Consumer Sentiment Rises 1.8% in July as Inflation Fears Ease

U.S. consumer sentiment saw a notable improvement in early July, reaching its highest level in five months. According to data released by the University of Michigan, the preliminary sentiment index climbed to 61.8, up from 60.7 in June. This increase, though modest, marks the highest reading since February, indicating a slight easing of concerns about inflation and economic conditions.

The improvement in consumer sentiment was primarily driven by a decrease in short-term inflation expectations. Americans now anticipate prices to rise at a rate of 4.4% over the next year, down from 5% in the previous month. This is the lowest short-term inflation expectation since February. Long-term inflation expectations also decreased, with consumers expecting prices to rise by an average of 3.6% over the next five to ten years, the lowest long-term outlook in five months.

Despite the positive trend, there are still underlying concerns. Joanne Hsu, who leads the survey team at the University of Michigan, noted that consumers' expectations regarding business conditions, labor markets, and personal incomes remain weaker than a year ago. However, the recent two-month increase in sentiment suggests that consumers believe the risk of the worst-case scenarios they anticipated earlier in the year has eased.

This slight increase in optimism appears to be connected to the rally in the stock market, which may have contributed to a sense of financial stability among consumers. The current conditions index rose to 66.8 from 64.8, and the expectations index increased to 58.6. These gains, while not substantial, indicate that consumers are feeling more positive about both their present and future economic situations.

The survey also revealed political patterns in consumer sentiment. The boost in sentiment was primarily driven by Republicans and political independents, while Democrats remained largely unchanged. The final responses were collected by July 14, more than a week after the signing of a budget law that extended tax cuts and introduced new breaks for tipped workers. This law may have played a role in the rise in sentiment, though any future announcements about tariff hikes or rising inflation could push sentiment back down.

While consumer sentiment is improving, spending activity provides a clearer picture of economic health. June retail sales increased by 0.6%, surpassing the 0.2% gain most economists expected. This stronger-than-expected retail performance helped offset earlier slowdowns, particularly in auto sales, which had been dragging down numbers in previous months. The robust retail figures sparked a rally in stocks, as they were seen as a sign that consumers are not folding under economic pressure.

Additional spending data also points to a resilient consumer sector. Online spending during Amazon Prime Day and recent travel activity looked solid. Airport traffic, which had lagged behind 2024 levels for most of May and June, rebounded in July. In the first two weeks of the month, airport traffic was up 0.9% year over year, indicating a positive trend in consumer activity.

However, there are still significant challenges ahead. Economists are closely monitoring tariffs, with some import duties scheduled to take effect on August 1. If these tariffs go through, they could reshape the retail environment and trigger new recession warnings from analysts who have already seen the consumer sector stretched thin. The Jefferies equities research team cautioned that the sector might be headed into an "air pocket" as tariff-related inflation filters down to everyday prices, potentially impacting consumer spending and sentiment in the coming months.