Inflation Edges Up as Service Costs Rise

Weekly Economic Review: August 18, 2025

This week’s economic data includes: (1) Consumer Price Index (CPI), (2) Producer Price Index (PPI), and (3) retail sales.

Key Summary:
Consumer prices rose modestly in July, with service costs driving core inflation higher, while the broader impact of tariffs remained limited but could intensify in the coming months.

Consumer prices rose modestly in July, in line with expectations. The increase was primarily driven by higher service costs, while food prices remained flat and energy prices declined. On a year-over-year basis, overall inflation held steady, slightly below market forecasts, suggesting that price pressures are stabilizing for now.

Food prices showed mixed movement, with grocery store prices declining slightly and restaurant prices continuing to rise. Within grocery categories, some items like dairy and beef saw increases, while others such as eggs and beverages declined. Energy prices reversed their previous increases, with gasoline leading the decline, contributing to the overall moderation in headline inflation.

Prices for core goods excluding food and energy rose at a consistent pace, with increases across categories like furnishings, recreation, and medical care. However, education and communication costs fell. Tariff-sensitive goods continued to rise, albeit more slowly, as businesses navigated ongoing trade negotiations and adjusted to new reciprocal tariff rates, which are expected to exert upward pressure on prices in the coming months.

Service prices accelerated, particularly in medical care and transportation, with airline fares posting a notable increase. Shelter costs remained stable, while hotel prices continued to decline. The core inflation rate rose to its highest level in several months, driven by service sector strength. While the overall impact of tariffs has been limited so far—thanks to inventory buffers and margin compression—further cost pass-throughs are likely, suggesting inflationary pressures may persist.

Wholesale prices rose sharply in July, driven by broad-based increases in goods and services, signaling accelerating inflation and the pass-through of costs from tariffs.

Wholesale prices rose sharply in July, marking the strongest monthly increase in over a year and significantly surpassing market expectations. The rise was broad-based, with services contributing the majority of the increase. On an annual basis, wholesale inflation accelerated markedly, indicating mounting cost pressures across the supply chain.

Goods prices saw a solid increase, driven largely by a spike in food costs—particularly fresh and dry vegetables—due to labor shortages linked to immigration policy. Energy prices continued to climb, while core goods also posted gains, with notable increases in industrial metals, electronics, and recreational products.

Service prices rebounded strongly, led by higher trade margins and portfolio management fees amid a stock market rally. Core and super core measures of producer inflation, which exclude volatile components, also rose more than expected. The data suggests that cost pressures from tariffs are being passed through to businesses and are likely to affect consumer prices going forward.

Retail sales rose modestly in July, reflecting consumer resilience with broad-based gains led by autos and online spending, though softer discretionary spending signals potential headwinds ahead.

Retail sales posted moderate growth in July, though the pace slowed from the previous month and came in slightly below expectations. Gains were broad-based across most categories, with strength in autos, furniture, clothing, and online sales. However, declines were seen in electronics, building materials, and miscellaneous store retailers. Spending at restaurants and bars also fell, suggesting a shift in consumer behavior away from discretionary services.

Core retail sales, which exclude autos and gasoline, rose modestly and came in below forecasts. The control group—used to estimate GDP—performed slightly better, though it also showed signs of slowing momentum. The overall monthly increase was largely driven by strong auto and online spending, which together accounted for the majority of the headline gain. Online sales were likely boosted by major promotional events from leading retailers.

Despite the solid headline figure, underlying trends point to potential consumer fatigue. The drop in discretionary services spending, combined with broader economic headwinds such as labor market softness, tariff uncertainty, and reduced savings, suggests that consumer spending may weaken in the second half of the year.

Additional details on the CPI, the PPI, and retail sales follow.

CPI – July Update: 

The Bureau of Labor Statistics (BLS) released July consumer price data, showing the CPI rose 0.2% month-over-month, following a 0.3% increase in June. The July figure met expectations and was primarily driven by a 0.4% increase in services prices (excluding energy), partially offset by flat food prices and a 1.1% decline in energy prices – the largest monthly drop since March.

On a year-over-year basis, consumer prices rose 2.7%, unchanged from June and slightly below the market forecast of 2.8%.

Food Prices:

Food prices were unchanged in July, following 0.3% increases in both May and June. Grocery store prices declined 0.1%, while prices for food away from home rose 0.3%. Within grocery categories:

• Dairy and related products increased 0.7%, driven by a 1.9% rise in milk prices.
• Meats, poultry, fish, and eggs rose 0.2%, with beef up 1.5% and eggs down 3.9%.
• Nonalcoholic beverages declined 0.5%, led by a 1.3% drop in juices and drinks.
• Cereals and bakery products fell 0.2%, and other food at home declined 0.5%.

Annually, food prices rose 2.9%, with grocery store prices up 2.2% and food away from home up 3.9%. Notably, meat, poultry, fish, and eggs surged 5.2% year-over-year, with egg prices soaring 16.4%.

Energy Prices:

Energy prices fell 1.1% month-over-month in July, reversing a 0.9% increase in June. Gasoline prices dropped 2.2%. On a year-over-year basis, energy prices declined 1.6%, driven by a 9.5% drop in gasoline and a 2.9% decrease in fuel oil.

 Goods (Excluding Food and Energy):

Prices for core goods rose 0.2% month-over-month, matching June’s increase. Notable gains were seen in:

• Furnishings (+0.7%)
• Apparel (+0.1%)
• Transportation (+0.2%)
• Medical care (+0.1%)
• Recreation (+0.4%)
• Alcoholic beverages (+0.1%)
• Other goods (+0.2%)

Education and communication declined by 1.3%. Tariff-sensitive goods such as toys, sporting goods, and household furnishings continued to rise, though at a slower pace than in June. Despite the Trump administration extending its tariff truce with China for another 90 days (through November 10, 2025), higher reciprocal tariffs took effect last week, and upward pressure on prices is expected to persist.

Services (Excluding Energy):

Service prices rose 0.4% month-over-month in July, up from 0.3% in June and marking the largest increase since January. Shelter costs, which account for 35% of the CPI, rose 0.2% for the second consecutive month. Hotel and motel prices declined 1.3%, continuing a five-month downward trend. Medical care services and transportation services both increased 0.8%, with airline fares jumping 4.0% – the largest gain since May 2022.

Core CPI:

Excluding food and energy, the core CPI rose 0.3% month-over-month in July, up from 0.2% in June and in line with expectations. This marks the highest monthly gain since January, driven primarily by rising service prices. On a year-over-year basis, core CPI rose 3.1%, up from 2.9% in June and exceeding market expectations of 3.0%. This is the highest annual core inflation rate since February.

Commentary:

Consumer prices did not rise as sharply as feared, and the impact of tariffs on overall prices remains limited. However, the disinflationary trend in services observed in Q1 has reversed, with service inflation reaccelerating over the past three months. Combined with rising costs for certain tariff-sensitive goods, this has pushed core inflation to its highest level in six months. The muted tariff impact thus far can be attributed to businesses drawing down pre-tariff inventories and absorbing higher costs to maintain customer loyalty and market share. Nonetheless, further inflationary effects from tariffs are likely to materialize in the coming months.

PPI – July Update: 

The Bureau of Labor Statistics (BLS) reported that the PPI rose 0.9% month-over-month in July, following no change in June. The increase was primarily driven by higher prices for both goods and services, with over three-quarters of the July gain attributable to services. The July figure significantly exceeded market expectations of a 0.2% increase and marked the largest monthly rise since June 2022.

On a year-over-year basis, the PPI rose 3.3% in July, up from 2.3% in June and above the consensus estimate of 2.5%. This represents the largest annual increase since February. The acceleration in wholesale inflation suggests that rising costs from tariffs are being passed on to businesses and, ultimately, to consumers.

Goods Prices:

Goods prices increased 0.7% in July, up from a 0.3% gain in June, marking the strongest monthly growth since January. Food prices contributed 40% of the July increase, rising 1.4%, largely due to a 38.9% surge in prices for fresh and dry vegetables. This spike is likely linked to labor shortages stemming from restrictive immigration policies under the Trump administration. Prices for beef, eggs, and coffee also rose. Energy prices climbed 0.9% for the second consecutive month. Core goods prices (excluding food and energy) rose 0.4% in July, following a 0.2% increase in June, with notable gains in steel, aluminum, home electronics, and sporting goods.

Services Prices:

Service prices rose 1.1% in July, reversing a 0.1% decline in June and marking the largest monthly increase since March 2022. More than half of the July gain was driven by a 2.0% increase in trade margins, particularly a 3.8% rise in margins for machinery and equipment wholesaling. Portfolio management fees surged 5.8%, reflecting a stock market rally. Prices also increased for hotel and motel accommodations, airline fares, and freight transportation.

Core and Super Core PPI:

Excluding food and energy, the core PPI rose 0.9% month-over-month in July, following no change in June and exceeding the market forecast of a 0.2% gain. On an annual basis, core PPI rose 3.7%, up from 2.6% in June and above expectations of 3.0%, marking the highest level since March.

The “super core” PPI—which excludes food, energy, and trade services—rose 0.6% in July, surpassing the expected 0.2% increase and following no change in June. On a year-over-year basis, the super core PPI increased 2.8%, up from 2.5% in June and above the consensus estimate.

Retail Sales – July Update:

Retail sales rose 0.5% month-over-month in July, according to the U.S. Census Bureau, down from a revised 0.9% gain in June (previously reported as 0.6%). The July figure came in below market expectations of a 0.6% increase. On a year-over-year basis, retail sales grew 3.9%, easing from 4.4% in June.

Of the 13 categories tracked, 9 posted gains in July. Notable increases included:

• Motor vehicles and parts: +1.6%
• Furniture and home furnishings: +1.4%
• Sporting goods and non-store retailers (online): +0.8% each
• Clothing and accessories: +0.7%

Other categories showing growth included food and beverage stores, health and personal care, gasoline stations, and general merchandise.

Conversely, three categories declined:

• Electronics and appliances: -0.6% (third consecutive monthly decline)
• Building materials: -1.0%
• Miscellaneous store retailers: -1.7%

Food services and drinking places, a key indicator of household financial health and the only services component in the report, fell 0.4%, following a 0.6% gain in June.

Excluding autos and gasoline, retail sales rose 0.2% month-over-month in July, below the expected 0.3% increase, and were up 4.4% year-over-year. The control group, which excludes food services, autos, building materials, and gasoline stations and is used to calculate GDP, rose 0.5%, beating the 0.4% forecast but down from a revised 0.8% gain in June (previously 0.5%). On an annual basis, control group sales increased 4.8%.

Overall, July retail sales showed broad-based gains, though spending at restaurants and bars declined by the most since February, suggesting a pullback in discretionary services spending at the start of Q3. In terms of contributions to the monthly increase:

• Motor vehicle and parts sales contributed 0.3%
• Online sales contributed 0.14%
• Together, auto and online sales accounted for 0.44% of the 0.5% headline monthly gain, underscoring their dominant role in driving July’s retail sales growth.

Online sales were likely boosted by Amazon’s Prime Day and promotional events from Walmart and Target. Looking ahead, consumer spending may soften in the second half of the year due to ongoing tariff uncertainty, a weakening labor market, reduced discretionary spending, and lower savings rates.

Market Analysis:

Equity markets ended the week with broad gains —supported by resilient retail sales, strong corporate earnings, and persistent expectations of a Federal Reserve rate cut in September—despite some cooling in sentiment due to conflicting inflation data. Small-cap stocks led the advance, with the Russell 2000 climbing 3.1%. The S&P 500 rose 0.9%, marking its second consecutive week of gains. The Dow Jones Industrial Average added 1.7%, approaching record-high territory, while the Nasdaq increased 0.8%.

Treasury yields steepened slightly last week, as short-term rates declined modestly while mid- to long-term yields edged slightly higher. The two-year yield dipped to 3.75%, down 1 basis point from the previous week. In contrast, the five-year yield rose to 3.85% (+1 bp), and the ten-year yield climbed to 4.33% (+6 bps), reflecting a mild steepening of the yield curve.

Markets are currently pricing in two quarter-point rate cuts in 2025, totaling a 0.50% reduction. The first cut is expected either at the September FOMC meeting (85% probability) or the October meeting (100% probability), followed by a second cut in December, which also carries a 100% probability. Looking ahead to 2026, three additional cuts are anticipated—one each at the March, June, and December FOMC meetings.

Next Week’s Economic Calendar:

Next week’s economic calendar is relatively light. On Tuesday, the July new residential construction report will be released. On Thursday, the July existing home sales data is due, with a projected decline of 0.4% to 3.92 million units.

Mark Yoon, CFA CPA

EVP & CFO of Commercial Bank of California

Thomas McCullough
EVP of Commercial Bank of California

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