to market odds for a first rate cut from the Federal Reserve this September. That’s also building on a weaker round of employment data last week that showed persistent unwinding in tight labour market conditions. From the Fed’s perspective, these are all data prints that they would like to see at this stage to confirm that interest rates are working to cool inflation pressures sustainably and to realize their dual mandate. Powell has always communicated the Fed’s decision making as a risk-management process, but also reiterated in his congressional testimony this week that there are downside risks to the economy and labour market from rates being restrictive for too long. After today’s CPI report, we think an interest rate cut at the Fed’s next meeting in July is still unlikely but the odds are tilting towards a September cut.

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• Lower energy costs contributed to most of the slowdown in headline price growth, but indicators of broader inflation pressures also surprised on the downside.

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• The Fed’s preferred inflation measure – core services ex-rent slowed sharply for a second consecutive month (back to below the Fed’s 2% inflation objective on a 3-month rolling average basis) after worrying upside surprises earlier this year.

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• The diffusion index, measuring the breadth of price pressure, showed significant improvement in June with the share of products seeing 5%+ inflation back at pre-pandemic levels.

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• Softening labour markets (with the ratio of jobs to workers normalizing) is easing wage pressures and makes slower inflation look more sustainable.

• Headline CPI growth ticked lower on slower growth in core (excluding food and energy products) prices.
• Fed’s preferred core measure improved again on a three-month rolling average basis but remained at rates above the target range.
• The scope of inflationary pressures looks virtually unchanged from last month on a 3-month rolling average basis.
• Price growth for both groceries and dining out have slowed to pre-pandemic levels.
• Consumers’ inflation expectation in the next year started to drift higher.

• Headline price growth was little changed from last month, edging down to 3.4% from 3.5% in March on slower price growth excluding food and energy products
• Core services ex-rent inflation slowed (slightly) after three larger monthly jumps.
• The diffusion index – measuring the breadth of inflation across products, improved slightly in April.
• April’s payroll report indicated some further softening in wage growth, suggesting that inflation pressures coming from tight labour markets are easing.
• But there are more items in the CPI basket that remained sticky.

• An increase in energy prices pushed year-over-year headline price growth higher in March.
• But “core” (excluding food & energy) price growth unexpectedly held steady at 3.8%, with underlying details adding to signs of reacceleration in underlying price growth to-date in 2024.
• The breadth of inflation pressures has begun to widen again after narrowing last year – the share of the consumer basket growing faster than 5% (annualized) over the last three months increased to 33% in March from under 20% as of November last year.
• There are still reasons to expect price growth to slow going forward – home rent CPI growth should continue to slow as market rent growth has declined sharply from the peak in early 2022, wage growth and consumer inflation expectations have both been slowing.
• Still, the higher breadth of inflation will be worrying for U.S. monetary policymakers, with Fed officials already showing signs of waffling over the when to start (and how much to cut) interest rates this year.

• Headline inflation edged higher to 3.2% in February with energy price edging higher (but still below year-ago levels).
• Core inflation (ex. Food and energy) rose a larger than usual 0.4% from January but slowed to 3.8% on a year-over-year basis.
• Growth in the Fed’s ‘supercore’ ticked up on three-month rolling average basis but the breadth of inflation pressures narrowed slightly by our count.
• Much of the core price growth is still driven by home rents, but that is expected to moderate as earlier slowing in market rent growth passes through to leases with a lag.
• Goods prices are outright declining (from a year ago), while service price growth is still firm.

• Headline year-over-year price growth slowed to 3.1%, but underlying pressures showed signs of reacceleration.
• Most of the slowdown in headline price growth came from lower energy prices, but grocery price growth inched up from a month ago.
• Home rent growth continued to be the main driver of price growth but the breadth of inflation pressures widened in January.
• The Fed’s closely watched core (services ex. rent) component surged to 6.7% (3-month annualized change), the highest since June 2022.
• And robust labour markets and wage growth acceleration in January will leave the Fed concerned that inflation could heat up.

• Shelter services was driving most of U.S. inflation pressures by the end of 2023.
• Price growth among goods dropped below 0% (on a 3-month annualized basis); Grocery inflation also eased further.
• Overall, the breadth of inflation pressures in the U.S. has normalized to a level similar to pre-pandemic.
• But bond implied inflation has settled at levels that are above pre-pandemic.

• Inflationary pressures showed further signs of easing in November, with the breadth of inflation pressures continuing to narrow.
• The decline in energy prices pushed headline CPI growth down to 3.1% year-over-year.
• Core inflation remained steady at 4% year-over-year, still well-above the Fed’s 2% target. But a 0.3% one-month increase from October extended a string of more moderate recent price increases with over half the one-month rise accounted for by higher home rent.
• Near-term inflation expectations are still high, and the Fed’s ‘supercore’ (services ex-home rent) is still elevated.
• But softening wage growth makes it more likely that moderation in price growth will persist into next year.

• Reduced energy and food costs brought headline inflation down, but core price pressures also eased.
• The Fed’s favored inflation gauge posted a small (0.2%) increase in October but is still high over the last three months
• Still, the breadth of inflation pressures showed signs of moderating
• Slowing labour demand, leading to moderated wage growth.
• A drop in rental market rate foreshadowed a further dip in Rent CPI.

• The substantial easing in broader U.S. inflation pressures in prior months took a step back in September
• Prices for gasoline continued to rise on higher oil prices, albeit at a slower pace
• Growth in the Fed’s preferred inflation measure (core services excluding rent) surged to 4.8%, in part on higher hospital costs
• Food inflation eased again, with growth in cost for dining out still outpacing groceries
• The breadth of recent inflation pressures widened slightly, although is still substantially narrower than a year ago

• Elevated oil prices pushed U.S. energy prices higher.
• But broader inflation pressures have continued to ease south of the border.
• Rent, one of the main contributors to inflation, has slowed on a month-over-month basis.
• And excluding rent, the U.S. Fed’s preferred ‘core’ inflation measure still-below pre-pandemic trend levels.
• Wage growth remains stubborn at 5% to 6%, despite an easing in overall price pressures.

• Broader price pressures are still trending down despite an energy-driven uptick in annual headline inflation in July.
• Month-over-month growth in core services ex-shelter (a preferred Fed measure) ticked higher but still at low level, and the breadth of inflation narrowed significantly.
• Consumers expect slower price growth over the next 5 years, but their short-term inflation expectations remain unchanged.
• Real wages are still growing—though they continue to lag inflation growth.