Inflation ticked up last month, the Bureau of Labor Statistics reported. The Consumer Price Index (CPI) rose 0.3 percent last month and 2.7 percent over the past year. Core inflation, which excludes volatile food and energy prices, rose 0.2 percent last month and 2.9 percent over the past year.
After several months of disinflation, a possible resurgence seems worrying. But look a little closer and we can see June’s data is about microeconomic trends, not macroeconomic ones. “The index for shelter rose 0.2 percent in June and was the primary factor in the all items monthly increase,” BLS notes. Remember, the shelter index is one-third of the CPI by weight. Hence faster-than-average shelter price growth disproportionately affects the overall index.
Last month’s “inflation” hike is really a housing price spike in disguise. This reflects supply and demand conditions in shelter markets, not aggregate demand. And remember, since the shelter index tends to lag actual shelter prices, it likely overestimates how fast those prices are currently growing.
Averaged over the past three months (April, May, and June), the implied annual inflation rate is about 2.4 percent. This is a better figure than the annualized one-month rate. Since the most recent data is disproportionately affected by shelter prices, smoothing out the data likely gives us a clearer picture of actual inflationary trends, which we can use to assess the stance of monetary policy.
The Federal Reserve’s target for the federal funds rate is 4.25-4.50 percent. That corresponds to a real rate target range of 1.85 to 2.10 percent. In comparison, the New York Fed’s estimate for the natural rate of interest was between 0.78 percent and 1.37 percent in 2025:Q1. The Richmond Fed’s median estimate was 1.76 percent during the same period. Real market rates are higher than the natural rate estimates, suggesting tight money.
As for the money supply, M2 is up 4.48 percent from a year ago. Broader measures of the money supply, which include additional assets and weight those assets by liquidity, are up between 3.93 and 4.01 percent from a year ago. Our rule-of-thumb estimate for money demand (real GDP growth plus population growth) is 1.99 percent plus 1.0 percent, yielding 2.99 percent. (The data for real GDP growth for 2025:Q1 was recently revised downward.) It looks like the money supply is growing faster than money demand, which indicates loose money.
As with last month, the problem is the unusually low GDP figure (an accounting quirk due to imports) from 2025:Q1. Data for 2025:Q2, which will be released late this month, will likely show that output rebounded. The Atlanta Fed’s GDPNow tracker predicts 2.6 percent annual growth next quarter; the annualized figure from the Wall Street Journal’s forecasts is 2.4 percent.
Using these GDP estimates yields faster money demand growth: 3.4 to 3.6 percent next quarter if the GDP projections are correct. The money supply growth figures still outpace this, but it’s significantly closer to neutral.
Interest rate data suggest monetary policy is loose and monetary data suggest monetary policy is (slightly) tight. This presents a dilemma for the Federal Open Market Committee (FOMC), which next meets July 29-30. Markets currently assign a very low probability to a target rate cut this month. Regardless, policymakers should seriously consider a 25-basis-point (0.25 percent) cut.
The data suggest monetary policy is tighter than it should be. We may needlessly lose output and employment if policymakers don’t begin cautious easing. A one-month jump in inflation, especially compared to recent months-long trends, ought not deter the FOMC. Neither should concerns about the supposed inflationary effects of tariffs, which are overblown.
The Fed got behind the curve when it was time to tighten. But that doesn’t mean they should make the opposite mistake now. If we wait for the “perfect” signal from the data to ease policy, it will already be too late.
