One Surprise Inflation Number Could Change The Fed's Next Move

A sharper-than-expected drop in U.S. producer prices is bolstering expectations for rate cuts, but with Wednesday's Consumer Price Index on deck, investors will need to brace for a potentially stickier inflation picture.

Economists forecast that the August Consumer Price Index will show headline inflation climbing to 2.9% year-over-year, up from 2.7% in July. If confirmed, that would be the highest annual pace since January 2025.

The core inflation rate, which strips out volatile food and energy prices, is expected to remain steady at 3.1%, indicating that underlying price pressures remain well above the Fed’s acceptable target.

PPI Surprise Boosts Cut Hopes

The softer-than-expected August Producer Price Index has strengthened market conviction that the Federal Reserve will begin cutting rates next week.

Headline PPI declined 0.1% month-over-month, defying expectations for a 0.3% rise. The annual rate cooled to 2.6%, well below forecasts for 3.3%. Core PPI also fell 0.1% monthly, with the annual reading dropping from 3.4% to 2.8%.

“This below-forecast and bullish PPI report confirms our view that the FOMC will cut rates by at least 25 basis points next week,” said Larry Tentarelli, chief technical strategist at Blue Chip Daily Trend Report. “In our view, a 50-bps cut would be more effective, but that's not priced in yet.”

According to the CME FedWatch Tool, traders assign a 89.8% probability to a 25-basis-point cut at next Wednesday's meeting, with just 10.2% odds of a larger half-point move.

Another Hot Inflation Report Looms, Economists Warn

At Goldman Sachs, economist Jessica Rindels is forecasting a hotter-than-expected Consumer Price Index report for August, projecting a 0.36% increase in core inflation, slightly above the consensus of 0.3%. That would bring the year-over-year core rate to 3.13%

Rindels sees used car prices jumping 1.2%, citing a rise in auction prices, while new car prices likely climbed 0.2% due to a drop in dealer incentives. Car insurance is another area of upward pressure, with premiums up an estimated 0.4% amid higher repair and litigation costs.

Airfares are expected to have surged 3%, lifted by seasonal distortions and a pickup in travel activity. In addition, tariffs appear to be gradually pushing up prices in several categories?particularly household goods, apparel and electronics?contributing to what she describes as broad but contained inflationary momentum.

At Bank of America, economist Stephen Juneau is also forecasting a 0.3% monthly increase in both headline and core CPI, with the annual core rate holding steady at 3.1%.

He attributes much of the August price pressure to firm non-housing services and a continued pass-through of tariffs on goods. Juneau expects core goods inflation to remain positive, with categories like furnishings, apparel and recreation continuing to absorb tariff-related costs.

On the services side, the economist sees airfares and lodging away from home climbing again, driven by summer travel and mean-reversion after several months of weakness.

Juneau warns that energy prices, which firmed in August, will likely keep headline inflation moving higher. Even so, he notes the Fed is increasingly focused on core metrics and longer-term trends, not just monthly swings.

What This Means For The Fed and Markets

Wall Street surged to fresh all-time highs in early Wednesday trading, ahead of Thursday's critical inflation report. All three major large-cap indexes reached new records, with the S&P 500 ? tracked by the Vanguard S&P 500 ETF ? jumping 0.5% to 6,540, bringing its year-to-date gain to 11%.

A September rate cut is widely seen as locked in, but a hotter-than-expected CPI reading could put October and December rate cut expectations at risk. If inflation comes in strong, it could also reignite concerns of stagflation, especially after August's sharply weaker labor market data.

Last month, nonfarm payrolls rose by just 22,000, while the unemployment rate climbed to 4.3%. Adding to the concern, the Bureau of Labor Statistics on Tuesday revised down a staggering 911,000 jobs from previously reported figures between April 2024 and March 2025.

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Image created using artificial intelligence via Midjourney.