2026 U.S. economic outlook: A tale of two halves

2026 is likely to be a year of contrasts for the U.S. economy. In the first half, growth is expected to remain robust, with the gross domestic product (GDP) expanding above the post-pandemic average. This strength will be front-loaded given the personal income tax refunds, which could boost consumer demand and rekindle some inflationary pressures early in the year. However, as fiscal support fades and job growth slows, GDP growth is projected to moderate to 1.0–1.5% in the second half.

2026 U.S. growth anchors: Corporates and consumers

Despite the anticipated slowdown, business fixed investment is expected to remain a key driver of growth—an unusual dynamic during periods of decelerating economic momentum. Sustained demand for artificial intelligence (AI)-related technology is fueling both higher imports and increased capital spending, particularly among core AI businesses. This structural trend, combined with investment tax incentives, could extend the momentum into 2026, in line with guidance from major tech firms. The impact of personal income tax refunds, while temporary, may help sustain economic growth and keep inflation above trend through the middle of 2026. Households will likely face higher consumer prices due to tariffs, but the refund surge could lift sentiment, which remains subdued compared to 2023 (Exhibit 1). This reflects ongoing weakness in the labor market, as seen in recent months’ disappointing non-farm payroll figures.

Inflationary pressures to creep up

So far, U.S. consumers have been relatively shielded from the effects of tariffs, as businesses have fine-tuned their responses. This is partly due to the gradual implementation of tariffs by the Trump administration and a shift in imports from higher-tariffed economies to those with lower tariffs. However, this adjustment could dampen labor demand due to profit margin compression, reinforcing weak consumer sentiment. Over time, firms are expected to pass on more of the tariff costs to consumers, leading to higher prices, though not a full pass-through due to the risk of demand destruction in the first half of the year. Assuming no additional fiscal stimulus, energy shocks or supply chain disruptions in the second half of 2026, headline consumer price index (CPI) inflation is projected to rise to 3.5% year-over-year by mid-year, before easing to 2% by year-end. Tariffs should be viewed as a one-time tax, causing a one-off shift in the general price level. The Fed’s main concern is whether this will lead to higher inflation expectations. While headline inflation may drift further from the Fed’s target as pass-through intensifies, we believe that rising downside risks to employment will be the primary catalyst for further rate cuts.

Labor market and the Fed 

The labor market faces challenges on both the demand and supply sides. Demand is softening, as evidenced by slower hiring and weaker payrolls. Meanwhile, labor supply is expected to decline due to falling participation rates and tighter immigration policies. These factors mask underlying weaknesses, even if the unemployment rate does not spike.

Regarding monetary policy, the Fed’s dual mandate—maximum employment and price stability—remains in tension. Policy decisions will be data-dependent, especially with respect to labor market conditions. Unless there is an unexpected rebound in employment this quarter, the Fed is likely to deliver a 25 basis point rate cut in December, with two additional cuts by mid-2026, bringing the federal funds rate to the 3.00–3.25% range. If the economy proves more resilient, the path to the Fed’s “neutral” rate of 3.00% could be slower than markets currently anticipate (Exhibit 2). Conversely, new leadership at the central bank could signal a more dovish stance, even as the committee remains divided.

Mindful of (upside and downside) risks

While growth is expected to moderate but remain somewhat constructive, investors should be mindful of several risks.

• Heightened expectations for AI-driven growth could be disappointed if earnings miss or supply chain disruptions occur, leading to a pullback in capital spending.
• There is a risk that the additional savings from the fiscal refunds windfall for U.S. consumers will be saved given weak sentiment levels, limiting the potential growth tailwinds. 
• Policy risks related to tariffs remain. The outcome of the Supreme Court’s upcoming ruling on the legality of economy-specific reciprocal tariffs imposed by the Trump administration could have significant implications. If the court finds the U.S. president lacked authority, tariffs may shift to a sector-specific basis, potentially extending uncertainties.
• Ahead of the 2026 mid-term elections, Congress could enact another round of fiscal stimulus if economic momentum falters in the northern summer, supporting growth in the second half. While risks to growth appear balanced for now, recent years have shown that uncertainty remains a constant.

In summary, 2026 is set to be a year of transition for the U.S. economy. Strong growth in the first half will give way to moderation as fiscal support wanes and labor market challenges persist. Business investment, particularly in AI, will remain a bright spot, but risks from tariffs, policy shifts and potential supply disruptions warrant close attention. The Fed is expected to respond to evolving conditions with further rate cuts, but the pace and extent will depend on incoming data and broader economic resilience. Investors should remain vigilant, as the scope for surprises—both positive and negative—remains considerable.

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