Analysis: Assessing inflation’s impact

Inflation still tops many investors’ and consumers’ list of concerns, especially as affordability becomes a bigger national focus. ¹ Even as price pressures cool somewhat, the path has not been perfectly smooth. That combination – cooling trendlines with lingering uncertainties – keeps inflation at the center of market expectations.

Prices influence more than headlines, because they shape household budgets and the cost of doing business. When inflation trends shift, expectations for interest rates often shift with them, and markets can react quickly. That’s why it helps to focus on the direction of travel over time rather than any single month’s number.

Where inflation stands today

Inflation is moderating overall, but it continues to command attention because it affects day-to-day affordability. Through January, the consumer price index (CPI) increased 2.4% year over year, slowing from December’s 2.7% pace. Lower energy prices and easing shelter inflation offset accelerating medical costs and some imported goods. ² Shelter costs are likely to slow further due to smaller home price and rent gains paired with the lag effect of how it flows through to CPI calculations. Higher medical costs coincide with recent strength in medical hiring, indicating strong demand for medical services.

Core inflation and shelter costs

Because food and energy prices can swing sharply, many people track “core” inflation, which excludes those categories to highlight underlying pressure. In January, the 12-month core CPI rose 2.5%, slowing from 2.6% in December and 3.0% in September, representing a four-year low and signaling steady progress. ² That said, even improving inflation can remain uneven when a few categories refuse to cool quickly.

Shelter remains the most important example of that unevenness, because it represents more than one-third of headline CPI and just under half of core CPI. Shelter costs rose 3.0% year-over-year, representing elevated inflation but at a steadily decelerating pace versus previous releases. ² Shelter inflation often cools slowly since it reflects leases and housing dynamics that reset over time rather than instantly. We anticipate this lag will likely place modest downward pressure on inflation in 2026, but it can also limit how quickly core inflation can fall.

The Fed’s preferred inflation gauge

Another widely watched gauge is the Personal Consumption Expenditures (PCE) price Index, which is released with a larger lag than CPI, making it less timely. PCE inflation rose 2.8% year-over-year in November, up 0.1% from October. Core PCE (excluding food and energy) also accelerated by 0.1% to 2.8% year-over-year, suggesting some prices remain stubbornly elevated. ³ Because the Federal Reserve targets PCE inflation when assessing progress toward its 2% goal, this measure often carries extra weight for policy expectations.

The data flow itself has also become part of the story, because more recent PCE figures remain delayed due to the government shutdown. December data is due February 20 and the January report is delayed until March 13, which can complicate near-term comparisons. The Federal Reserve’s median projections call for Core PCE to fall to 2.5% by the end of 2026, setting a reference point for how quickly policymakers expect progress. ⁴

Tariffs and business costs: What investors are watching

Tariffs revived inflation concerns because higher import costs can pressure prices, even if the impact differs across product categories. Some items have risen relative to pre-tariff levels – especially frequently imported goods like household furnishings and supplies – yet the pass through has not been as widespread as many feared. “Investors watch inflation closely because of the impact on personal budgets, 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, although the pace has fluctuated since September 2024. ² President Trump's tariff plans revived inflation concerns, especially as investors assess how high effective rates could go and how long they might last. “Investors are assessing what tariff rate or tariff policy 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?”

Recent history shows why that threshold matters, because 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, stabilizing in recent months. Recently negotiated tariff rates range from 10% to 20%, with some higher, which leaves a wide range of possible outcomes. ⁵ If negotiations fail to lower current announced tariffs, the Yale Budget Lab estimates the effective rate could exceed 14% after substitution effects, helping explain why investors remain sensitive to this variable. ⁶

Producer prices offer another angle because they can provide an early look at business cost pressures that sometimes flow into consumer prices later. The Producer Price Index rose 3.0% year-over-year in December, unchanged from November, while prices excluding food and energy rose 3.3% versus 3.1% in November. ² Accelerating services costs contributed to this acceleration, though reporting delays tied to the government shutdown complicate interpretation.

When will the Fed cut interest rates?

Interest rates remain closely tied to inflation progress because the Fed uses rate policy to balance inflation risks and economic growth. After rapidly raising interest rates in 2022 and 2023, 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 to three, showing how quickly views can shift as new inflation and labor data arrive. ^{4, 7}

At the conclusion of the January 2026 meeting, Fed Chair Jerome Powell signaled the committee will keep evaluating the balance of risks between inflation and the labor market when considering future adjustments. ⁸

“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.” In that context, consumer behavior remains a key stabilizer, and “Ultimately, it comes down to what the consumer is doing and consumer spending remains strong.” says Merz.

Portfolio perspective: stay long-term, diversify thoughtfully

A practical portfolio takeaway is to keep the focus on decisions you can control, especially when inflation headlines shift quickly. The current environment is changing quickly, with an evolving inflation outlook and the 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 cited inflation measure, remains above the Federal Reserve’s 2% target. ³