US inflation cools to 3.5% in June but sticky pressures remain

US headline inflation fell to 3.5% in June, down from 4.2% in May, as a 9.7% plunge in gasoline prices delivered the first monthly decline in consumer prices in two years — but core services inflation outside housing accelerated, underscoring the Federal Reserve's challenge in restoring price stability.

"This is great news for monetary policy, as the core CPI came down considerably on a year-over-year basis," Eugenio Aleman, chief economist at Raymond James, said. "The only caveat is that this is just one month, and we will have to wait to see what happens going forward with the conflict with Iran."

The Consumer Price Index fell 0.4% month-over-month, the Bureau of Labor Statistics reported July 14, marking the steepest monthly decline since April 2020. Core CPI, which strips out volatile food and energy costs, rose 2.6% over the year — below the 2.9% reading in May and below consensus expectations. The energy index tumbled 5.7% in June, its largest one-month drop in more than six years, while food prices edged up 0.2% and remained 3% higher than a year ago.

The data arrives as Federal Reserve Chair Kevin Warsh told the House Financial Services Committee the central bank's work to restore price stability "is not done," noting inflation has remained above the Fed's 2% target for 63 consecutive months. With the next Federal Open Market Committee meeting on July 29, swap markets now price a 68% probability the Fed holds its benchmark rate at 3.5% to 3.75%, though renewed US-Iran hostilities have already pushed Brent crude back above $87 a barrel.

Sticky Services Inflation Clouds the Outlook

Core services inflation excluding housing — what economists call "supercore" — accelerated in the first half of 2026, driven by rising costs for auto repairs, medical care, and insurance. Services businesses account for nearly three-quarters of the US economy, and their biggest expense is labor, which tends not to adjust downward. That makes disinflation in this category inherently slower than in goods.

"Three straight months of accelerating consumer goods inflation have pushed price increases to their highest annual rate in nearly three years," said Paul Stanley, senior economist at Numerator, whose Consumer Goods Price Index showed everyday household prices rose 0.70% in June alone. Low-income households have seen prices climb 35.7% since 2018, compared with a national average of 33.8%, Numerator data show.

Housing-related inflation, which accounts for the largest share of the CPI basket, has been on a slow but steady disinflationary path for three years and is now running at a pace last seen between 2016 and 2019. But that progress is being offset by rising costs elsewhere: Beef prices hit a record $6.98 a pound for ground chuck, up 14.3% from a year ago, while egg prices climbed 4.3% month-over-month.

AI Investment and Defense Spending Add Upward Pressure

The massive buildout of artificial intelligence infrastructure is creating a new source of inflation. Tech companies are expected to spend more on AI next year than the US spends on its military, according to Morgan Stanley, and data-center construction has already pushed electricity prices up nearly 6% over the past year. Apple recently raised iPad and Mac prices, citing surging memory-chip costs driven by data-center demand.

Each 10% increase in AI-related hardware costs would raise consumer inflation by around 0.1%, according to Abiel Reinhart, senior economist at JPMorgan. Microsoft raised personal Office 365 prices by 43% in February after adding its Copilot AI tool, ending a decade of steady pricing.

At the same time, the Pentagon has requested $1.5 trillion in spending, including an $87.6 billion supplemental to replenish weapons stockpiles depleted during the Iran conflict. That manufacturing surge will add demand for tech components and labor that are already in short supply, RSM US Chief Economist Joe Brusuelas said. "That, my friend, is inflationary."

Average hourly earnings rose 3.5% over the year in June, matching the headline inflation rate, meaning many workers saw their pay gains fully eroded by higher prices. Americans are now paying roughly a third more for most goods and services than before the pandemic, according to PNC Chief Economist Gus Faucher, who said it will take "a few years of low inflation for consumers to feel like things are kind of back to normal."

This article is for informational purposes only and does not constitute investment advice.