The U.S. economy expanded at a slower-than-anticipated pace in the second quarter, while inflation showed signs of easing in June, highlighting the delicate balancing act facing the Federal Reserve after it held interest rates steady this week.
Gross domestic product increased at an annualized rate of 1.5% from April through June, according to data released Thursday by the Commerce Department. That figure fell short of the 1.8% growth expected by economists surveyed by Dow Jones and marked a deceleration from the 2.1% expansion recorded in the first quarter.
Inflation moderates but remains elevated
Separate data revealed that the personal consumption expenditures price index, the Fed's preferred inflation gauge, declined 0.1% month over month in June — the weakest reading since April 2020, following a 0.5% increase in May. However, the annual headline inflation rate held steady at 3.7%, in line with market expectations but still well above the central bank's 2% target.
Core PCE, which strips out volatile food and energy costs and is considered a more reliable measure of underlying inflation, rose 0.1% in June. The annual core rate stood at 3.3%, matching forecasts.
Despite the modest relief, analysts caution that the reprieve may be temporary. Renewed geopolitical tensions in the Middle East have pushed oil prices higher, threatening to reignite inflationary pressures. The energy price shock continues to cloud the inflation outlook globally.
Consumer spending offsets broader weakness
While overall growth slowed, consumer spending remained a key pillar of the economy. Household outlays, which account for more than two-thirds of U.S. economic activity, accelerated to a 3.2% annualized pace in the second quarter, rebounding sharply from a 0.5% gain in the first three months of the year.
Spending held up despite elevated energy costs linked to the ongoing conflict in the Middle East. Economists noted that larger tax refunds this year helped cushion households from higher fuel prices, while wealthier consumers continued to spend as rising asset prices supported their finances. Additional demand came from the recently concluded FIFA World Cup and midterm election campaigns.
The GDP estimate was compiled before the release of June's advance economic indicators, which showed a moderate narrowing in the goods trade deficit and unchanged retail inventories. That data prompted several economists to revise their growth forecasts lower, with some cutting estimates to around 1.5%, in line with Thursday's official reading.
AI investment supports growth
Investment related to artificial intelligence remained another source of economic support, even as concerns over lofty valuations in the technology sector mount. Businesses have continued to expand spending on AI infrastructure, helping sustain domestic investment despite growing investor skepticism about how quickly companies will generate returns from these large capital outlays.
However, economists warned that geopolitical risks remain elevated. The U.S.-led conflict with Iran, now in its sixth month, has kept upward pressure on global energy prices and could weigh on consumer demand and business activity later this year if oil prices stay high. The oil rally has also fueled inflation fears, boosting bond yields.
The labor market has also provided support. Employers added an average of 92,000 jobs per month in 2026, compared with fewer than 10,000 per month during 2025, when higher interest rates and trade policy uncertainty discouraged hiring.
Fed's inflation challenge persists
The latest data follows the Federal Reserve's decision on Wednesday to leave its benchmark interest rate unchanged at 3.50% to 3.75%. The decision was not unanimous, with three policymakers voting in favor of a quarter-percentage-point rate increase, reflecting growing concern that inflation could remain stubbornly high. The Fed faces a tough call as rate hike odds have jumped to 38% amid resurgent inflation risks.
Although monthly inflation readings have shown some moderation, higher energy prices continue to cloud the outlook. The central bank's challenge is compounded by the fact that the AI surge on Wall Street is adding to inflation pressure, complicating the Fed's rate path.
This article is for informational purposes only and does not constitute financial advice.
