Analysis: Assessing inflation’s impact

Inflation continues to capture investor and consumer attention, especially as affordability becomes a bigger national focus. ¹ The overall pace of U.S. price increases is moderating, even though the path has not been perfectly smooth. That combination – cooling trendlines with lingering uncertainties – keeps inflation at the center of market expectations.

Where inflation stands right now

The December year over year consumer price index (CPI) held steady at 2.7%, matching November’s reading. Higher energy prices provided some upward pressure, but easing shelter inflation helped offset those increases. ² Because the federal government shutdown interrupted October data, near-term comparisons may look noisier than usual, though the distortion should fade as more consistent reporting resumes.

Why investors watch CPI

CPI captures the prices consumers pay across a broad basket, so it often shapes headlines and expectations. The chart below illustrates the trailing 12-month CPI rate over time to show how inflation momentum has shifted. That longer view matters because inflation trends often influence interest rates, valuations, and investor sentiment more than any single monthly CPI data release.

Core CPI, shelter costs and “sticky” inflation

Food and energy prices can swing sharply, so many economists and market professionals follow core inflation measures (which exclude food and energy costs) to understand underlying trend pressure. In December, the 12-month core CPI stayed flat at 2.6%, comparable to November’s reading, suggesting steady progress rather than a renewed surge. ² Even so, shelter remains a key “sticky” component, with shelter costs up 3.4% year-over-year and representing more than one-third of the CPI goods and services basket. ²

Shelter inflation often cools slowly because it reflects leases and housing dynamics that reset over time, not instantly. That persistence can prevent core inflation from falling quickly when home prices and apartment rents remain stable or fall. We anticipate this dynamic will likely place modest downward pressure on inflation in 2026. Items excluding food, energy and shelter decelerated to 2.2% year-over-year from 2.3% at the beginning of 2025, reinforcing the idea that shelter is keeping inflation readings elevated. ²

PCE inflation and what the Fed targets

A second key inflation gauge, the Personal Consumption Expenditures (PCE) price Index, rose to 2.8% year-over-year in September, up 0.1% from August. Core PCE (excluding food and energy) slowed by 0.1% to 2.8% year-over-year through September, indicating modest cooling but not a clean glide path to the Fed’s 2% inflation target. ³ Because the Federal Reserve targets PCE inflation when assessing progress toward its 2% goal, this measure often carries extra weight for monetary policy expectations. Note: more recent PCE data remains delayed due to the government shutdown. The Federal Reserve’s median projections call for Core PCE to fall to 2.5% by the end of 2026. ⁴

Trump’s tariffs: What’s the impact on inflation?

Many investors expected higher imported goods tariffs to lift prices and reignite inflation pressure. While certain categories have risen relative to pre-tariff levels – especially frequently imported goods like household furnishings and supplies – the pass through has not been as widespread as feared. “Investors watch inflation closely because of the impact on their personal budget, making tariff-related impacts a significant topic,” says Bill Merz, head of capital markets research for U.S. Bank Asset Management Group.

Inflation peaked at above 9% in June 2022 and has trended lower since, though the pace has fluctuated since September 2024. ² President Trump's tariff plans revived inflation concerns, especially as investors assess how long tariffs might remain in place and how high effective rates could go. “Investors are assessing what tariff rate or tariff policy duration will ultimately lead to higher prices,” says Tom Hainlin, national investment strategist with U.S. Bank Asset Management Group. “In other words, what’s the threshold when businesses can no longer avoid passing on higher tariff costs to consumers?”

How high could effective tariff rates go?

The effective tariff rate - tariff revenue divided by imported goods values- rose from 2.5% at the start of 2025 to nearly 12% by late 2025. Recently negotiated tariff rates range from 10% to 20%, with some higher, creating a wide band of possible outcomes. ⁵ If negotiations fail to lower current announced tariffs, the Yale Budget Lab estimates the effective rate could reach 14% after substitution effects, which helps explain why investors remain sensitive to this variable. ⁶

Producer prices and what they are signaling

Producer prices can offer an early look at business cost pressures that sometimes flow into consumer prices later. The Producer Price Index rose 2.9% year-over-year in November, up slightly from October, while prices excluding food and energy rose 3% versus July’s 2.9% increase. ² Energy price volatility and higher goods prices contributed to this acceleration, though reporting delays tied to the government shutdown complicate interpretation.

When will the Fed cut interest rates?

After rapidly raising interest rates in 2022 and 2023 to fight inflation, the Fed cut rates by 1.0% in late 2024 and 0.75% in late 2025. The Fed currently projects one additional rate cut in 2026, while market expectations lean towards two, underscoring how inflation and labor data could reshape the path. ^4, 7

At the conclusion of the December 2025 meeting, Fed Chair Jerome Powell indicated the committee will keep evaluating the balance of risks between inflation and the labor market when considering future adjustments. ⁸ That framing signals that policy may respond not only to inflation progress, but also to signs of labor market cooling. The chart below compares market expectations and Fed projections, highlighting how quickly pricing can shift as new data arrives.

Market concerns beyond inflation

Inflation can drive markets, but it rarely acts along, particularly late in the economic cycle. “Markets could be sensitive to sustained, accelerating inflation,” says Rob Haworth, senior investment strategy director with U.S. Bank Asset Management Group. However, Haworth also warns that inflation is not the only trigger for market volatility, adding, “Further labor market weakness may suggest higher economic slowdown odds, which would represent a material market development.”

Even with weaker labor market data, consumer behavior remains a key stabilizer for growth expectations. “Ultimately, it comes down to what the consumer is doing, and despite weaker labor market data, consumer spending remains strong.” says Merz. When spending stays resilient, it can support corporate earnings and reduce recession fears, even as inflation and rates remain in focus.

Portfolio perspective: stay long-term, diversify thoughtfully

The current environment is changing quickly, especially with the evolving inflation outlook and potential impact of higher tariffs. Investors may benefit from maintaining a broadly diversified portfolio, which can include inflation-sensitive assets such as global infrastructure alongside global equities and U.S. bonds. A consistent long-term strategy typically investors best, making dramatic changes less compelling than disciplined planning that aligns with goals and risk tolerance.

Be sure to talk with your financial professional about what steps may be most appropriate for your situation.

FAQs

What is the inflation rate?

The inflation rate measures the change in living costs for the average consumer over a given period. While there are various measures of inflation, the most popular is the Consumer Price Index (CPI), a measure of changes in the prices paid by urban consumers for a market basket of consumer goods and services. The CPI inflation rate for the 12 months ending December 2025 was 2.7%. ²

What does inflation affect?

Higher living costs, reflected by inflation, represent a loss of purchasing power. This is an important consideration not only in your day-to-day living, but in your long-term financial planning. To improve your quality of life over time, you’ll want to see your income grow faster than the inflation rate. To retain your lifestyle in retirement, you want to be sure that income you receive from your own investments and other sources keeps pace with changes in living costs over the course of retirement. This is why inflation has such a significant impact on individuals.

What is a high inflation rate?

The Federal Reserve, which Congress charged with maintaining stable prices, targets a long-term inflation rate of 2%. Between 2012 and 2020, the annual inflation rate was between 0.7% and 2.3%. Since that time, inflation has been much higher. It stood at 7.0% in 2021, 6.5% in 2022 and 3.4% in 2023 before dropping to 2.9% in 2024 and 2.7% in 2025. ⁶ Still, the Consumer Price Index, the most commonly cited inflation measure, remains above the Federal Reserve’s 2% target. ³