Inflation rose to 5-month high in December. What that means for Fed rate cuts.

Inflation accelerated for a third straight month in December on rising food and energy costs, reaching a five-month high and underscoring that an encouraging slowdown in price increases last spring and summer has stalled.

But an underlying measure of price gains eased in a sign that inflation could resume its descent through the first half of 2025, though economists say President-elect Donald Trump’s trade and immigration policies could nudge costs higher later in the year.

Overall consumer prices increased 2.9% from a year earlier, up from 2.7% in November, according to the Labor Department’s consumer price index, a broad measure of goods and services costs. That’s the third increase following six drops and it leaves annual inflation at the highest level since July.  Economists surveyed by Bloomberg expected a jump to 2.9%

On a monthly basis, costs rose 0.4% the most since March.

What is meant by core inflation?

Core inflation, which excludes volatile food and energy items and is watched more closely by the Federal Reserve because it reflects more sustainable trends, increased a modest 0.2% following four months of 0.3% bumps. That lowered the annual increase to 3.2% from 3.3% the previous three months.

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Is inflation expected to go down?

After falling steadily earlier in 2024, yearly inflation has moved sideways the past several months. The price of services such as health care and car repairs generally has risen as a result of higher labor costs and auto prices – legacies of the COVID-19 pandemic.

Meanwhile, goods prices had been tumbling as pandemic-related supply-chain bottlenecks unwound but recently have flatlined or edged up now that those benefits have run their course.

Goldman Sachs expects wage growth and rent hikes to slow, pushing inflation lower in coming months. By April, Barclays predicts overall price increases will drop to 2.3% while core inflation slides to 2.7%. That would be well below the 40-year high of 9.1% in mid-2022 and modestly above the Federal Reserve’s 2% goal.

But by the end of the year, both Barclays and Goldman believe the tariffs Trump has threatened to impose on certain imports, especially from China, will drive prices higher. Trump’s plan to deport millions of immigrants who lack permanent legal status also could boost labor costs that are typically passed to consumers through price increases, the firms said.

Barclays expects inflation to climb back to 2.8% by next December while the core reading drifts up to 3.1%.

How many rate cuts are expected in 2025?

December’s elevated inflation reading likely bolsters the Fed’s case to pause its rate cuts in January and slow the pace of decreases this year.

The central bank has slashed its key interest rate by a percentage point since September, moving ahead with a plan to bring rates closer to normal after inflation slowed through the first nine months of last year.

But after price increases stayed high recently and Trump vowed to impose hefty import tariffs and deport millions of immigrants, Fed officials trimmed their forecast from four quarter point rate cuts this year to just two.

Many economists now expect even fewer rate cuts following a report Friday that employers added a booming 256,000 jobs in December. A sturdy labor market could reignite inflation and give officials less reason to cut rates to jolt the economy.

“The still elevated annual rate of inflation, the strength in the labor market, and the prospect of changes in tariff and immigration policies that could push inflation higher will keep the Fed cautious and patient with regards to cutting rates further,” Nationwide Chief Economist Kathy Bostjancic wrote in a note to clients.

She expects the Fed to stand pat on rates the first half of the year.

But predicting a decline in the Fed's preferred inflation measure the next couple of months, Samuel Tombs of Pantheon Macroeconomics expects the Fed to lower rates again in March.

Are gas prices going to go down?

Gasoline prices fell 1.5% in December, Barclays said, but rose 4.4% after seasonal adjustments because prices usually drop more dramatically heading into the winter months. Oil prices have risen recently because of concerns about supplies from Russian and Iran and hopes for a revival in demand from China.

Regular unleaded averaged $3.14 a gallon in December, down from $3.17 in November, according to the Energy Department.

Are food prices still going up?

Grocery prices rose 0.3%, easing after an outsized 0.5% increase in November.

Last month, the cost of eggs leaped 3.2% following an 8.2% rise the previous month amid a two-year bird flu outbreak.  Other staples also rose, with bacon up 2.3%; breakfast cereal, 0.8%; rice, 1.2%. bread, 0.7%; and chicken, 0.3%.

But uncooked ground beef fell 0.3% and fresh fish and seafood dipped 0.2%.

The cost to dine out also ticked higher because of rising labor costs, climbing 0.3% for a second straight month.

Will rent increases slow down?

Rent edged back up a bit, increasing 0.3% following a 0.2% rise in November that marked the smallest monthly increase since July 2021. Yet that’s still a slowdown from a sharp run-up the past couple of years. And it pushed down the annual increase from 4.4 to 4.3%, smallest since February 2022. Lower rents for new leases are finally filtering into rates for existing tenants.

The pullback is a big positive. Housing costs have been the largest inflation driver, making up 37% of the rise in prices last month.

The cost of some other services also jumped. Car insurance rates increased 0.4% after milder gains in prior months, leaving prices 11.3% higher than a year ago. And airline fares increased 3.9%, a rise that Pantheon Macroeconomics traced to a busy holiday travel season.

The cost of medical services rose 0.2% but that’s down from recent increases. And hotel rates fell 1%, partly reversing a 3.2% increase the previous month.

Some goods prices also moderated. Appliances slid 2.9% while furniture slipped nearly 1% and apparel inched up just 0.1%.

Used car prices increased 1.2% and new vehicles rose 0.5% but Tombs said those bumps were likely due to Americans replacing vehicles damaged by two Southeast hurricanes in the fall.