Inflation Trends Show Signs of Acceleration, Raising Market Concerns 

The signs of inflation picking up momentum continue to accumulate, raising concerns that financial markets may face turbulence in the near future.

Recent data from regional Federal Reserve surveys indicate that prices paid by businesses have surged over the past few months. Historical patterns suggest that overall inflation tends to follow these shifts. As a result, investors are increasingly worried that the central bank may decide to maintain higher interest rates for an extended period. Some even speculate that the next move might be an increase rather than a decrease in rates.

A closer look at inflation trends, based on insights from Goldman Sachs' latest inflation analysis, provides a more detailed view of what lies ahead.

Recent Inflation Developments

The core personal consumption expenditures (PCE) price index, a key measure of inflation, rose by 0.16% in December compared to the previous month. The year-over-year rate declined slightly to 2.79%. Although this is a significant drop from the peak of 5.65%, it still represents an increase from the 2.63% recorded in June. Meanwhile, the core consumer price index (CPI) rose 0.23% month-over-month, bringing the annual rate down to 3.25%, a decrease from the 6.64% peak observed earlier.

Sequential indicators of underlying inflation showed a modest rise in December, but overall, inflation has been moving closer to pre-pandemic levels in recent months.

Factors Affecting Core Goods Prices

Prices of core goods saw a decline of 0.24% in December, following a 0.07% decrease in November. Over the past year, prices in this category dropped by 0.1% as reflected in the PCE price index. To put this in perspective, in 2018, when core PCE inflation hovered around 2%, the annual change in core goods prices averaged -0.5%.

Energy costs climbed to 129% of their pre-pandemic levels in January, while industrial metals prices remained at 140%. These commodity price movements are expected to exert mild downward pressure on annual core PCE inflation in 2025, reducing it by approximately 5 to 10 basis points on average.

Supply chain disruptions, as measured by supplier delivery times, showed only a gradual improvement in January. While there has been some progress, conditions have not yet fully normalized. For instance, the time required to receive production materials, as reported in the ISM manufacturing survey, dropped from a peak of 100 days to 83 days. However, this is still about 10 days longer than what was typical before the pandemic.

The Manheim index, which tracks prices in the used car auction market, indicated that prices remained 18% above pre-pandemic levels in early January, even after accounting for depreciation. Meanwhile, the prices of used cars in the PCE price index stood at 33% above pre-pandemic levels. Since overall price levels have risen roughly 20% since the pandemic began, auction prices now appear more aligned with the general inflation trend. However, consumer prices for used cars still need to adjust downward further to reach a normalized state. Historically, consumer prices for used vehicles have run about 10-15 percentage points higher than auction prices since mid-2022, suggesting that a persistent gap between the two may continue.

Factors Influencing Core Services Prices

The cost of core services, excluding housing, increased by 0.28% in December, compared to a 0.15% rise in November. Over the past year, these prices have climbed by 3.5%, based on the PCE price index. For comparison, in 2018, when overall core PCE inflation was around 2%, the annual growth rate for core services prices was about 2.5%.

Wage growth remains a crucial driver of service inflation. The Goldman Sachs wage tracker reported a decline in annual wage growth to 3.9% in the fourth quarter. Additionally, a composite measure that reflects businesses' wage growth expectations remained steady at 3.4% in December.

Labor market tightness has also eased compared to the peak levels seen in early 2022. The difference between job openings and available workers, based on data from the Job Openings and Labor Turnover Survey (JOLTS) and alternative job postings data, remained at 800,000 in recent months. This is a notable decline from the 6 million recorded in early 2022 and the 1.3 million average observed in 2019.

New lease rent growth, an important factor influencing shelter inflation, edged up by 0.2% on an annualized basis in December. This translates to a year-over-year increase of approximately 2.1%.

Inflation Expectations

Expectations about future inflation play a significant role in shaping actual inflation trends. According to the University of Michigan consumer sentiment survey, long-term household inflation expectations increased slightly to 3.3% for the next five to ten years. Meanwhile, the New York Federal Reserve's survey showed a decline in long-term inflation expectations, dropping to 2.7% over the same period.

Short-term inflation expectations experienced more pronounced movements. The University of Michigan survey reported a one-percentage-point jump, bringing one-year inflation expectations to 4.3%. However, the New York Fed's survey showed no change, keeping one-year inflation expectations at 3.0%. The Michigan survey also highlighted that respondents linked their expectations to anticipated policy decisions, such as potential tariff changes.

In financial markets, expectations for annualized headline CPI inflation in 2025 increased by 0.1 percentage points to 2.6%. Forecasts for inflation in subsequent years also edged higher.

Broader Implications

The recent data paints a picture of inflation that is proving to be more persistent than many had hoped. While some indicators suggest a return to pre-pandemic trends, others signal that price pressures remain elevated in key areas. The moderation in core goods prices offers some relief, but factors such as supply chain disruptions and energy costs continue to create uncertainty.

Services inflation, driven largely by wages and housing costs, remains a critical area to watch. The slowdown in wage growth is a positive sign, but with the labor market still relatively tight, the downward pressure on inflation may take longer to materialize fully.

Investor sentiment is increasingly shaped by these developments. Concerns that the Federal Reserve may maintain higher interest rates for an extended period—or even raise rates further—are becoming more pronounced. Given that inflation expectations have moved higher in some surveys, policymakers may face additional challenges in ensuring inflation continues to decline toward their long-term target.

Commodity prices and supply chain conditions will also play a role in determining the inflation trajectory in the coming months. While some of the price increases tied to global supply disruptions have begun to fade, the recovery remains incomplete.

Looking ahead, the balance between economic growth, labor market dynamics, and monetary policy decisions will be key in shaping the inflation outlook. The data suggests that while inflation has come down from its peaks, the road to achieving price stability remains uneven. Investors, businesses, and consumers alike will need to navigate an environment where inflationary pressures persist, even as some signs of relief emerge.