U.S. consumption growth has slowed, but is expected to recover mildly in the second half

Overview

This report analyzes why U.S. consumption growth has slowed since early 2026. The core view is that weak real consumption mainly stems from high inflation eroding purchasing power, tariff and oil-price pressures pushing down real income, and broad deceleration in service consumption. At the same time, tax rebates have provided temporary support to goods and durable-goods consumption, making the consumption mix different from prior expectations.

Core views

The report argues that U.S. consumption has not fully stalled, but is under temporary pressure from falling real income and seasonal inflation noise. H1 real consumption growth was about 1.2% annualized, clearly below 2.1% last year; service consumption eased from 2.4% in 2025 to about 1.1%, while goods consumption instead accelerated, supported by durable goods. Morgan Stanley expects that as second-half inflation cools and real income turns positive, consumption growth will recover mildly and first be led by services, with full-year consumption growth around 1.7%; in 2027, supported by further inflation decline and productivity gains, the recovery is expected to spread to more income groups and product categories.

Analysis framework

The report combines personal income and spending data, Q1 GDP revisions, BEA service-consumption data, AlphaWise Consumer Pulse rebate-use survey, changes in auto ABS delinquency, income-bracket consumption structure, and inflation and oil-price models to decompose the sources and future path of the consumption slowdown.

Methodology notes

• Macroeconomic consumption analysisReal-income-led consumption framework

  Relationship between real disposable income and consumption spending

  The report treats real income growth as the core driver of consumption spending, arguing that high inflation, tariffs, and oil-price shocks weakened real income, thereby explaining the consumption slowdown.

• Seasonal adjustment analysisResidual seasonal inflation effect

  Residual seasonality raises Q1 inflation and suppresses real consumption

  The report argues that BEA inflation seasonality after the pandemic may not have fully removed seasonality, causing Q1 measured inflation to be too high and mechanically lowering real income and real consumption.

• Consumer behavior analysisTax rebate spending propensity analysis

  Immediate consumption share of tax rebates

  By comparing historical patterns, the AlphaWise survey, and auto ABS delinquency, the report infers that a higher share of tax rebates may be spent quickly on goods and durable goods this year.

• Income stratification analysisK-shaped consumption structure

  Higher-income groups dominate certain consumption categories

  Using income-quantile analysis of consumption shares, the report notes that the categories now accelerating, including durables and some big-ticket items, are more heavily led by higher-income groups, while lower- and middle-income households remain under pressure from weak real income.

Asset mapping & comparison

Structured mapping from thesis to named assets (strengths, weaknesses, peers, risks).

• United States macroeconomy

  Consumption is a core growth variable, and the report directly evaluates the slowdown and reacceleration path of consumption.

  Strengths

  Employment growth remains strong, inflation expectations have declined, and real income is expected to recover in the second half.

  Weaknesses

  Real income was weak in H1, service consumption slowed broadly, and lingering high-price effects remain.

  Comparison

  Consumption growth is expected to remain below 2025 in 2026 but may move closer to 2025’s pace in 2027.

  Risks

  Inflation stays elevated, monetary policy is forced to tighten, and service-consumption data is revised down.

• United States service consumption

  Service consumption was the main source of slowdown this year and the key focus for expected recovery in the second half.

  Strengths

  Employment data and historical revision experience suggest part of service consumption may be revised up; unwind of residual seasonality could be supportive for services.

  Weaknesses

  Q1 service deceleration covered multiple categories including healthcare, dining, financial services, professional services, and travel.

  Comparison

  Service consumption slowed from 2.4% in 2025 to about 1.1% by May.

  Risks

  If QSS data leads to further downward revision of service spending, the underlying trend would be weaker than the report assumes.

• United States durable goods consumption

  Durables are the main contributor to goods consumption being stronger than expected.

  Strengths

  Big-ticket categories such as vehicles, furniture, and appliances are supported by tax rebates and previously repressed demand.

  Weaknesses

  Rebate support may be front-loaded, and lagged oil-price effects on goods spending may surface in Q3.

  Comparison

  Durable goods were up 2.3% annualized as of May, far above last year's 0.1% 4Q/4Q growth.

  Risks

  Rebate effects fading, oil-price and rate pressure, and insufficient demand from lower- and middle-income households.

• United States consumer credit and auto ABS

  Auto ABS delinquency is used to judge whether rebates are flowing more to consumption than debt repayment.

  Strengths

  Credit card performance in banks improved more clearly, showing some resilience in consumer balance sheets.

  Weaknesses

  Improvements in prime and subprime auto ABS delinquency are both weaker than implied by historical relationships.

  Comparison

  Prime auto ABS delinquency declined 15% versus 19% expected, and subprime declined 17% versus 21% expected.

  Risks

  If lower- and middle-income cash flow remains under pressure, credit quality may deteriorate again.

• High-income consumption-related categories

  Several categories that accelerated this year have a higher share from higher-income households.

  Strengths

  Higher-income households have relatively high shares in durable goods, vehicles, furniture, home appliances, and recreational vehicles.

  Weaknesses

  Some high-income-dominated service categories also slowed markedly in Q1, possibly affected by weak stock performance.

  Comparison

  The top 20% income group accounts for about 40% of total consumption but about 55% of durable goods consumption.

  Risks

  Weaker wealth effects, stock market volatility, and persistent K-shaped consumption.

Key data

• Real consumption growth in H1 20261.2% annualizedLower than the 2.1% growth rate in 2025.
• Real consumption growth in Q1 20260.5%The report describes Q1 as very weak.
• Real consumption growth track in Q2 20261.9% q/q saarA pickup versus Q1.
• Goods consumption growth1.7%As of May, real goods spending was above 1.4% last year.
• Service consumption growth1.1%As of May, below 2.4% last year.
• Durable goods consumption growth2.3% annualizedAs of May, substantially higher than 0.1% 4Q/4Q last year.
• Real disposable income-0.6% annualizedTracked value in H1 2026.
• Real labor income-1.0%Tracked value in H1 2026, weaker than overall real disposable income.
• Savings ratefrom 3.6% down to 3.0%From end-2025 to end-May 2026, indicating consumers drew down savings to smooth price shocks.
• Residual seasonal effectabout 60-80 bpsThe report estimates it may shave about 60-80 bps from Q1 real consumption growth.
• Tax rebatesup 19% YoY, about $57bnRebate size is roughly in line with expectations, but the share spent quickly may be above expectations.
• Assumed share of rebates consumed within three monthsabout 50% vs 35% prior assumptionIf about 50% of rebates are spent quickly and mostly on goods, this could explain stronger-than-forecast Q2 goods spending.
• Q3 and Q4 consumption growth forecastabout 2.0%About 0.5 percentage points stronger than H1.
• Full-year 2026 consumption growth forecastabout 1.7% 4Q/4QStill below 2.1% in 2025.
• PCE inflation forecastheadline 3.3%, core 3.0% 4Q/4QThe report expects inflation to subsequently decline toward the Fed's 2.0% goal.
• Projected H2 real income growth2.2% annualizedExpected recovery in real income driven by easing inflation.
• Top 20% income group share of consumptionabout 40% of total consumption, 55% durables, 30% nondurablesHigher-income households have a larger share in durables and some big-ticket consumption.

Impact & implications

For macro and asset allocation, the report points to U.S. consumption gradually repairing from first-half price shocks and abnormally weak service consumption, but with the strength of the recovery constrained by lingering high-price effects. If inflation declines as expected and the Fed remains on standby, improving real income should support a rebound in service consumption in H2 2026 and spread through more consumer categories and income groups in 2027; conversely, if sticky inflation forces higher rates and tighter financial conditions, affordability issues for lower- and middle-income households will continue to weigh on growth.

Risks

• Inflation does not decline as expected, continuing to suppress real income and affordability.
• If disinflation requires higher rates or tighter financial conditions, consumption would be further weighed down.
• If BEA service-consumption data is revised down, the underlying consumption trend is weaker than the current assumption.
• The lagged impact of oil shocks on goods consumption may emerge in Q3.
• Rebate support for goods spending may be front-loaded, with subsequent pullback risk.
• Lower- and middle-income consumers remain under pressure from falling real income, Medicaid and SNAP benefit reductions, so the recovery may be slower than expected.

What to watch

• After August QSS data are incorporated, whether April and May service consumption are revised up or down.
• Whether headline and core PCE inflation in the second half declines as the report expects.
• Whether real disposable income and real labor income recover to positive growth.
• Lagged effects of gasoline and Brent oil price paths on goods consumption.
• Changes in consumer credit quality, including auto ABS and credit cards.
• Whether high-income service consumption recovers in Q2 and the second half.
• Whether wage growth improvement for lower-income groups can offset benefit cuts and high-price pressure.
• Whether the Fed stays on hold, or tightens policy due to sticky inflation.