The U.S. economy experienced accelerated growth at the beginning of the year, driven by robust business and consumer demand. According to preliminary estimates released by the Bureau of Economic Analysis on Thursday, inflation-adjusted Gross Domestic Product (GDP) grew at an annualized rate of 2% in the first quarter. This figure was slightly below the expected 3% but remained significantly higher than the previous quarter's 0.5% growth. The growth in the final months of 2025 had been constrained by the longest-ever federal government shutdown in U.S. history.
The resilience of the U.S. economy in the first quarter was accompanied by accelerating inflation. Consumer spending, which accounts for approximately two-thirds of economic activity, increased at a rate of 1.6%, exceeding expectations, primarily fueled by demand for services. Business spending on equipment and facilities surged by 10.4%, marking the fastest growth rate in nearly three years, largely attributable to rapid investment in the field of artificial intelligence.
While higher tax refunds helped support household expenditures, the GDP report indicated a sharp rise in inflationary pressures in March, driven by soaring gasoline prices due to the ongoing conflict. The Federal Reserve's preferred inflation gauge, the Personal Consumption Expenditures (PCE) price index, increased by 0.7% month-over-month in March, the largest increase since 2022. According to separate data from the BEA, the index rose 3.5% compared to the same period last year. Gasoline prices have continued to climb since then, reaching their highest levels since 2022.
The core PCE price index, which excludes food and energy, rose a seasonally adjusted 0.3% month-over-month in March, pushing the annualized inflation rate to 3.2%, both figures aligning with general expectations. However, the core inflation rate reached its highest level since November 2023. Meanwhile, the core PCE price index for the first quarter increased by 4.3% year-over-year, surpassing expectations.
The primary driver of accelerating inflation originates from the Middle East. According to data from the American Automobile Association (AAA), the U.S. national average price for gasoline reached $4.18 per gallon on April 28, the highest level since the outbreak of the Iran conflict and a peak since April 2022. Since the conflict began on February 28, national gasoline prices have increased by approximately $1.20, a surge of about 40%. Just two days before the conflict started, on February 26, the national average was only about $2.98 per gallon. Over two months, additional spending by U.S. consumers on gasoline has exceeded $150, with economists predicting this figure could approach $800 by year-end.
Adding to market unease, international oil prices surged above $126 per barrel on April 30, reaching a four-year high. On the same day, S&P Global adjusted its 2026 crude oil price assumptions to $95 per barrel for WTI and $100 for Brent. The Strait of Hormuz shows no signs of reopening, and the strategic contest for control of the strait between the U.S. and Iran continues to escalate.
Furthermore, although U.S. household demand cooled compared to the previous quarter, this may partly reflect severe winter weather that affected much of the country early in the year. After inflation adjustment, household spending increased by 0.2% month-over-month in March, falling short of expectations, with the increase primarily due to consumers spending more on goods like vehicles and household items. Separately, the U.S. Labor Department reported that seasonally adjusted initial jobless claims for the week ending April 25 were 189,000, a decrease of 26,000 from the previous week and significantly lower than the anticipated 212,000. This is the lowest level since September 1969, as the U.S. labor market has been in a pattern of low hiring and low firing over the past year.
Because trade and inventory fluctuations often distort GDP figures, economists closely monitor a narrower gauge of underlying demand: final sales to domestic private purchasers. This measure increased by 2.5% in the first quarter, rebounding from the previous quarter.
The report notes that despite the Middle East conflict causing oil price spikes and disrupting global supply chains, the U.S. economy has so far remained stable. However, geopolitical tensions could dampen growth prospects if inflation-weary consumers become more cautious.
In the first quarter of this year, job growth averaged 68,000 positions per month, compared to just 20,000 per month in the same period last year. However, the pace of labor market growth has slowed significantly compared to 2023 and 2024. Some economists attribute this to trade and immigration policies they believe have reduced both labor demand and supply.
A weaker labor market has restrained wage growth. Tariffs have pushed up prices for some goods, although the impact on official inflation data has been modest. Economists suggest that consumers are funding their spending by drawing on savings or saving less, a situation they believe cannot continue indefinitely. In March, the growth rate of U.S. household spending continued to outpace the growth rate of income, and the savings rate edged down to a new four-year low.
Economists warn that rising inflation may offset some of the anticipated stimulative effects of tax cuts. They expect the boost from significantly larger tax refunds to fade quickly, leading to softer consumer spending this year. Economists also anticipate that the Middle East war will begin to exert pressure on economic growth starting in the second quarter.
Amid macroeconomic turbulence, U.S. tech giants are embarking on an unprecedented capital expenditure boom. The combined capital expenditure of four tech giants—Alphabet, Amazon, Meta, and Microsoft—is projected to reach a staggering $725 billion in 2026, primarily for building artificial intelligence and cloud data centers. This figure exceeds the total GDP of Switzerland and is an upward revision from previous estimates of around $650 billion. The individual spending plans are eye-opening: Microsoft expects 2026 capital expenditure of approximately $190 billion, a surge of over 60% year-over-year; Amazon maintains its $200 billion estimate; Alphabet raised its guidance to $180-$190 billion; and Meta increased its full-year capital expenditure forecast to $125-$145 billion. Quarterly earnings reports also showed Amazon's Q1 capital expenditure reached $44.2 billion, while Microsoft's capital expenditure and financing lease spending hit $31.9 billion, a 49% year-over-year increase.
In what was likely his final press conference, Fed Chair Powell stated on Wednesday that the U.S. economy is "quite resilient," partly because the demand for data centers across the country "seems insatiable." However, this demand faces significant headwinds: the Iran conflict has caused oil prices to jump roughly 50%, an impact felt across all segments from transportation to the manufacturing of data center components. Whether AI investments can deliver commercial returns in a stagflationary environment is becoming a central question for capital markets in 2026.
Federal Reserve officials held interest rates steady this week, but showed increasing divergence regarding the policy outlook due to heightened uncertainty from the Iran conflict. The voting results were particularly notable: 8 votes in favor and 4 against, marking the highest number of dissenting votes since October 1992. The four dissenting members held differing views: Fed Governor Stephen Milan advocated for a 25-basis-point rate cut, while three others, including Cleveland Fed President Hammack, supported holding rates steady but objected to the inclusion of language suggesting a dovish tilt in the policy statement. This indicates deep and seemingly irreconcilable disagreements over the policy path, spanning from dovish to hawkish perspectives.
Regarding market expectations, the chief U.S. economist at J.P. Morgan noted that while the energy shock poses a downside risk to the economy, inflationary pressures are more prominent. He expects the Fed to hold rates steady throughout 2026, with the next likely move being a rate hike, projected for the third quarter of 2027. Morgan Stanley announced it was abandoning its previous forecast for Fed rate cuts in 2026, now expecting the easing cycle to begin next year. The pace of economic growth may support financial market expectations that the Fed will keep rates on hold; rates could potentially remain unchanged until 2027 as long as the labor market does not deteriorate. Even U.S. interest rate futures data showed a slight increase in the market-implied probability of a rate hike by the end of 2026 following the release of the U.S. economic data.
Comments