Economists expect GDP to benefit from numerous tailwinds, including lower interest rates, AI spending, and hefty tax refunds. By Megan Leonhardt
The U.S. economy is expected to grow by 1.8% this year, notwithstanding policy shifts that have flummoxed economists and business leaders. Next year could look much the same, with growth in gross domestic product ticking up by 1.9%, adjusted for inflation. But things may feel better due to less policy uncertainty and more stimulus in the form of tax breaks and deregulation.
Consumer spending accounts for roughly 70% of U.S. GDP, and the wealth effect created by rising asset prices helped support consumption for much of 2025, particularly among higher-income households. That's despite weak job growth and confusion about the size and impact of tariffs on imported goods. Most investment firms expect stocks to keep rising in 2026, which could spur more consumption. Some current estimates put the S&P 500 index above 8000 by the end of next year, implying a gain of about 15%.
Spending even by low- and middle-income households will also get a boost in the year's first half from larger-than-normal income-tax refunds. The One Big Beautiful Bill Act, signed into law in July, included several provisions that could lead to bigger refunds, including deductions of overtime and tip payments from taxable income for qualified employees. Additionally, Americans will be able to deduct interest paid on loans used to purchase a qualified vehicle, and many seniors ages 65 or older may claim an additional $6,000 deduction.
UBS chief economist Jonathan Pingle estimates that there will be an additional $50 billion to $55 billion in refund checks to support spending. On average, Piper Sandler estimates that tax refunds are expected to be $1,000 higher than last year.
"We are going to have additional fiscal support," Pingle said, although he noted it may not kick in until the second quarter.
Continued capital investment, particularly for artificial-intelligence infrastructure, is expected to continue throughout 2026 and will also provide a tailwind for economic growth. "The push to build the infrastructure for artificial intelligence, including a more robust energy grid, will be the primary driver of growth for at least another year," said Joseph Brusuelas, chief economist at RSM U.S.
But residential investment, which contracted in this year's first half, will probably do so again in the first part of 2026, as will government spending and investment. "You've got big chunks of the economy that aren't doing that well," Pingle said.
A 1.9% growth rate is marginally below the 2% rate considered healthy for advanced economies. Growth could be restrained next year partly due to persistent weakness in the labor market, particularly in the first half of the year. Michael Feroli, J.P. Morgan's chief U.S. economist, anticipates "uncomfortably slow" employment growth in the next three to six months.
Payrolls averaged just 76,000 gains a month for the first nine months of 2025, but that figure masks deterioration since April's "Liberation Day" tariff announcement. Average monthly payroll growth dropped to just 38,600 thereafter, according to Barron's analysis of Bureau of Labor Statistics data through September. Before the onset of the Covid-19 pandemic, payroll gains averaged 177,000 a month.
Employment growth trends in 2026 won't be much different from this year. Slower net job growth will be driven, in part, by lower labor supply, said David Tinsley, chief economist at Bank of America Institute.
Expect the unemployment rate to peak around 4.6% in the first quarter. Sectors including professional services, technology, and manufacturing could see diminished growth, or even less employment. The Trump administration's restrictive immigration policies are expected to hold down the supply side of the labor market.
But weak labor conditions won't spur a recession, and the job market is likely to strengthen during the year's second half as policy uncertainty eases, corporate profit margins grow, and companies start passing tariff costs on to consumers. Easier financial conditions should also help, following a string of interest-rate cuts since early September.
Despite the Trump administration's push for affordability, look for inflation to remain well above the Federal Reserve's 2% annual target in 2026, with price growth probably peaking at about 3.3%, based on the consumer price index.
U.S.-based companies, particularly retailers, noted in recent earnings calls that they are feeling the effects of higher tariffs, but have delayed passing higher costs on to consumers. But "that isn't an unlimited sort of situation," said Mike Skordeles, head of U.S. economics at Truist.
Tax refunds could be mildly inflationary, as well, particularly in lifting used-car prices, Skordeles said. Some tax relief is aimed at lower-income workers, who tend to be used-car buyers.
While inflation looks to be heading higher next year, much will depend on policy. If the Trump administration proceeds with plans to hand out $2,000 "tariff dividend" checks, for example, inflation growth could accelerate even more across a number of goods categories. Yet the looming midterm elections will probably keep both political parties focused on policies that spur growth and enhance affordability.
With weak labor conditions and persistent inflation on tap, the Fed is likely to lower rates only modestly in 2026. The Fed cut its federal-funds rate target range by three-fourths of a percentage point this year, to a current 3.5% to 3.75%, and signaled on Wednesday just one rate cut for 2026. Most economists expect two more rate cuts by next September, however, which would put the target range at 3.00% to 3.25%, or close to the so-called neutral rate that neither spurs nor restricts economic growth.
The Fed could see significant personnel changes next year, with Chair Jerome Powell's term set to end in May. President Donald Trump is thought to be leaning toward nominating Kevin Hassett, currently director of the National Economic Council, as Powell's replacement. While a new and presumably dovish Fed chair could try to drive more rate cuts, a substantial rate reduction would be difficult to justify, given above-trend inflation and steadier employment conditions expected in the second half of the year.
To be sure, more policy upheaval, a stock market selloff, or unforeseen developments could upend the economy and warrant easier financial conditions in 2026. But by the end of next year, economists believe that the U.S. economy will be on firmer ground, with many drivers of weakness fading and the stage set for more growth in 2027.
Write to Megan Leonhardt at megan.leonhardt@barrons.com
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(END) Dow Jones Newswires
December 12, 2025 21:31 ET (02:31 GMT)
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