The economy is shockingly strong by one measure. This year could be even better.

By Jeffry Bartash

New tax breaks, AI spending could boost GDP

A bustling U.S. economy absorbed twin shocks of high tariffs and lingering inflation in 2025. The new year could also show strong growth.

Stubborn inflation, high tariffs and plunging job creation didn't do much to slow the economy in 2025. Now the stage is set for even stronger growth.

How come? The economy is likely to get a boost this year from a flurry of new tailwinds. Chief among them: lower taxes, less regulation, higher government spending, more investment in artificial intelligence, and the fading effects of tariffs.

"The big picture suggests that the economy continues to hum along," said economist Ali Jaffery of CIBC Economics.

Tariff postmortem

It wasn't all that long ago that the outlook for the economy was more grim.

After a surprise decline in gross domestic product in the first quarter of 2025, President Donald Trump shocked the world by jacking up U.S. tariffs and launching the biggest global trade war in decades.

Critics widely predicted inflation would surge, consumers and businesses would get slammed and the economy would suffer a big slowdown.

It never happened.

GDP actually surged by 3.8% in the spring and by an even sharper 4.3% in the summer. Now it looks like the economy may have also finished 2025 with a flourish.

Economic reports trickling in after delays tied to the government shutdown suggest GDP could increase at a frothy 3% to 5% pace in the fourth quarter. GDP is the official scorecard for the economy.

In a bit of irony, higher U.S. tariffs actually contributed to strong growth last spring and summer. Households and businesses rushed to buy goods and supplies before price increases kicked in, exaggerating some of the increase in spending.

The tariffs also didn't turn out to be as high as feared. The Trump administration relaxed, lowered or postponed duties on many goods before they really began to bite.

Yet the economy has also shown surprising strength in two key areas - consumer spending and business investment - that continue to underpin the five-year-old expansion and could breathe fresh life into it.

Start with consumer spending, the primary engine of economic growth. Although outlays slowed from the last year of President Joe Biden's term, they still grew an above-average 2.2% in the first nine months of 2025 after adjusting for inflation.

An even bigger surprise was a surge in business investment in equipment and software tied to artificial intelligence. Companies poured hundreds of billions of dollars into new technologies last year, and they show no sign of letting up.

"We're in the early stages of a once-in-a-generation technological shift," said Gad Levanon, chief economist at the Burning Glass Institute, a labor-research firm.

Old gives way to new

The final piece of the 2025 scorecard, fourth-quarter GDP, is also expected to show above-average growth - but with at least one big caveat.

For one thing, the U.S. trade deficit sank to a 16-year low largely due to the timing of tariff-related imports. A much smaller deficit could add a whopping 2 percentage points to GDP.

"The biggest contribution to growth is coming from an unexpected collapse in the trade deficit," said chief economist Chris Low of FHN Financial.

Still, the early evidence also indicates consumer spending was stronger than expected during the holiday shopping season.

"People love to shop. It's the national pastime," said Sarah Henry, portfolio manager at Logan Capital Management.

Business investment was probably fairly robust, too, economists say.

A strong fourth quarter would give the economy momentum as the new year gets underway. Yet it will only maintain its momentum due a bunch of emerging tailwinds.

New tax breaks

The biggest tailwind might be the fading effects of tariffs, which caused a big shock to the economy last year. Trump has also rolled back or eliminated some tariffs that were especially unpopular.

This is an election year, so the federal government, for its part, is set to increase spending, a time-honored tradition by both parties. The White House wants to spend significantly more on defense.

A slew of new tax breaks, meanwhile, are about to kick in and give badly needed financial help to middle- and lower-income Americans.

Much of the increase in consumer spending in 2025 was spearheaded by richer families enjoying massive increases in wealth tied to the bull market in stocks.

"Lower-income consumers are having a really tough time," Henry of Logan Capital Management said.

These new goodies include no tax on tips, no tax on overtime, more generous income-tax refunds, higher childcare tax credits and deductions on interest payments for new car loans.

"As we move deeper into 2026, consumers will increasingly reap the benefits from fiscal stimulus measures," said Richard de Chazal, a macroeconomic analyst at William Blair.

If the bullish case for the economy is right, businesses could also start to add more workers after a hiring slump in the second half of 2025. That would goose U.S. growth even further.

Last but not least is the ongoing revolution in technology as companies race to adopt AI, deploy robotics and take advantage of other technologies to boost productivity and increase profit margins.

Levanon of the Burning Glass Institute even contends that AI - not Trump or tariffs or anything else - is the big story of the economy. And it will be the big story of the next few years, driving stronger growth than most forecasters believe.

"Strong growth isn't the upside case," he said. "It's the new baseline."

-Jeffry Bartash

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01-16-26 1026ET