Two Measures of Inflation: July 2025

As of July 2025, both core Personal Consumption Expenditures (PCE) at 2.9% and core Consumer Price Index (CPI) at 3.1% remain above the Federal Reserve’s 2% inflation target. The Fed, which prefers the less volatile core PCE for policy assessment, held interest rates steady at 4.25-4.50% for the fifth consecutive meeting, acknowledging inflation remains elevated while reiterating its commitment to the 2% objective. Despite the historical divergence where core PCE typically tracks lower than core CPI, current data indicates inflation is stalling above target, signaling ongoing price pressures and the Fed's vigilant stance.

Analysis

As of July 2025, key inflation indicators remain stubbornly above the Federal Reserve's 2% target, with core PCE at 2.9% and core CPI at 3.1%. This persistence has prompted the Fed to hold its policy rate steady at 4.25-4.50% for the fifth consecutive meeting, signaling a commitment to its restrictive stance until inflation shows a more convincing decline. The analysis highlights the Fed's preference for the core PCE index due to its lower volatility compared to the core CPI. Historically, core CPI has averaged 48 basis points higher than core PCE since 1960, but this gap has recently narrowed to just 18 basis points, indicating a potential structural shift or a broad-based nature to current price pressures. While both metrics have retreated from their 2022 peaks of 5.57% (PCE) and 6.63% (CPI) respectively, the disinflationary trend appears to be stalling. This suggests that the final leg of the journey back to 2% inflation may be the most challenging, keeping the prospect of a 'higher-for-longer' rate environment firmly in place.

Key Decisions for Investors

• Investors should prepare for a prolonged period of elevated interest rates, as stalling disinflation above the 2% target will likely prevent the Federal Reserve from initiating rate cuts in the near term.
• Monitor the spread between core CPI and core PCE; a continued narrowing of this gap could signal that underlying inflation is becoming more entrenched, potentially leading to a more hawkish Fed posture.
• Given the persistent inflationary pressure, consider evaluating portfolio allocations toward real assets or inflation-hedging instruments, such as the commodity ETFs mentioned (WEAT, CORN), as a defensive measure.
• Increased vigilance is warranted around upcoming economic data releases, as any upside surprise in inflation could trigger significant market volatility and a repricing of fixed-income and equity assets.