U.S. economy expanded at sluggish 0.7% in fourth quarter, government says, downgrading first estimate

A person shops at a grocery store in Schaumburg, Ill., Monday. (AP Photo/Nam Y. Huh, File)

WASHINGTON — WASHINGTON (AP) — The highly resilient U.S. economy was already showing signs of strain even before the launch of the Iran war, data released Friday showed, underscoring the risks that rising gasoline and energy prices may pose.

The economy barely grew in the final three months of last year, the Commerce Department said, as it cut its estimate of fourth-quarter growth in half. Consumer spending, after adjusting for inflation, was anemic in January, as inflation remained sticky-high. Hiring has also ground largely to a standstill. And Americans’ outlook for the economy tumbled after the U.S. and Israel attacked Iran, according to a survey of consumer sentiment also released Friday.

Gasoline prices have raced closer to $4 per gallon during the war, squeezing many household budgets that are already under pressure. Many Americans will receive larger-than-usual tax refunds in March and April because of the passage of President Donald Trump’s tax cut law last year, but higher gas costs, if they persist, could soak up much or even all of those gains.

What’s more, the Dow Jones has now fallen for three weeks straight, possibly impacting the wealthier U.S. households that have helped prop up overall consumer spending as lower-income families pull back.

“Underlying inflation pressures were already rising ahead of the war in the Middle East and are set to intensify,” Diane Swonk, chief economist at KPMG, said. Some Federal Reserve officials could even push for a hike in interest rates at its meeting next week, she added, though the central bank will probably stand pat.

Mortgage rates have been rising since the conflict began, likely because investors expect inflation will remain high. That could further weigh on the U.S. housing market, which has been in a slump dating back to 2022, when mortgage rates began to climb from pandemic-era lows.

Last fall’s 43-day government shutdown also hobbled growth at the end of last year. The economy advanced at an unexpectedly sluggish 0.7% annual rate from October through December, the Commerce Department reported Friday in a big downgrade from its initial estimate of 1.4%.

Growth in gross domestic product — the nation’s output of goods and services — was down sharply from 4.4% in last year’s third quarter and 3.8% in the second.

Federal government spending and investment, clobbered by the shutdown, plunged at a 16.7% rate, hacking 1.16 percentage points off fourth-quarter growth.

“Following two consecutive strong readings for the second and third quarters, the economy was expected to soften heading into year-end. It’s now increasingly clear that the economy not only slowed but stumbled into the finish line,” Jim Baird, chief investment officer at Plante Moran Financial Advisors, said in a commentary. “The government shutdown was certainly a major factor in the loss of momentum, but a sharp decline in consumption growth also played a role.″

Separately, consumer spending grew modestly in January, rising 0.4%, but just 0.1% after adjusting for inflation. Incomes, after adjusting for taxes and transfers, jumped 0.9% as tax withholding fell because of 2025 tax changes. Yet wage growth has been cooling compared with a year ago.

New data shows that Americans have saved less in the past few months and lower-income families in particular have run up more debts. Weak hiring — the economy barely added jobs last year — has also weighed on consumer confidence.

Overall sentiment only declined slightly in March, according to the University of Michigan’s consumer sentiment, but the survey was only half completed when the attack was launched on Iran. Those responding after Feb. 28, the start of the war, were much gloomier.

“Interviews completed prior to the military action in Iran showed an improvement in sentiment from last month, but lower readings seen during the nine days thereafter completely erased those initial gains,” Joanne Hsu, director of the sentiment survey, said.

Separately, a measure of inflation closely watched by the Federal Reserve rose 2.8% in January from a year earlier. Yet that figure could top 3.5% in the coming months, economists have said, as gas prices have jumped to $3.63 a gallon on average nationwide, up from $2.94 a month ago, according to AAA.

For all of last year, the economy grew 2.1%, solid but down from 2.8% in 2024 and 2.9% in the year before that.

In the fourth quarter, consumer spending grew at a 2% clip, down from 3.5% in the third quarter and the 2.4% the government had initially estimated. Business investment, excluding housing, increased at a solid 2.2% pace, likely reflecting money being poured into artificial intelligence, but the increase was down from 3.2% in the third quarter.

A category within the GDP data that measures the economy’s underlying strength came in weaker than previously reported, growing at a 1.9% clip, down from 2.9% in the third quarter. This category includes consumer spending and private investment, but excludes volatile items like exports, inventories and government spending.

Meanwhile, the American job market is in a slump. Last month, companies, nonprofits and government agencies cut 92,000 jobs. In 2025, they added fewer than 10,000 jobs a month, the weakest hiring outside recession years since 2002.

A report Friday showed that companies posted nearly 7 million open jobs in January, a welcome increase from 6.6 million in December. Yet overall hiring was essentially unchanged, suggesting companies are reluctant to fill open positions, perhaps because of uncertainty around the impact of artificial intelligence.

Such reluctance may intensify if the war drags on and weighs on consumer confidence and spending.

Friday’s GDP was the second of the three estimates of fourth-quarter growth. The final report is due April 9.

Paul Wiseman And Christopher Rugaber, The Associated Press