I. Overview
On long car rides, the kids in the backseat often ask their parents, "Are we there yet?" That's the question investors are asking about inflation: "Are we at the Fed's 2.0% inflation target yet?"
Our answer: "Not quite, but we are getting close." January's CPI report showed headline inflation at 2.4% y/y (chart). The core rate was 2.5%, which is the lowest pace since March 2021. January data are sometimes hotter than expected due to typical start-of-the-year price resets, even after seasonal adjustment. Encouragingly, there was no meaningful upside surprise last month.
Durable goods inflation, currently at 0.4% y/y, is likely to revert to its pre-pandemic deflationary trend once the effects of last year's tariff hikes wear off (chart). Nondurable goods inflation remains more volatile, driven largely by swings in energy and food prices. But it remained subdued in January at 1.3% y/y. Services inflation, however, continues to run around 3%, a bit hotter than its pre-pandemic pace.
Productivity gains have been very strong since Q2-2025, pulling unit labor costs inflation down to 1.3% y/y through Q3-2025 (chart). We expect this productivity boom to continue and exert disinflationary and even deflationary pressure over the rest of the decade, consistent with our Roaring 2020s outlook. Inflation should fall to 2.0% y/y over the remainder of this year.
II. Drilling Down
January saw a notable rise in computer prices (chart). Stronger demand for memory chips tied to booming data-center investment has likely tightened parts of the consumer electronics supply chain, bidding up prices. Alongside this, the improving capabilities of AI-enabled applications/assistants are supporting demand for higher-performance consumer hardware. On the other hand, used car and truck prices declined for the second straight month, and broader durable goods inflation remains well contained.
Energy prices declined in January, led by a 3.2% drop in motor fuel prices. Energy overall fell 1.7%, pulling nondurable goods prices down 0.4% for the month. However, several nondurable goods categories, including footwear and personal care products, posted firm price gains. A possible military confrontation between the US and Iran is already pushing oil prices higher.
Services inflation remains hot. Core CPI less shelter rose 2.1% m/m in January, with several consumer services categories posting firm gains, most notably airfares (+6.5%) and car and truck rentals (+3.4%). This strength is consistent with resilient experience-oriented consumer spending.
Importantly, most service components continue to run above the overall service average, highlighting the breadth of price pressures within the sector. Since the Fed resumed its rate-cutting cycle in September, interest-rate-sensitive services have shown renewed firmness. As long as financial conditions remain supportive, leisure-related spending should stay relatively robust. We continue to view services as the final mile of the post-pandemic disinflation journey.
III. Imports
Several frequently imported goods categories—such as apparel, appliances, and sports equipment—posted firm monthly gains in January, indicating some lingering imports-related price pressure owing to moderate pass-through of tariffs to consumer prices. Absent additional tariff actions, this pressure should continue to fade.
IV. Rent
The CPI inflation rate excluding shelter is already running at 2% y/y, indicating that underlying price pressures across most major categories have largely returned to their pre-pandemic levels (chart). Shelter, therefore, increasingly accounts for the persistence of above-2.0% inflation; it continues to represent a disproportionate share of the headline and core CPI at 36.0% and 44.5%, respectively.
Private-sector rent measures have cooled sharply from their peaks during 2021 and 2022 and, in several cases, are now running flat to negative on a year-over-year basis (chart). By contrast, CPI rent and owner's equivalent rent remain elevated, reflecting the well-known lag between market rents and official shelter measures.
Historically, turning points in market rents lead CPI shelter by several quarters. As that lag continues to unwind, we expect shelter inflation to moderate further in the coming quarters. Given shelter's heavy weight in the core CPI, this transition should exert significant incremental downward pressure on overall inflation.
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