US inflation reaches a 3-year low as Federal Reserve prepares to cut interest rates

WASHINGTON (AP) — The post-pandemic spike in U.S. inflation eased further last month as year-over-year price increases reached a three-year low, clearing the way for the Federal Reserve to cut interest rates and likely shaping the economic debate in the final weeks of the presidential race.

Wednesday's report from the Labor Department showed that consumer prices rose 2.5% in August from a year earlier, down from 2.9% in July. It was the fifth straight annual drop and the smallest since February 2021. From July to August, prices rose just 0.2%.

Excluding volatile food and energy costs, so-called core prices rose 3.2% in August from a year ago, the same as in July. On a month-to-month basis, core prices rose 0.3%, a slight pickup from July's 0.2% increase. Economists closely watch core prices, which typically provide a better read of future inflation trends.

"Today's report will add to confidence within the Fed that inflation is indeed on a sustainable path towards 2%," the Fed's target level, Carl Weinberg, chief economist at High Frequency Economics, wrote in a note to clients.

For months, cooling inflation has provided gradual relief to America's consumers, who were stung by the price surges that erupted three years ago, particularly for food, gas, rent and other necessities. Inflation peaked in mid-2022 at 9.1%, the highest rate in four decades.

And Americans' paychecks have risen steadily for the past three years. Overall incomes have even outpaced inflation for roughly the past 18 months, helping more households handle elevated prices. On Tuesday, the Census Bureau reported that the median inflation-adjusted household income rose 4% last year to above $80,000, essentially matching the 2019 peak.

Wednesday's inflation figures followed a presidential debate Tuesday night in which former President Donald Trump attacked Vice President Kamala Harris for the price spikes that began a few months after the Biden-Harris administration took office, when global supply chains seized up and caused severe shortages of parts and labor.

During the debate, Trump falsely characterized the scope of the inflation surge when he claimed, "They had the highest inflation perhaps in the history of our country." In 1980, inflation reached 14.6% — much higher than the 2022 peak.

A key reason for last month's drop in overall inflation was the third drop in gas prices in the past four months: Average gas prices fell 0.6% from July to August and are down 10.6% from a year ago. And used cars fell 1% last month. Measured from a year earlier, used car prices have tumbled 10.4%.

Grocery prices were unchanged from July to August, extending a cool-down in food costs even though they remain much higher than they were three years ago. Over the past year, grocery prices have ticked up just 0.9%, similar to the pace of pre-pandemic food inflation.

Still, many Americans are taking steps to try to stretch their budgets. Kelsey Aubrey, who lives in North Palm Beach, Florida, and was shopping at the discount grocer Aldi on Tuesday, said she typically visits up to four or five stores in her search for the lowest grocery prices.

"We hop from store to store, trying to save where we can," she said. "Our bills are still pretty high. And we're working a ton to pay the bills."

The tick-up in core inflation from July to August reflected an acceleration in housing costs and some spikes in the prices of air fares and hotel rooms, which are likely to prove temporary. Airline fares jumped 3.9% just from July to August after having dropped the previous five months. Hotel room prices climbed 1.8% last month; they had fallen in two of the previous three months.

Fed officials, who are watching housing costs closely, expect them to cool more consistently. According to the real estate brokerage Redfin, the median rent for a new lease rose just 0.9% in August from a year earlier, to $1,645 a month. But the government's measure includes all rents, including those for people who have been in their apartments for years. It takes time for the slowdown in new rents to show up in the government's data. Last month, rental costs rose 5.2% from a year ago, according to the government's consumer price index.

The Fed's policymakers have signaled that they're increasingly confident that inflation is falling back to their 2% target and are now shifting their focus to supporting the job market, which is steadily cooling. As a result, they are poised to begin cutting their benchmark interest rate next week from its 23-year high in hopes of bolstering growth and hiring.

A modest quarter-point cut is widely expected. The pickup in core inflation makes it unlikely that the Fed would consider cutting its key rate by a larger-than-usual half-point next week, as some Wall Street traders had hoped. Stock prices slid as a result, with the broad S&P 500 index falling about 1.6% in mid-morning trading.

Still, over time, a series of Fed rate cuts should reduce the cost of borrowing across the economy, including for mortgages, auto loans and credit cards.

During the presidential campaign, Harris has proposed subsidies for home buyers and builders in an effort to ease housing costs. She also backs a federal ban on price-gouging for groceries. Trump has said he would boost energy production to try to reduce overall inflation.

A number of trends suggest that inflation will keep slowing. Those signs include a drop in oil prices to roughly $67 a barrel early Wednesday, down from a high of $80 last month.

Americans' paychecks are also growing more slowly — an average of about 3.5% annually, still a solid pace — which reduces inflationary pressures. Two years ago, wage growth was topping 5%, a level that can force businesses to sharply raise prices to cover their higher labor costs.

In a high-profile speech last month, Fed Chair Jerome Powell noted that inflation was coming under control and suggested that the job market was unlikely to be a source of inflationary pressure.