Economic growth for the end of 2025 was revised downward, while consumer prices rose at the beginning of 2026.
Even before the onset of conflict with Iran, the U.S. economy was displaying troubling signs of instability. Prior to the disruption of oil and financial markets by the conflict, economic growth for the fourth quarter of 2025 was revised down to an annualized rate of 0.7%, and inflationary pressures persisted into early 2026.
The Federal Reserve's preferred inflation gauge, the Personal Consumption Expenditures (PCE) price index, showed a 0.3% increase in January 2026 compared to the previous month, and a 2.8% rise compared to the same period last year. Core inflation, which excludes the volatile food and energy categories, increased by 0.4% for the month and was up 3.1% year-over-year, a full percentage point above the Fed's 2% target.
Commenting on the data, Omair Sharif, founder of research firm Inflation Insights, stated, "This essentially indicates that inflation has strengthened again at the start of the year. All key metrics are moving in the wrong direction."
This price data, collected just before the oil price shock triggered by the Iran war, sets a concerning precedent for future inflation trends. After peaking with a year-over-year increase exceeding 9% in 2022, inflation had cooled in 2024 to levels slightly above the Fed's target. However, the inflation situation deteriorated again starting in 2025. Goods inflation, which had been slowing for years, rebounded in several categories following the announcement of new tariffs by President Trump last spring. While some of these tariffs were subsequently ruled invalid by the Supreme Court, others remain in effect, causing businesses to grapple with whether to absorb the increased import costs or pass them on to consumers.
"The economy isn't collapsing," said Claudia Sahm, Chief Economist at New Century Advisors and a former Fed forecaster. "But I do believe consumer spending, which has been a source of economic resilience, is not as robust as it has been in recent years."
Analysts from the research group Employ America, which tracks employment and price data, identified tariffs as a "clear culprit" for some of the excess inflation, particularly in apparel and furniture. They also noted that supply shortages driven by the artificial intelligence boom are pushing prices higher, citing cost increases for computer components and tech devices that are significantly above recent averages.
Inflation in medical services, a significant component of the economy, continues to elevate overall price levels. The PCE index released showed a slightly higher increase than the more frequently cited Consumer Price Index (CPI). This difference is largely because the CPI assigns a greater weight to shelter inflation, which has moderated as the overall economy has slowed.
Regardless, once the inflationary impact of higher oil prices materializes, both inflation measures are likely to show further increases next month. The U.S. benchmark, West Texas Intermediate crude oil, has risen from around $60 per barrel in February to approximately $90 per barrel. Airfare, gasoline prices, and dining costs are all expected to be affected. Despite numerous factors dampening consumer confidence and financial markets, January's consumption data indicated the economy was still expanding.
The latest data, combined with the new conflict, complicates the decision-making for Federal Reserve policymakers, who are caught between their dual mandates of price stability and maximum employment.
Data from the Bureau of Labor Statistics showed that only 116,000 jobs were added throughout the entirety of 2025, with job cuts occurring in two of the past three months. Meanwhile, inflation has remained above the central bank's 2% target for five consecutive years.
Investors concerned about the purchasing power of the dollar prefer that the Fed hold interest rates steady and avoid cuts, even if an oil shock threatens economic growth. They point to the 1970s as an example: when the Fed chose to cut rates amid overseas geopolitical turmoil that caused an oil crisis, it ultimately led to a prolonged period of "stagflation," combining rising prices with economic stagnation.
The prevailing consensus among central bankers today is that the policy response back then was a mistake; the Fed should have adjusted rates to counter inflationary pressures rather than adding fuel to the fire.
Analysts and traders who closely follow the Fed acknowledge that this balancing act is extremely risky. In the period leading up to the 2008 global financial crisis, energy prices surged dramatically, causing short-term inflation rates to spike significantly above 5% year-over-year.
At the same time, central banks around the world in 2008 were still concerned that cutting rates could further exacerbate inflation and financial market speculation. Oil prices peaked at over $130 per barrel that year before falling to $41 by December as the global economy slid into recession.
"We can learn lessons from history," said former Fed economist Sahm. "I can envision multiple scenarios for the Fed going forward: pausing, cutting, or raising rates are all plausible. They need to be prepared to act decisively once the situation becomes clearer."
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