Good news: Inflation dropped
Bad news: The easy part is over.
Published: JULY 20, 2026
When the Bureau of Labor Statistics announced last week that the US consumer price index (CPI) had fallen to 3.5% in June, investors cheered, as well they should have. The decline appeared to take the worst-case scenario off the table, for now at least. No longer did we face the immediate risk of a Federal Reserve rate hike.
Energy prices are the main reason why. Last December, oil had fallen below $60 dollars per barrel on the West Texas Intermediate chart, its lowest price in several years. That all changed with the outbreak of war against Iran, with the price doubling in less than four months. Still, once the price spike broke in early April, oil has been on the retreat.
We’re seeing the benefits of that now. While, it’s true there’s been a smaller spike upwards in recent days due to the fraying of the peace negotiations, futures markets don’t indicate a return to sky-high oil prices. At 6.5% of the whole, energy is one of the smaller components of the CPI, which means that it shouldn’t even matter that much except at the extremes, such as we’ve recently seen.
The war-related oil spike moved inflation in the wrong direction, but what else is inflation doing? Short answer: it’s still pretty sticky. This leaves a few possible solutions. The hawk’s way would be to raise rates, albeit more slowly than the warflation spike might have suggested even a month ago.
But Fed Chair Warsh might have alternative options in mind. He could hope that declining housing inflation or deflationary forces unleashed by AI will bail the Fed out. More proactively, he could use the Fed’s new task forces to make the intellectual case for alternate, lower inflation measures or even for throwing the 2% target out entirely.
One thing he can also do is wait. The market assigns quite a high probability that the Fed will now leave rates unchanged at its meeting in late July. And August is the Jackson Hole retreat with no FOMC meeting. Chair Warsh and the committee have nearly two months, until September 16, before they will need to move the fed funds rate up, down, or sideways.
Our outlook:
The drop in inflation removes the immediate risk of a rate hike. It’s also further evidence that we’re not in stagflationary times. (Recent strength in the labor market is another such sign.)
If this moderation of inflation can continue, it makes the growth stabilization or risk-on re-acceleration scenario more likely. To some extent, though, inflation is in the eyes of the beholder, and the beholder is the FOMC. If they were to decide that, say, 2.5% inflation is too much, then we could face the need for defensive posturing that a prolonged inflation scenario entails.
Our four economic scenarios:
- Prolonged inflation — inflation remains sticky, energy prices stay elevated, and policy easing is delayed, supporting defensive positioning.
- Growth stabilization — inflation moderates gradually, growth remains positive, and markets broaden beyond megacaps, supporting balanced portfolios.
- Risk-on re-acceleration — geopolitical tensions ease quickly, inflation expectations fall, and markets price ongoing rate cuts, potentially supporting risk assets.
- Hard landing — growth deteriorates and financial conditions tighten, creating a risk-off environment, supporting liquidity.
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