Spending by American consumers sees a significant rise, nearly a two-year high, accompanied by a spike in inflation rates.
In the first quarter of 2025, consumer spending in the United States showed a robust increase of 5.5% compared to the previous year. However, forecasts indicate a weakening trend for the remainder of the year and into 2026, due to several economic factors.
The continued rise in U.S. interest rates, which reached record highs in 2023, has had a notable cooling effect on consumer spending and the broader economy. Higher interest rates directly impact durable goods spending, which is expected to decline by 0.7% in 2025 and shrink further in 2026. The elevated rates make borrowing more expensive, thereby limiting consumers' ability to finance purchases through credit.
Consumer spending growth is projected to moderate to around 1.4% to 1.5% annually in 2025-2026, down from stronger growth in 2024. Spending on nondurables and services is expected to grow but at a restrained pace due to the higher interest rate environment and tariff-induced inflation.
In January 2023, personal income rose by 0.6%, primarily due to rapid wage growth. This increase in income, adjusted for inflation, resulted in a growth of 1.1%. The Bureau of Economic Analysis (BEA) of the Commerce Department is anticipated to release yearly revisions to the PCE pricing data later this year.
Inflation remains above the Federal Reserve’s 2% target, with core inflation at 2.7%. These inflation pressures, combined with rising interest rates, further restrain consumer expenditures because they reduce purchasing power and increase borrowing costs. Income drops, partly from adjustments in Social Security benefits, also contribute to cautious consumer behavior.
The Fed paused rate hikes by late 2023, maintaining rates at elevated levels, with careful monitoring of inflation and tariff impacts before any rate cuts are considered. This suggests that the series of rate hikes likely slowed or paused in late 2023 but left interest rates at elevated levels that continue to influence consumer spending and economic growth into 2025.
Despite the challenges, there were some positive signs in consumer spending. In January 2023, consumer spending increased by 1.8%, marking the largest increase since March 2021. Outlays on services, including spending on transportation, entertainment, and healthcare services, also went up. Purchases of durable goods, such as motor cars, home furnishings, equipment, leisure goods, and automobiles, increased among consumers.
For more than 65 million recipients of Social Security, an 8.7% cost of living adjustment was implemented, offsetting a decline in government social payments. The core PCE price index, which excludes food and energy prices, rose 4.7% on a year-on-year basis in January, up from 4.6% in December.
In conclusion, the current economic environment suggests a cautious consumer outlook and a gradual cooling of economic activity influenced by the legacy of the interest rate rises in 2023. The Federal Reserve's careful approach to rate adjustments and the anticipated slow and challenging path to disinflation will continue to shape consumer spending and economic growth in the coming years.
The rise in interest rates, which led to a decrease in durable goods spending and a restrained pace of growth in nondurables and services spending, indicates a potential impact on sectors like entertainment and retail business. The Federal Reserve's cautious approach to rate adjustments and the projected slow path to disinflation may affect business sectors that heavily rely on consumer spending, such as healthcare and finance.
