Inflation Victory Is Proving Elusive, Challenging Central Banks and Markets

Inflation is proving stickier than expected in the U.S. and Europe, creating a headache for central bankers and sowing doubts on whether investors are too optimistic about the world economy.

The decline in inflation from highs of around 9% to 10% across advanced economies in 2022 represent the easy gains, as supply-chain blockages eased and commodity prices, especially for energy, normalised.

The “last mile” is proving tougher . Underlying inflation, which excludes volatile food and energy prices, slowed to 3% in the second half of last year across advanced economies but has since moved up to 3.5%, according to JP Morgan estimates.

That is forcing investors to rethink bets that inflation would steadily decline to central banks’ targets, generally around 2%. There are even concerns it could surge again, mirroring the second wave that characterised the high inflation of the 1970s.

Economists’ and central banks’ forecasts of sustained falling inflation depend on “strong gravitational forces that are not yet validated in global labor costs, short-term expectations, or in recent signals from commodity markets,” JP Morgan wrote in a note. Services inflation remains elevated while goods prices, which had fallen last year, are now moving higher, it noted.

Waiting on the last mile

Central bankers say they expected the last mile of falling inflation to be bumpy. Yet they are also signalling their willingness to wait before cutting interest rates. Fewer, or no, rate cuts would have sweeping repercussions for the global economy and markets, whose recent rally began after a narrow majority of Federal Reserve officials recently reaffirmed projections to cut interest rates three times this year.

On Friday, the U.S. Commerce Department reported that the price index of personal-consumption expenditures, the Fed’s preferred indicator of inflation, rose a relatively tame 2.5% in the 12 months through February, up modestly from 2.4% in January. Beneath the surface, the trend was less comforting. The index excluding food and energy climbed by 3.5% on an annualised basis in the three months through February, up from around 2% late last year.

“These shorter-term inflation measures are now telling me that progress has slowed and may have stalled,” Fed governor Christopher Waller said in a speech Thursday, before the latest inflation data.

“In my view, it is appropriate to reduce the overall number of rate cuts or push them further into the future,” Waller said.

Fed Chair Jerome Powell struck a more balanced note Friday, saying inflation is on a sometimes bumpy path toward 2%, and strong economic growth allows policymakers to wait. “Is progress on inflation going to slow for more than two months?…We’re just going to have to let the data tell us that,” Powell said in an interview at the San Francisco Fed.

Joachim Nagel , president of Germany’s Bundesbank and a member of the European Central Bank’s rate-setting committee said in late February that underlying inflation in the eurozone was still 2 percentage points higher than its 1999 to 2019 average.

“If we reduce interest rates too early or too sharply, we run the risk of missing our target,” and might need to raise interest rates again, he said. He highlighted a recent International Monetary Fund report that found four out of every 10 inflation shocks since the 1970s had yet to be overcome even after five years.

In Italy, underlying inflation climbed to 2.4% in March from 2.3% the previous month, according to data published Friday. French headline inflation cooled to 2.3% in March, but services prices remained sticky, rising by 3% from a year earlier.

Why is inflation proving stubborn?

Despite the sharp interest-rate increases of the past two years, economic growth is resilient, especially in the U.S. The Atlanta Fed said Friday its real-time indicator of first quarter U.S. economic growth ticked up to 2.3% from 2.1%. Consumer spending, adjusted for inflation, increased by around 5% on an annual basis in February, the Commerce Department said.

“The unexpected strength of real consumption” means “there is still no rush to cut interest rates,” said Paul Ashworth , an economist with Capital Economics.

While Europe’s growth has stalled since late 2022, recent business surveys suggest the outlook is brightening. Meanwhile, job creation has been strong on both sides of the Atlantic, and wage growth remains high, partly reflecting tight labor markets. Wages are an important input to services-price inflation in the eurozone, which has been running at a 4% annual rate since November.

March inflation data for the entire eurozone will be published on Wednesday. ECB officials have indicated they could start to cut interest rates in June from the current 4% level, while the subsequent pace of cuts after that is unclear.

Central banks may be part of the problem

Central banks themselves may be inadvertently adding to inflation pressure. By signalling a pivot toward interest-rate cuts last fall, they pushed global borrowing costs down and asset prices up, supporting spending.

Some factors favour inflation declining further. In both the U.S. and Europe, a surge of immigration could help keep a lid on wage increases.

The U.S.—but not Europe—is also seeing big increases in productivity, that is output per worker, which helps to offset high wage growth. It is unclear, however, how long that will last. The pandemic might have changed how Americans work and use technology, but “once we have made those changes, they’re done, so I don’t see this as a driver of sustained productivity growth,” the Fed’s Waller said.

Meanwhile, oil prices have risen recently, which could push up headline inflation.

To offset a slumping property market, China has dramatically boosted manufacturing capacity and exports, which have weighed on global goods inflation. But its export prices have recently started to increase, according to JP Morgan.

If central banks react to stubborn inflation by backing away from rate cuts, that would put pressure on both heavily indebted governments and employers. That could test central banks’ will to finish the last mile and push inflation all the way to target.

Higher government spending on defence and green energy, and geopolitical tensions that crimp global trade, are likely to pressure central banks to tolerate higher inflation over the coming years, according to a Brookings Institution paper published in March.

“A strengthening of central bank independence combined with a more credible public debt policy is likely needed,” said the paper, by economist Kenneth Rogoff of Harvard University and three co-authors.

A sharp technology sell-off has exposed a new anxiety on global markets: whether the enormous borrowing behind the artificial-intelligence infrastructure boom can generate sufficient returns as interest rates rise and Chinese competition intensifies.

The artificial-intelligence investment boom has powered technology shares, semiconductor manufacturers and data-centre operators to extraordinary heights. Last week, investors were given a reminder that much of this expansion is being built with borrowed money.

The technology-heavy Nasdaq Composite fell 4.5 per cent over the week ended October 16, its weakest performance since late June. Semiconductor shares suffered an even deeper correction, with the Philadelphia Semiconductor Index losing about 11.4 per cent.

The selling spread quickly through global markets. Micron Technology fell 14.6 per cent over the week, while South Korea’s Samsung Electronics and SK Hynix dropped approximately 18 per cent and 24 per cent respectively.

This was more than a routine bout of profit-taking. Investors were reassessing three interconnected risks: higher interest rates, the rapidly expanding debt burden attached to AI infrastructure and the prospect of stronger competition from Chinese memory-chip manufacturers.

The debt behind the AI build-out

Artificial intelligence requires a physical infrastructure network of enormous scale. Data centres must be built, advanced processors purchased, power supplies secured and cooling systems installed before customers begin generating meaningful revenue from them.

Technology companies are increasingly supplementing their own cash with corporate bonds, syndicated loans, equipment leases, private credit and project-level financing.

JPMorgan describes the emerging funding model as a combination of conventional corporate borrowing and project finance tied to individual data-centre assets. In Australia, the Reserve Bank estimates that syndicated loans accounted for approximately three-quarters of data-centre financing during 2025 and 2026 to date.

The numbers are becoming large enough to affect broader credit markets. The Federal Reserve Bank of Dallas has cited Wall Street estimates suggesting AI-related investment-grade bond issuance could approach US$300 billion in 2026 alone.

That borrowing is not automatically problematic. Debt can be an efficient way to finance long-lived infrastructure when future revenue is sufficiently predictable. The concern is that AI technology, customer demand and computing economics are changing much faster than the repayment schedules attached to the assets.

A data centre financed today may carry debt for years. Investors must therefore make assumptions about future utilisation rates, electricity prices, chip performance, customer concentration and the amount businesses will ultimately pay for AI computing.

When interest rates rise, those assumptions become less forgiving.

Inflation changes the calculation

September’s US inflation data intensified the pressure. Consumer prices increased 3.7 per cent over the year, ahead of market expectations and up from 3.4 per cent in August.

The hotter reading reduced confidence that interest rates would fall quickly and pushed bond yields higher. That matters particularly for companies whose valuations depend on profits expected well into the future, as well as highly leveraged infrastructure operators that may need to refinance.

CoreWeave has emerged as a closely watched test case. The specialist cloud-computing company has accumulated substantial debt and lease obligations to build AI capacity, while relying on a concentrated group of large technology customers.

Its shares fell sharply during the sell-off, while the cost of insuring its debt against default climbed. CoreWeave has argued that its contracted backlog more than covers its obligations and that financial markets do not always understand its business model. Nevertheless, its securities have become a proxy for investor confidence in debt-funded AI infrastructure.

Oracle, another major investor in AI computing capacity, fell 8.8 per cent in Friday trading, while CoreWeave dropped 15.5 per cent.

The question is shifting from how much AI infrastructure can be built to how profitably it can be operated.

China adds another source of pressure

Interest rates were not the only catalyst. Reports of advances by Chinese memory-chip producer ChangXin Memory Technologies raised concerns that lower-cost Chinese products could increase competition across the global semiconductor industry.

Memory chips are essential to AI systems, but the industry is historically cyclical. Periods of tight supply and high pricing can encourage rapid investment, eventually producing oversupply and falling margins.

The prospect of a well-funded Chinese competitor expanding its technological capabilities unsettled investors in Samsung, SK Hynix and Micron. It also demonstrated that AI-related demand does not insulate chipmakers from conventional competitive pressures.

That combination—slower rate cuts, more expensive financing and potentially cheaper supply—challenged the assumption that every company exposed to AI would enjoy continually expanding margins.

A reset rather than the end of the boom

The sell-off does not establish that the AI boom is ending. Demand for computing power remains strong, the largest technology companies continue to generate formidable cash flows and many infrastructure projects are backed by long-term customer contracts.

What has changed is the market’s willingness to overlook the price and financing structure of that growth.

The most resilient companies are likely to be those able to fund investment from operating cash flow, secure long-duration customers and demonstrate that new capacity will earn returns comfortably above its financing costs.

More speculative operators may face greater scrutiny, particularly where debt is expensive, customers are concentrated or expected revenue depends on demand that has not yet materialised.

For Australian investors, the lesson extends beyond US technology shares. Local data-centre operators, infrastructure funds, electricity suppliers and property groups are increasingly exposed to the same investment cycle.

Artificial intelligence may remain one of the defining growth themes of the decade. But last week’s correction showed that enthusiasm for the technology does not eliminate financial discipline.

The next stage of the AI boom will be judged not only by computing power, model performance or demand for chips, but by something more traditional: whether the assets being financed can generate enough cash to repay the money borrowed to build them.

Fact box

Nasdaq Composite: Down 4.5 per cent for the week ended October 16, 2026

Philadelphia Semiconductor Index: Down approximately 11.4 per cent

Micron Technology: Down approximately 14.6 per cent

Samsung Electronics: Down approximately 18 per cent

SK Hynix: Down approximately 24 per cent

US September inflation: 3.7 per cent annually

Estimated 2026 AI-related investment-grade issuance: Approximately US$300 billion