US inflation accelerated in May, with headline CPI climbing to 4.2% as higher gasoline and energy prices pushed price pressures higher.
The latest inflation print lands against the backdrop of stronger-than-expected US payroll growth, complicating the outlook for policymakers. Markets have begun pricing in the possibility of rate hikes by year end, even as expectations remain that the Fed will hold rates steady at next week’s meeting.
With core inflation remaining relatively contained but labour markets still robust, investment experts assess what the latest data means for Federal Reserve policy and markets.
Commenting on the data, George Brown, Senior Economist at Schroders, said:
“Energy remains firmly in the driving seat for US inflation, but there is a growing danger that a broader set of prices start to grab the steering wheel. Strong payroll growth suggests the economy is still running hot, increasing the risk that inflation becomes embedded rather than fading quickly.
“Ahead of the Fed’s meeting next week, the question is now whether it can keep rates on hold without falling behind the curve. All eyes will be on Warsh’s debut press conference. He will need to convince markets that the Fed remains committed to price stability. If he leans more dovish, markets may begin to question that commitment, pushing Treasury yields higher.”
For Lindsay James, investment strategist at Quilter, again it’s what the data might mean for the direction of interest rates that’s on her mind as she comments:
“The US saw a fairly big jump in inflation for May, climbing from 3.8% to 4.2%. Energy was the big driver reflecting higher gasoline prices and represented 60% of the increase we have seen, although food and shelter price rises also contributed. Naturally core CPI, which strips out food and energy costs, was more moderate and at least remains in the 2%-3% range, although at the very top of it at 2.9%. The US arguably has an inflation problem entirely of its own making, and it won’t be easy to resolve it and completely unwind the price rises we have seen this year to date.
“Gasoline prices remain up almost 50% in 12 months in some states, and even if the US and Iran can come to some sort of resolution, the price rises are increasingly looking higher for longer. Together with strong jobs data, which came in well ahead of expectations last Friday, that is leading to calls for rate hikes, with a quarter point rise now priced in by year end and the potential for more in 2027.
“That said, oil prices have eased a little in June, bringing gasoline prices down a touch as more crossings through the Straits of Hormuz have been recorded and the ceasefire continues to see verbal commitment, if more in word than deed. Something much more concrete is required to properly move the needle.
“A rate hike is the very opposite of what the White House wants and expects from the new Fed Chair Kevin Warsh, who will Chair the highly anticipated first FOMC meeting next week (16-17 June). The market expects little change to begin with, with rates held flat at 3.5-3.75%, a decision that is ultimately down to a Committee vote, but the statement will provide clues as to how signals, such as the dot plot and economic projections, are likely to change. Warsh, though, is not a fan of forward guidance, making the future path for rates more uncertain.”
Arielle Ingrassia, Associate Director, Investment Specialist at Evelyn Partners, said:
“May’s CPI report keeps inflation firmly in uncomfortable territory, with headline inflation printing under expectations at 0.5% month-on-month and 4.2% year-on-year, while core inflation rose to 2.9%. Although energy continued to push headline inflation higher, the softer-than-expected core reading suggests underlying inflation pressures remain more contained than many had feared.
“The upside was again driven primarily by energy, with gasoline prices rising 7.0% on the month and the broader energy index increasing 3.9%, accounting for more than 60% of the monthly increase in headline CPI. Airline fares also remained firm, rising 2.7%, highlighting the continued impact of higher fuel costs on travel-related inflation.
“Core inflation (excluding food and energy) rose just 0.2% month-on-month, a notable moderation from April’s 0.4% pace. Shelter inflation cooled to 0.3%, with both rent and owners’ equivalent rent increasing at a slower pace than in April, supporting the view that last month’s strength was partly driven by one-off factors.
“At the same time, the report still showed only modest evidence of broader second-round inflation effects. While higher energy costs continue to feed through into parts of the transport and travel sectors, several categories remained soft, including motor vehicle insurance, household furnishings and new vehicles. The overall picture remains closer to an energy and transport shock than a broad-based inflation spiral – at least for now.
“For the Federal Reserve, the release reinforces the likelihood that interest rates stay higher for longer but does little to strengthen the case for imminent policy tightening. Policymakers are likely to remain firmly in wait-and-see mode, with the softer core reading offering some reassurance that inflation expectations have not yet become unanchored. However, with headline inflation moving further above target and energy prices remaining elevated, the balance of risks continues to tilt in a more hawkish direction.”
