The Consumer Price Index (CPI) surged in September as fuel prices spiked yet again. This has some analysts forecasting a 50-basis-point Fed rate hike before year-end.
The CPI data certainly tells a gloomy inflation tale, but it doesn’t tell the whole story. In fact, the September CPI primarily reflected an oil shock. That’s not “inflation” as historically defined, and the Fed can tackle the problem by hiking interest rates.
However, that’s not to say the inflation picture is “just fine.”
Each month, the Bureau of Labor Statistics releases the Consumer Price Index (CPI) report. Policymakers, pundits, and economists use this data to gauge the current inflation situation.
But relying solely on CPI data to gauge inflation is a little like looking at the temperature and claiming you know the weather.
CPI tracks price inflation – more specifically, changes in the price of a basket of goods. But historically, inflation was defined as an increase in the supply of money and credit. Rising consumer prices are one impact of this monetary inflation. In other words, the CPI measures a symptom of monetary inflation.
The CPI captures past monetary inflation in the economy, but it can’t predict inflation's trajectory. That means we need to look at other metrics to understand the complete inflation story.
With this in mind, I publish a more comprehensive inflation report each month using four metrics – CPI, changes in the M2 money supply, changes in the Federal Reserve balance sheet, and the Chicago Fed National Financial Conditions Index.
September CPI
After rising 0.4 percent in August, prices surged by another 0.6 percent in September, according to BLS data. That drove the headline annual CPI to 3.7 percent, a notch above the 3.6 percent forecast.
Stripping out more volatile food and energy prices, core CPI increased by 0.3 percent for the second straight month. That drove annual core CPI to 2.6 percent. The forecast was for a 0.2 percent uptick in core CPI and a 2.5 percent annual rise.
Over the past three years, core CPI has been stubbornly stuck at 3.2 percent.
The September CPI undeniably reflected a major surge in price inflation, but it was primarily a function of rising energy prices as the U.S.-Iran conflict continued to roil oil markets.
The energy index surged by 5.2 percent month-on-month, driven by a 9.1 percent increase in gasoline prices. Meanwhile, fuel oil surged 15.3 percent last month, just in time for the winter heating season.
As economist Daniel Lacalle noted, while energy costs have driven CPI much higher, it is not the kind of price inflation the Fed can tackle by hiking rates.
“U.S. CPI shows the stupidity of rate hikes. The entire impact comes from refined products. Rate hikes will not create more barrels nor increase refining, but they damage families and businesses.”
However, several indexes showed modest price increases, including a 0.4 percent month-on-month rise in shelter and services, and a 0.3 percent increase in commodity prices. This indicates underlying inflationary pressure unrelated to the oil shock.
On a positive note, food prices were unchanged in September, and medical care service prices dipped by -0.2 percent.
M2 Money Supply
While prices are cooling, the money supply is increasing rapidly. That is, by definition, inflation. However, we won’t see its impact on the general price level for months.
Between August 2025 and August 2026, the money supply surged from $22.09 trillion to $23.34 trillion.
In other words, we have an actual inflation rate of 5.7 percent.
The M2 money supply increased by $124.9 billion in August alone, a 0.54 percent m-o-m gain.
This monetary inflation will eventually find its way into consumer prices. (It could also manifest in rising asset prices such as real estate and equities.)
The Federal Reserve Balance Sheet
One reason the money supply is increasing is due to central bank money printing.
While Warsh & Co. talk tough on inflation, the Fed is running quantitative easing (QE) operations to create artificial demand for Treasuries and hold yields lower than they otherwise would be. That means the central bank is buying U.S. Treasuries and holding them on its balance sheet. To run this operation, the Fed creates money out of thin air to pay for these bonds. That new money gets injected into the economy. Again, this is, by definition, inflation.
The Fed will never admit to running QE. It will tell you it is just a technical operation to keep the financial system’s plumbing clear. But no matter what you call it, the practical impact is the same. The Fed’s balance sheet expands, and new money flows into the economy.
The central bank’s balance sheet began ticking higher last December, and the upward trend continues. In September, it nudged up from $6.74 trillion to $6.75 trillion. It has increased from $6.54 trillion since January.
Keep in mind the Fed must run QE just to keep the balance sheet steady. Bonds mature and roll off the balance sheet monthly. The central bank has to buy new securities to replace the old ones.
I can’t overstate the fact that the Fed is easing monetary policy through its balance sheet operations, even as it claims to be fighting inflation. Sure, the balance sheet increase is modest. But if you’re serious about an inflation fight, why isn’t the balance sheet shrinking?
The answer is the evolving bond bear market. With rising yields driving up the federal government’s interest costs, the Fed has no choice but to step in and support the Treasury market.
The Treasury Department is trying (and failing) to drive long-term rates lower with its bond buyback. It’s only a matter of time before the Fed has to engage in more aggressive QE to manipulate the Treasury market and facilitate U.S. government borrowing and spending.
National Financial Conditions Index
While everybody imagines monetary policy is currently tight, it is loose from a historical perspective.
The Chicago Fed’s own National Financial Conditions Index (NFCI) reveals this.
As of the week ending October 9, the NFCI stood at -0.5. The minus sign indicates financial conditions remain historically loose.
Surprisingly, the NFCI never went positive, even during the height of the Fed’s tightening cycle. The highest it got was -0.09 in October 2022.
Again, this reveals the Federal Reserve inflation fight wasn’t nearly as aggressive as advertised. It maintained a historically loose monetary policy through the entirety of this inflation cycle.
It also reveals that the economy is addicted to easy money. The fact that the central bank never drove financial conditions tight for fear of collapsing the debt-riddled bubble economy is telling. It certainly wasn’t because inflation was under control.
Conclusion
When you put all the data together, the inflation picture looks much more concerning than the sketch drawn by the CPI data alone. Clearly, inflation is far from "under control." It is on the upswing.
While the CPI is primarily being driven higher by rising energy costs, the growing money supply means there's undoubtedly more price pressure in the pipeline. Whether it manifests in consumer prices, asset prices, or both remains to be seen.
The bottom line is it’s not the time to celebrate inflation’s demise. One thing you can count on: the powers-that-be will relentlessly devalue your money – at least by the planned 10-plus percent every five years.
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