December 19, 2025
The inflation data for October and November showed a much smaller than expected increase in that two month period. Because there were no available data for October as a result of the government shutdown, all we really know is that the CPI rose 0.2% over that two-month period or, essentially, 0.1% per month. The markets were expecting increases of 0.3% for both October and November. That 0.1% increases that were reported were so much smaller than expected economists immediately concluded that there was a problem and the data should be disregarded. It is true that the BLS had less data available to it than it typically does, but it would be a serious mistake to dismiss entirely the slower than expected rate of inflation.
Every economist has been focusing on tariffs and expects the inflation rate to accelerate in the months ahead as businesses pass along their higher costs to consumers. We are not convinced. We have been arguing for some time that a reduced rate of growth in the money supply and slower growth in the shelter component of the CPI will keep inflation in check and actually slow the rate of inflation slightly in 2026. We did not expect the reduced rate to emerge quite so suddenly and, given possible data distortions caused by the government shutdown, some skepticism is warranted. But, having said that, we suggest that the October/November CPI data are telling us that there is virtually no chance of a pickup in the rate of inflation in 2026 and, more likely, are pointing towards a slower rate of inflation next year. That is not what economists have been expecting.
The CPI data for October and November rose, on average, 0.1% per month when economists were expected gains of 0.3%. As a result, the year-over-year increase in the core rate of inflation slowed from 3.0% in September to 2.6% in November. Having been stuck at about the 3.0% mark since the beginning of this year, inflation appears to be resuming its slowdown. As noted earlier, these data occurred during the period when the government was shut down so some degree of skepticism is warranted. However, while emerging more quickly than we had anticipated, a slower rate of inflation should be expected in 2026 for two reasons — slower growth in the money supply growth and a slight decline in home prices.
First, the money supply is simply a measure of liquidity in the economy and includes liquid assets like cash, checking account balances, and money market funds. It typically grows at about a 6.0% pace which is roughly in line with nominal GDP. It expanded at that rate for years but then, in 2020 when the economy shut down and tens of thousands of people were laid off, the Fed feared that with so many people losing their jobs there might not be enough liquidity for them to pay their bills. It chose to buy abut $4.0 trillion dollars of U.S. Treasury securities and money growth surged for a protracted period of time to about 25%. That flooded the economy with surplus liquidity and caused the inflation rate to soar.
The Fed expected the run-up in inflation to be temporary. When that did not happen it finally began to reverse the process and shrink its portfolio. By doing so money growth actually contracted for more than a year and has grown slowly since. It has taken about three years but the Fed has finally eliminated all of the surplus liquidity it created in 2020 and 2021. By doing so, the inflation rate has already slowed considerably and we expect it to slow further from 2.6% currently to 2.2% by the end of 2026.
Second, in addition to slower growth in the money supply, no growth or even a slight decline in home prices should contribute to a reduced rate of inflation in 2026. The shelter component of the CPI is extremely important to the outlook for inflation because it represents one-third of the entire index. It includes rents plus an estimate of what a homeowner would receive if they rented out their home. Because lease terms lock in rent for some period of time, the shelter component lags real-time changes in new leases by about a year.
The shelter component of the CPI has slowed from a peak of about 8.0% to 3.0% currently. Because home prices and rents have steadily slowed or even declined slightly throughout 2025, it is a sure bet that the shelter component of the CPI will continue to slow in 2026. If it slows from 3.0% today to 2.0% in 2026, a 1.0% slower rate of inflation in one-third of the index should subtract about 0.3% from the CPI index next year.
While we were as surprised as everybody else about the slower rate of inflation in October and November, we are less willing to dismiss that good news entirely because we believe that the inflation rate is headed in that direction in the months ahead.
Stephen Slifer
NumberNomics
Charleston, S.C.
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