Last week, the Bureau of Labor Statistics (BLS) announced that:
The Consumer Price Index for All Urban Consumers (CPI-U) increased 0.4 percent on a seasonally adjusted basis in August, after rising 0.2 percent in July…Over the last 12 months, the all items index increased 2.9 percent before seasonal adjustment.
As Figure 1 shows, inflation has now been on an upward trend since March. The annual number is now higher than at any point since January.
Figure 1
This keeps Federal Reserve chair Jerome Powell in a tight spot. While the CPI — specifically that year over year number — is the inflation number you hear most commonly, the Fed’s target is actually “to achieve inflation at the rate of 2 percent over the longer run as measured by the annual change in the price index for personal consumption expenditures (PCE).” The PCE has not been at or below 2.0% year over year growth in any month since February 2021, as Figure 2 shows.
Figure 2
Another concerning aspect of the relationship between the PCE and the CPI shown in Figure 2 is that, as Figure 3 makes a little clearer, the CPI seems to be a leading indicator of where the PCE is headed. This ought to knock any discussion of the Fed cutting rates on the head for the time being.
Figure 3
The downward revisions to job numbers from 2024 and early 2025 also announced last week suggest an economy that hasn’t been as strong as it appears for some time, but this is happening at the same time as inflation remains stubbornly above target. We are in a situation — mild, for now — approaching “stagflation,” where weak growth in real variables, like employment, is accompanied by strong growth in nominal variables, inflation.
“The Federal Reserve has a dual mandate to promote maximum employment and stable prices for the American people,” but which of these targets should it aim for when it only has one shot?
One of the key findings of monetary economics in the last half century or so, lead by Milton Friedman, is that inflationary monetary policy, like interest rate cuts, can only increase real variables like employment in the short run and that that short run gets shorter and shorter until it disappears. Beyond that point, all inflationary monetary policy generates is more inflation.
Powell should keep this in mind as he sets interest rates. He might buy higher employment with higher inflation in the short term, but that is what policymakers did in the Keynesian era. By the 1970s, that term had vanished and inflation and unemployment were rising together. Only when Paul Volcker took aim exclusively at inflation, accepting a short term, sharp spike in unemployment, did double digit inflation end. At some point Powell will have to match Volcker’s focus.