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Fed’s Inflation Fight Likely to Persist

Steady rise in cost of services clouds inflation outlook

Key Insights

  • The cost of goods may be peaking, but the cost of services is steadily gaining momentum, which could be problematic for the inflation outlook.
  • In our view, the Fed’s inflation fight is far from over, and our Asset Allocation Committee remains underweight stocks relative to bonds.

Despite a gloomy economic environment this year, equity markets enjoyed a period of very welcome optimism this summer. In the U.S., the S&P 500 Index staged a strong rally from mid-June to mid-August, bolstered by hope that inflation was peaking, which in turn raised expectations that the Federal Reserve (Fed) could pivot to a more dovish monetary policy stance. We believe this logic may be flawed and that expectations for a shift in Fed policy could be premature.

Overall, the cost of goods is showing signs of peaking. July 2022 inflation data showed that both food and energy costs have declined for two months in a row on a rolling 12-month basis (Figure 1). Commodity prices have also eased since the beginning of the year, and a forward-looking review of supply chains, inventory levels, and shipping costs supports a downward trend over the near term.

Component Parts of Inflation

(Fig. 1) Cost of goods may be peaking, but the cost of services has continued to increase


January 1, 2019, to July 31, 2022

Source: Bloomberg Finance, L.P.

*Consumer Price Index (CPI) measures the monthly change in prices paid by consumers and is a widely used measure of inflation.

However, the cost of services—which has played a relatively minor role in the inflation uptick so far—is steadily gaining momentum. Services inflation is typically problematic because it tends to be “sticky” (the upward trend is more gradual and persistent), and it is highly sensitive to wage inflation. This is concerning given that sustained labor shortages are driving up labor costs (Figure 2).

No Relief From Wage Inflation

(Fig. 2) Ratio of job openings vs. unemployed workers is remarkably high relative tothe historical average and has driven up employment costs


January 2008 to July 2022

Sources: U.S. Bureau of Labor Statistics/Haver Analytics.

In our view, the Fed’s fight with inflation is far from over, given the upward pressure on prices from services inflation. Hawkish interest rate policy will likely continue to be a headwind for the economy and equity markets, as we believe the Fed will need to see a meaningful decline in inflation from current levels before changing course. As a result, our Asset Allocation Committee remains cautious and is maintaining an underweight allocation to stocks relative to bonds.


This material is being furnished for general informational and/or marketing purposes only. The material does not constitute or undertake to give advice of any nature, including fiduciary investment advice, nor is it intended to serve as the primary basis for an investment decision. Prospective investors are recommended to seek independent legal, financial and tax advice before making any investment decision. T. Rowe Price group of companies including T. Rowe Price Associates, Inc. and/or its affiliates receive revenue from T. Rowe Price investment products and services. Past performance is not a reliable indicator of future performance. The value of an investment and any income from it can go down as well as up. Investors may get back less than the amount invested.

The material does not constitute a distribution, an offer, an invitation, a personal or general recommendation or solicitation to sell or buy any securities in any jurisdiction or to conduct any particular investment activity. The material has not been reviewed by any regulatory authority in any jurisdiction.

Information and opinions presented have been obtained or derived from sources believed to be reliable and current; however, we cannot guarantee the sources’ accuracy or completeness. There is no guarantee that any forecasts made will come to pass. The views contained herein are as of the date written and are subject to change without notice; these views may differ from those of other T. Rowe Price group companies and/or associates. Under no circumstances should the material, in whole or in part, be copied or redistributed without consent from T. Rowe Price.

The material is not intended for use by persons in jurisdictions which prohibit or restrict the distribution of the material and in certain countries the material is provided upon specific request. It is not intended for distribution to retail investors in any jurisdiction.

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