Inflation continued its gradual descent in December, with the core Consumer Price Index—which excludes volatile food and energy prices—rising 2.6% year-over-year, matching November's reading and coming in below the 2.7% economists had forecast. The monthly increase of 0.2% also undershot the expected 0.3%, offering a modestly encouraging signal as the Federal Reserve contemplates its next policy moves.

The headline CPI, which includes all items, rose 2.7% annually and 0.3% month-over-month. While still above the Fed's 2% target, the data suggests inflationary pressures aren't re-accelerating—a concern that had gained currency following hotter readings earlier in 2025.

What Drove the Numbers

The December inflation reading reflected several offsetting factors:

Shelter costs remained elevated: The index for shelter rose 0.4% in December and was the largest contributor to the monthly increase. Housing inflation has proven stubbornly persistent, though economists expect gradual moderation as new apartment supply enters the market.

Food prices accelerated: The food index increased 0.7% over the month, with both food at home and food away from home showing similar gains. Higher egg prices, driven by avian flu impacts, contributed to the increase.

Used vehicles provided relief: Almost all of the softness in core CPI came from a drop in used vehicle prices, which had been accelerating in prior months. The reversal suggests supply-demand dynamics in the auto market are normalizing.

Data Collection Challenges

This week's release carried an important caveat: the government shutdown that began in late 2025 disrupted Bureau of Labor Statistics data collection. The October 2025 survey data was lost entirely, while November's survey was compressed into the back half of the month during Black Friday promotions.

"The shutdown-related data gaps add uncertainty to our inflation readings. November's data may have been artificially suppressed by promotional activity, making the December number's relative consistency more reassuring."

— Chief economist at a leading research firm

The disruption means economists are interpreting recent inflation data with more caution than usual, recognizing that measurement quirks could be masking underlying trends.

Fed Implications

The cooler-than-expected reading supports the Federal Reserve's current strategy of holding rates steady while assessing the economic landscape. Markets are nearly certain the Fed will leave rates unchanged at its January 27-28 meeting, with the first rate cut of 2026 not expected until June.

The inflation data validates this patience. While core CPI at 2.6% remains above the Fed's 2% target, it's close enough that officials can afford to wait for more data rather than risk cutting rates prematurely and reigniting price pressures.

KPMG economists now expect just three rate cuts in 2026, starting in June—a more modest easing cycle than markets anticipated at the start of the year.

Consumer Impact

For American households, the inflation data carries mixed implications:

  • Purchasing power: With inflation running around 2.6%, workers receiving 3-4% wage increases are seeing modest real income gains
  • Housing costs: Shelter inflation remains the primary burden, particularly for renters facing lease renewals
  • Grocery bills: Food price increases, especially for eggs and dairy, continue to strain household budgets
  • Big-ticket items: Lower used car prices and stable durable goods inflation provide some relief

The Tariff Wild Card

Looking ahead, tariff policy represents the most significant uncertainty for the inflation outlook. The Fed's Beige Book this week noted that companies are beginning to pass tariff-related costs through to consumers, a trend that could put upward pressure on prices in coming months.

If tariff increases accelerate—particularly on consumer goods from China and Mexico—the Fed may face a difficult choice between tolerating higher inflation and raising rates in an already elevated rate environment.

Investment Implications

The inflation data has several implications for investors:

Bond markets: The 10-year Treasury yield has stabilized around 4.18%, with the cooler CPI reading supporting the current level. Further declines in inflation could push yields lower over time.

Equities: Moderating inflation supports corporate profit margins and reduces pressure on the Fed to maintain restrictive policy. This is generally positive for stocks, though tariff-related inflation could offset the benefits.

Real assets: With inflation still above 2%, investments like real estate and commodities retain their appeal as hedges against purchasing power erosion.

The bottom line: December's inflation data won't change the Fed's near-term plans, but it does suggest that the battle against price pressures—while not yet won—remains on track. For consumers and investors alike, that represents cautious grounds for optimism as 2026 unfolds.