The Emerging Risks in the US Economy: Rising Inflation and Slowing Growth

A recent string of economic data releases from the United States has reignited concerns about the possibility of stagflation—a scenario where weak economic growth coexists with persistent inflation. While such a combination is not yet fully evident, signs of rising inflationary pressures alongside a cooling economy have drawn the attention of policymakers, businesses, and investors alike.

Consumer Spending and Sentiment Face Growing Pressure

January’s personal consumption data showed the sharpest monthly decline in nearly four years, as American households pulled back after a robust holiday shopping season. While some moderation was expected, the extent of the decline was larger than many had anticipated, indicating rising caution among consumers.

Consumer sentiment data paints a similarly cautious picture. The Conference Board’s consumer confidence index dropped sharply in February, posting its steepest decline in almost four years. Sentiment deteriorated across income and age groups, signaling a broad-based softening in consumer outlook. At the same time, one-year inflation expectations rose to their highest level since 2023, partly reflecting the impact of higher grocery prices and the potential for new tariffs under the Trump administration.

Corporate leaders have also begun to raise concerns about the implications of shifting trade policies. Ford CEO Jim Farley recently warned that the proposed 25% tariffs on imports from Canada and Mexico could deliver a significant blow to the US auto industry. Chipotle Mexican Grill highlighted similar risks, noting that higher tariffs on avocados and limes could increase input costs and put pressure on menu prices.

Signs of Weakening Economic Momentum Across Data Sets

Concerns about economic momentum are not limited to consumer sentiment or business expectations. Several hard data indicators—metrics derived directly from economic activity rather than surveys—also point to slowing momentum.

Retail sales in January recorded their largest monthly drop in nearly two years, while servi sector activity expanded at its slowest pace since September 2023. While some of this weakness can be attributed to temporary disruptions, such as severe winter storms in the South and wildfires in California, the broader slowdown in consumer activity suggests that underlying demand may be softening.

The Atlanta Fed’s GDPNow model currently projects that the US economy could contract slightly in the first quarter of 2025, although such early estimates are subject to considerable revisions as more data becomes available.

Labor market data also shows early signs of softening. Initial jobless claims rose to 242,000 last week, up from 220,000 previously. While this remains within a historically normal range, the increase warrants attention. Particularly notable is the sharp rise in claims from Washington D.C. area, where filings are now roughly four times higher than a year ago—potentially reflecting the impact of federal spending cuts and reduced contracting activity.

Policy Uncertainty and Economic Cycles Intersect

The evolving economic backdrop is being further complicated by a shift in federal policy priorities. The Trump administration’s agenda—which includes higher tariffs, stricter immigration policies, and reduced federal spending—has the potential to reshape the economic landscape in both the short and long term.

However, the sequencing of these policies matters. Policies likely to constrain near-term growth, such as tariffs and spending cuts, have been implemented relatively quickly. In contrast, growth-supportive measures, such as tax cuts and regulatory easing, are still in the proposal stage and may not materialize until 2026 or beyond.

For the Federal Reserve, this combination of persistent inflation and slowing growth presents a particularly challenging balancing act. Inflation remains above the Fed’s 2% target, yet economic data increasingly points to softening demand and labor market conditions. This tension between supporting the labor market and keeping inflation under control will likely be a central focus for policymakers in the months ahead.