Inflation

Last month, the inflation report left one question hanging: the gas spike driving the headline — does it fade, or does it seep into everything else? This morning, we got the first answer.

First, the headline: prices up four point two percent over the year. That's the hottest in three years, the third month in a row the number accelerated — and there's still one primary driver for the spike.

Gas. Up forty percent from a year ago. Energy as a whole, up twenty-four. The rest of your basket? Single digits.

Strip out food and energy — together about a fifth of your basket — and the rest, what economists call core, is running two point nine, against the Fed's goal of two percent.

Which means the gap between the headline and the underlying trend is now the widest since late 2022. Back in February there was no gap at all. Those jaws opened in three months.

So — the seepage question. Core rose just two tenths in May, calmer than April. Three months into the energy spike, it hasn't bled into the rest of the basket. That's the good news hiding under an ugly headline.

Gaps like this have closed both ways. In 2022, energy faded and the headline came back down to meet core. In the seventies, it went the other way — energy seeped into wages and prices, and core climbed up to meet the headline. Same gap, opposite endings.

Here's where it touches you. You pay the headline today — at the pump, that's real money, no way around it. But your mortgage rate, your card, your car loan ride on what the Fed does next — and the Fed watches core.

And the bond market is already voting. The two-year Treasury yield — the market's bet on where the Fed's rate is headed — has held above the top of the Fed's range for about seven weeks now. That's the market keeping a rate hike on the table.

But here's the Fed's dilemma: a rate hike cools demand — it doesn't drill a well or refine a gallon of gas. If core stays grounded and the energy fades, there's little for a hike to fix. If the seepage shows up, that math changes. That's the watch.

Wholesale inflation just hit a one-year high. Now, normally you strip out energy to see the real trend underneath — and find something calmer. This month, you don't. That's the story.

Producer prices — what businesses pay — rose six and a half percent over the past year. Strip out food and energy, and core is four point nine. Both are the hottest in a year. So this isn't just an energy headline anymore.

Producer prices sit one step upstream of yours — what it costs to make and move things, before it reaches your shelf. So when core climbs too, it's an early signal the pressure is broadening past just fuel.

Energy is still the loudest piece — wholesale gasoline jumped more than twenty percent in a single month, and energy drove most of the goods increase. That's exactly why we strip it: to see what's left when the fuel noise is gone.

And here's what's left. Watch core. Five months ago it sat under four percent. Now it's near five — climbing right alongside the headline. The pressure isn't staying in the energy line. It's spreading.

But two things are softening the blow. Core actually came in below what was feared. And strip the volatile retail margins too, and the stricter core is barely higher — which means middlemen are eating some of the cost, not passing all of it to you.

So read it together. The pressure is real, and it's broadening. But for now, squeezed margins and a below-forecast core are absorbing part of the hit before it reaches your receipt.

That echoes yesterday's hot consumer report. When the Fed meets next week, that's the tension it's weighing — broad pressure underneath, partly muffled on the way to you. The bond market, for now, is priced as if it cools: long-run inflation expectations have held near two and a half percent.

So watch two things — core, and those margins. If margins stop absorbing, more of this lands on your prices. If core cools, the spike stays a fuel story. Spikes like this have faded before — though not always. Either way, you'll see it coming — because data can be your best friend, if you know what to look for.

There's an inflation number you've probably never heard a headline shout about — and it's the one that matters most. It's called PCE, and it's the specific gauge the Federal Reserve targets. In April, it came in at 3.8%.

Here's the quirk. When the news says ‘inflation,’ it almost always means CPI — the one that comes out first, about two weeks earlier. But when the Fed sets its 2% goal, it's measuring PCE: a slightly different basket, and the one that actually drives rate decisions.

So how hot is it? Headline PCE is running 3.8% over the past year. Core PCE — stripping out food and energy, the part the Fed leans on for the underlying trend — is 3.3%. The Fed's target for all of it is 2%.

That's the whole picture in one gap. The number the Fed has explicitly promised to bring back to 2% is sitting closer to three and a half — and over this spring it's drifted up, not down. The monthly pace cooled a bit in April, but the yearly trend is still stuck well above the goal.

This is why the ‘when does the Fed cut’ question keeps getting pushed out. The Fed has said it won't cut with confidence until it sees PCE convincingly heading back toward 2%. At 3-plus and not falling, that confidence just isn't there yet.

Here's where it lands for you. PCE is the single number standing between you and lower borrowing costs. Your mortgage rate, your car loan, the rate on your savings — all of it waits on this gauge cooling off.

The honest read: inflation by the Fed's own measure hasn't broken higher into a crisis, but it hasn't come down to target either. It's stuck in the threes — and ‘stuck above target’ is exactly the condition that keeps rates higher for longer.

So next time you want to guess the Fed's next move, skip the CPI headline and watch this one. The real question worth tracking: does PCE finally break toward 2% — or stay lodged above 3%?