By Lucia Mutikani
February 28, 2025 – 7:30 AM PST
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WASHINGTON (Reuters) – U.S. consumer spending unexpectedly fell in January while the annual increase in inflation slowed, supporting financial market expectations that the Federal Reserve would resume cutting interest rates in June.
But the moderation in annual inflation, which partly reflected last year’s high readings dropping out of the calculation, is unlikely to be sustained as President Donald Trump’s administration ratchets up tariffs on imports, which economists warned would raise prices. Consumers’ one-year inflation expectations soared in February.
“The good news is consumer inflation broke the curse of the January effect,” said Christopher Rupkey, chief economist at FWDBONDS. “The bad news is consumers are scrambling to process the winds of change coming out of Washington and have apparently decided to sit it out and wait.”
Consumer spending, which accounts for more than two-thirds of U.S. economic activity, dropped 0.2% last month after an upwardly revised 0.8% increase in December, the Commerce Department’s Bureau of Economic Analysis said on Friday.
Economists polled by Reuters had forecast consumer spending gaining 0.1% after a previously reported 0.7% surge in December, when outlays were boosted by pre-emptive buying in anticipation of tariffs. When adjusted for inflation, consumer spending fell 0.5%, the biggest decline since February 2021.
Some of the weakness in consumer spending last month likely reflected the fading lift from front-running as well as a drag from unseasonably cold temperatures and snowstorms that engulfed large parts of the country. Wildfires, which scorched areas of Los Angeles, also probably hurt spending.
There was also weakness in spending at restaurants and bars, suggesting that consumers were tightening their purse strings.
Winter storms disrupted homebuilding last month and helped to curb job growth. The data are consistent with expectations for a slowdown in economic growth in the first quarter, which was reinforced by other data on Friday showing the goods trade deficit surged to a record high last month as businesses front-loaded imports to avoid duties.
Following the soft consumer spending data and deterioration in the goods trade deficit, economists are likely to slash their gross domestic product growth forecasts for the first quarter, which are currently below a 2.0% annualized rate. The economy grew at a 2.3% rate in the fourth quarter.
In addition to the weather, economic activity is also seen hampered by the Trump administration’s policies, including sharp spending cuts, which have so far led to the firing of tens of thousands of federal government workers and contractors.
Trump in his first month in office has issued a cascade of tariff orders, imposing an additional 10% levy on goods from China. On Thursday, Trump said a 25% tariff on Mexican and Canadian goods will take effect on March 4, after being delayed for a month, along with an extra 10% duty on Chinese imports.
Other duties aimed at imported steel, aluminum and motor vehicles will either soon go into effect or are in fast-track development. Business and consumer confidence have deteriorated on concerns over tariffs.
PRICES STILL ELEVATED
The Personal Consumption Expenditures (PCE) price index increased 0.3% in January, matching December’s unrevised gain. The rise was in line with economists’ expectations. In the 12 months through January, the PCE price index rose 2.5% after increasing 2.6% in December.
Stripping out the volatile food and energy components, the PCE price index gained 0.3% last month after an unrevised 0.2% rise in December. In the 12 months through January, core prices increased 2.6% after climbing 2.9% in December.
The Fed tracks the PCE price measures for its 2% inflation target. Financial markets expect the Fed will resume cutting rates in June. Stocks on Wall Street opened mixed. The dollar was little changed against a basket of currencies. U.S. Treasury yields were lower.
The U.S. central bank paused rate cuts in January, leaving its benchmark overnight interest rate in the 4.25%-4.50% range, having reduced it by 100 basis points since September, when it started its easing cycle.
Minutes of the U.S. central bank’s January 28-29 policy meeting published last week showed policymakers were worried about higher inflation from Trump’s initial policy proposals. The policy rate was hiked by 5.25 percentage points in 2022 and 2023 to quell inflation.
A separate report from the Commerce Department’s Census Bureau showed the goods trade deficit surged 25.6% to $153.3 billion last month, an all-time high and potentially putting trade on course to be a drag on GDP this quarter.
Goods imports vaulted 11.9% to $325.4 billion. Export of goods rose 2.0% to $172.2 billion last month. Trade contributed to growth last quarter.
Reporting by Lucia Mutikani; Editing by Chizu Nomiyama and Andrea Ricci
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