Consumer incomes and spending gain ground

August 29, 2025

Personal disposable income rose 0.2% after adjusting for inflation in July. Wages and salaries accelerated at the fastest rate since late 2024. The talent war for AI may have driven some of the pay gains. Government transfer payments moved largely sideways after a surge in social security payments and unemployment insurance payouts in the second quarter.

Consumer spending rose 0.3% after adjusting for inflation. A surge in spending on big-ticket durable goods was accompanied by a solid increase in spending on nondurable goods and a modest pick-up in services spending. Motor vehicles and parts added 4.5% during July as consumers rushed to claim electric vehicle tax credits before they expire. Spending on back-to-school and eating out increased from last month’s pace.

The savings rate remained at 4.4% in July. That is above the lows hit in the fourth quarter when consumer spending surged, but still well below the levels we saw pre-pandemic.

Inflation still warming

The personal consumption expenditure (PCE) index, which the Federal Reserve targets at 2%, climbed 0.2% in July. The overall index rose 2.6% from a year ago in July, the same as June. That is consistent with market expectations for a 2.6% annual gain and matches the hottest pace since February 2025.

The core PCE, which excludes the volatile food and energy sectors and represents a better indicator for where inflation is headed, increased 0.3%. Those gains pushed up the year-over-year increase to 2.9% in July. That’s the third straight month with higher annual inflation, providing more evidence of rising price pressures. Aside from core prices, food and energy both declined in July.

The move up in core inflation was due to broad-based services price gains. Financial services led the way as equity volumes pushed up prices. None of the service sectors grew at less than 2.6% year-over-year. Tariffs are affecting healthcare via the cost of equipment, which is expected to worsen later in the year. Air transportation prices rose after two months of decline and are anticipated to strengthen as the year progresses.

Durable goods inflation softened for the first time in four months, but that was due entirely to recreational goods and vehicles. The category includes everything from personal computers to motorcycles to music instruments. New motor vehicle prices were flat, while used vehicle prices increased for the first time since February. Nondurable goods prices fell in nearly every category. Food and drinks away from home and gasoline led the decline.

The super core PCE, which excludes shelter costs, rose 0.4% in July, double the pace of June. That translates to a 3.3% increase from a year ago and is still well above the pre-pandemic level. Services inflation is buffered from the Federal Reserve’s interest rate decisions because it is more reliant upon labor than investment. That complicates the Fed’s job. Consumer pushback on services price increases will offer the Fed some clarity on whether services inflation has cooled sufficiently.

Tariffs can take six to eighteen months to affect profit margins and prices. Despite many deals underway, final tariff levels have not been set. Just this week, tariffs on goods from India rose from 25% to 50% while the de minimis exemption, a rule that allowed goods under $800 to enter the US duty free, ended.  This is still the beginning of the process; tariffs are working through the pipeline.

The effective tariff rate is still muted as companies’ mitigation efforts are in play. Stockpiling ahead of price increases, restructuring supply chains and utilizing bonded warehouses in Foreign Trade Zones so far have helped delay the timing and effects of tariffs.