Fed’s Favorite Inflation Gauge Shows Pressures Remain Elevated, Powell Faces Delicate Balance Ahead of Jackson Hole

The Federal Reserve’s preferred measure of inflation, the personal consumption expenditures (PCE) index, showed that price pressures in the U.S. economy remained elevated in July. The data arrives as policymakers weigh the possibility of an interest rate cut at their next meeting in mid-September.

According to the Commerce Department, the headline PCE index rose 0.2% month-over-month in July, holding steady at 2.6% year-over-year, aligning closely with economist expectations compiled by LSEG. Core PCE, which excludes volatile food and energy prices, rose 0.3% on the month and 2.9% annually its highest level since February.

Economists and Fed officials closely monitor the headline figure to gauge overall inflation trends, though the core measure is often viewed as a more stable indicator of underlying price pressures. The July readings indicate that inflation remains stubbornly above the Fed’s 2% long-run target, signaling that price growth is not yet fully under control.

Inflation Pressures Across Goods and Services

The PCE report highlights that prices for goods rose 0.5% year-over-year in July. Durable goods increased 1.1%, while nondurable goods were up 0.2%. Meanwhile, services prices climbed 3.6% compared with last year, slightly higher than June’s 3.5%. Wages and salaries rebounded, rising 0.6% in July after a slow 0.1% gain in June the weakest monthly increase since at least November.

Personal savings as a share of disposable income remained unchanged at 4.4%, reflecting cautious consumer behavior amid persistent inflation pressures.

Powell Signals Caution and Potential Rate Cut

At the Federal Reserve’s annual economic symposium in Jackson Hole, Chair Jerome Powell discussed the complex trade-offs facing policymakers. While acknowledging rising downside risks to employment, Powell also warned that inflation remains a concern, particularly in light of price increases driven by tariffs.

“The labor market is in a curious balance, marked by a simultaneous slowdown in both labor supply and demand,” Powell noted. “At the same time, tariffs have had a visible effect on consumer prices, introducing uncertainty about whether these increases might create more persistent inflationary pressures.”

Powell suggested that while some tariff-related price hikes may be temporary, their broader impact on inflation could be more lasting. This uncertainty creates a challenging scenario for the Fed, which must weigh the dual mandate of fostering maximum employment and ensuring price stability.

Producer Prices and Labor Market Considerations

Adding to inflation concerns, producer prices surged more than expected in July, highlighting that cost pressures are working their way through the supply chain. This dynamic reinforces the Fed’s cautious approach to interest rates. Meanwhile, a softer labor market, evidenced in the latest jobs report, has raised the likelihood of a rate cut in September, though fresh labor data due next week may further influence the decision.

“The Fed has opened the door to rate cuts, but the pace and size will depend on whether labor-market weakness outweighs ongoing inflation pressures,” said Ellen Zentner, chief economic strategist at Morgan Stanley Wealth Management. “July’s PCE report keeps the spotlight on the jobs market, and for now, markets are still pricing in a September reduction.”

Bret Kenwell, U.S. investment analyst at eToro, echoed this nuanced view. “The fact that PCE inflation is in line with expectations helps maintain the status quo, keeping a Fed rate cut on the table for September. The challenge is that inflation continues to creep higher, which complicates the Fed’s ability to act swiftly.” He added, “With both goods and services prices moving upward, the Fed may face a delicate balancing act between supporting the labor market and controlling inflation.”

Market Implications

Investors responded cautiously to the PCE release. According to the CME FedWatch tool, the probability of a 25-basis-point rate cut in September edged up slightly to 87.2% from 86.7% the day before. The report underscores that while a cut is increasingly expected, it will be carefully calibrated in response to the interplay of inflation and employment data.

As the Fed navigates these competing pressures, markets are bracing for a pivotal September meeting. Policymakers must consider whether easing rates now could stimulate the economy without reigniting inflation, or if a more cautious approach is warranted to prevent further price pressures from taking hold.

Looking Ahead

Economists caution that the path forward will be gradual. “We’re likely to see measured adjustments rather than aggressive rate changes,” Zentner noted. “The Fed is balancing a weakening labor market against stubbornly high inflation a challenging mix that requires careful navigation.”

For households, businesses, and investors, this means continued uncertainty in borrowing costs, consumer prices, and investment decisions. The months ahead will be critical in determining whether the Fed can successfully thread the needle, supporting economic growth while keeping inflation anchored.

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