Wall Street economists and analysts say the Federal Reserve is now more likely than not to raise interest rates next week, based on an August inflation report that showed price pressures accelerating faster than expected on a monthly basis. The consensus has shifted decisively toward a rate hike, driven by data that gives the Fed little room to hold steady on policy.
According to the U.S. Bureau of Labor Statistics, headline and core consumer price index (CPI) both exceeded expectations in August. Headline CPI rose 0.4% month-over-month, matching the consensus forecast, but core CPI increased 0.3% month-over-month, above the 0.2% estimate. Both measures accelerated from July’s more modest gains of 0.1% and 0.2% respectively. On an annual basis, headline CPI held at 3.4%, unchanged from July, while core CPI moderated to 2.4% from 2.5%.
The market’s immediate reaction was stark. Traders sharply raised their expectations for a Federal Reserve rate hike on September 16. According to the CME FedWatch tool, the probability of a 25 basis point increase surged to nearly 87% after the inflation data, compared to about 69% before the report’s release.
Energy Prices Amplify Inflation Concerns
The timing of the inflation report came just one day after mostly hawkish producer price index data, creating a one-two punch that solidified rate hike expectations. Energy prices spiked sharply in early September, with diesel jumping over $6 per gallon at U.S. pumps to a new record high. Diesel prices have soared 63% over the past 12 months, a trend that carries real consequences for business operations and consumer goods delivery.
Bill Adams, chief U.S. economist at Fifth Third Commercial Bank, noted that the energy surge overshadows the August inflation reports themselves. “For the Fed, early September’s surging energy prices will probably tip the scale to a hike at next week’s meeting,” Adams said. Fed Chair Kevin Warsh emphasized the importance of confidence in disinflation at the Jackson Hole monetary policy conference in late August, stating that the central bank must be certain “underlying inflation is moving to our objective, clearly and at sufficient speed.”
Core Inflation Remains Elevated Despite Headline Stability
Economists point to core inflation, which strips out food and energy, as the more telling measure for Fed decision-making. The 0.3% monthly rise in core CPI in August came in higher than most anticipated. Kevin Gordon, head of macro research and strategy at the Schwab Center for Financial Research, said the report offered little comfort to inflation doves hoping the Fed could hold rates steady.
“This report did not help the doves one bit. Core CPI came in hot and the breadth of components increasing was very much consistent with what Chair Warsh outlined as an issue in his Jackson Hole speech,” Gordon said. He added that core services inflation has reaccelerated in recent months while core goods inflation offers no relief. Gordon identified three main inflation drivers, tariffs, energy, and AI capital expenditure, none of which have slowed materially, creating strong headwinds for disinflation.
Justin Wolfers, professor of public policy and economics at the University of Michigan, noted that the Fed pays close attention to core inflation, and August’s 0.3% monthly rise was higher than most had anticipated.
The Labor Market Backstop
Despite inflation concerns, the underlying labor market remains resilient, giving the Fed some cushion as it tightens policy. Nonfarm payroll growth is solid, and nominal GDP is accelerating at a 6.6% year-over-year pace. However, this economic strength also means the Fed’s job of bringing inflation back to its 2% target has become more difficult, not easier.
Jeffrey Roach, chief economist at LPL Financial, cautioned that the impact of a rate hike may be muted. A growing share of economic activity is less interest-rate sensitive than in past cycles. With AI investment surging and affluent consumers continuing to spend heavily on travel, demand could remain resilient despite tighter policy. Roach projects nominal economic growth will stay above 6% over the next few quarters, supporting business revenues.
Samuel Tombs, chief U.S. economist at Pantheon Macroeconomics, expects the core personal consumption expenditures deflator, the Fed’s preferred inflation gauge, to rise 0.28% on a new methodology, which would annualize to 3.4%. That would be slightly above July’s revised rate of 3.0% core PCE inflation. “Disinflation has stalled, and a September rate hike is now very likely,” Tombs concluded.
Fed Credibility on the Line
Joseph Brusuelas, principal and chief economist at RSM US, framed the September decision as a credibility test for the Fed itself. “Following a brief easing in June and July, inflation surged again in August, which sets the stage for a likely interest rate hike by the Federal Reserve at its September policy meeting,” he said. Energy, transportation, and service prices led the acceleration in August and are likely to rise further due to the oil and distillate cost spike. Brusuelas expects the Fed will raise its policy rate by 25 basis points in September, followed by at least two more hikes over the next year to restore inflation to the 2% target.
Heather Long, chief economist at Navy Federal, offered a direct assessment: “A September Fed rate hike is almost locked in now. It’s the right call.” She cited growing risks that inflation remains entrenched or continues to broaden, and noted that Fed Chair Warsh is determined not to repeat the mistake of waiting too long to tighten, as happened under his predecessor.
The August CPI data and subsequent energy surge have shifted the conversation decisively. What appeared in July as potential room for the Fed to hold rates steady has evaporated, replaced by near-consensus among economists that a rate hike is now the most likely outcome. The question for markets and businesses is no longer whether the Fed will act, but whether aggressive tightening will slow demand enough to bring inflation down without triggering broader economic stress.