Bringing Back Stagflation, Lower Growth, and Higher Prices

When Donald Trump campaigned on making America great again, not many of us realized he was talking about the 1970s. That was a decade of unprecedented inflation and a sharp slowdown in growth after a quarter-century boom following World War II.

We’re just two quarters into the Trump administration, but the picture we have seen to date is not good. In the first quarter of this year the economy actually shrank at a 0.5 percent annual rate. A decline in GDP is unusual, but many of us downplayed the drop since there were unusual quirks in the data responsible for the decline.

Specifically, there was a massive surge in imports as businesses and households rushed to buy things in anticipation of Trump’s tariffs. Imports were a major drag on growth in the quarter. But we saw the reversal in the second quarter, with imports falling back to a more normal level. That was by far the most important factor behind the 3 percent growth reported for the second quarter.

While the Trump administration touted the big comeback from a 0.5 percent first-quarter decline to growth of 3 percent, those not on the administration’s payroll pointed out that it is necessary to talk the two quarters together. And that picture is not pretty.

Growth in the first half of 2025 averaged 1.2 percent. That’s down from a 2.8 percent growth rate in Biden’s last year. When Trump talks of turning the economy around he speaks the truth, he just gets the direction of change wrong.

Looking at the economy by category doesn’t improve the story. Consumption, which accounts for almost 70 percent of the economy, grew at just a 0.9 percent annual rate in the first half, down from 3.4 percent in 2024.

Growth in the items that are most discretionary was especially slow. Spending on air travel fell at an 8.5 percent rate in the first half of the year. Restaurant spending rose at a modest 1.6 percent rate in first half, but spending in fast-food restaurants, reflecting the situation of more moderate-income households, fell at a 0.1 percent rate.

Investment spending is not picking up the gap. While the AI boom is leading to some spending, it is barely offsetting the decline in construction. Spending on both factory and hotels construction is sharply lower in 2025.

The drop in factory construction is especially notable since Trump has placed the revitalizing of manufacturing at the center of his agenda. Biden’s semiconductor bill and Inflation Reduction Act led to an unprecedented boom in factory construction, with the 2024 inflation-adjusted level more than twice the 2019 level. Construction is now headed in the opposite direction.

Trump has hopes of reducing the trade deficit, but we are not seeing any visible progress to date. Exports have actually fallen slightly as a share of the economy in the first half of 2025. One of our major exports, tourism by foreigners, is falling through the floor. Real spending by foreigners traveling in the United States fell at a 15 percent rate in first half of the year.

The picture on employment and wages doesn’t look much better. Job growth averaged 133,000 jobs a month through June, down from 168,000 in 2024. At 4.1 percent, the unemployment rate is still at a historically low level, but there are some worrying signs. Notably, the unemployment rate for young people and Black workers, two very vulnerable groups, has risen sharply. The latter was 6.8 percent in June, two full percentage points above its all-time low, hit in May of 2023.

Wage growth also appears to be slowing. After increasing at a 4 percent annual rate in 2023 and 2024, the average hourly wage increased at just a 3.2 percent annual rate, comparing the last three months (April–June) with the prior three months (January–March).

Going along with slower wage growth, we are also seeing an uptick in inflation. The consumption expenditure deflator that the Fed focuses on in assessing inflation increased at a 3 percent annual rate in the first half of the year. This was far higher than anyone at the Fed had expected last fall. As more tariffs hit in the second half of 2025, inflation is almost certain to rise further.

We are looking at a pattern of slowing wage growth and rising prices, which means stagnant or falling real wages. That will further depress consumption growth, slowing GDP and job growth.

We are also seeing a slowdown in productivity growth, which is the key to rising living standards in the long run. Productivity fell at a 1.5 percent rate in the first quarter. We will see modest growth in the second quarter, but the average for the first half will not be much above zero. This compares to a 2.1 percent rate in 2024. Slower productivity growth is another factor contributing to rising inflation.

While the economic prospects for the immediate future are bleak, the longer-term picture is worse. The Trump cutbacks on research spending will have massive implications for the future development of technology in a wide range of areas. His attacks on universities, and especially foreign students, will deprive the country of many smart, hard-working people of the sort who helped propel the economy forward in the last four decades.

And his random tariff rates have alienated all of our trading partners. They are now eagerly looking to make new trade deals with each other, so that they are not dependent on the whims of a US president who changes his policies on a whim. The attack on clean energy is also locking us into antiquated fossil fuel technology that is falling further behind by the day. It’s still early in the Trump administration, so perhaps things will turn around. But we may also end up with an economic picture that will make the 1970s look good.

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