Written by Steve Andrews
Geopolitical Tensions and Inflation Pressures
The hostilities have eased somewhat, but the negotiations to end the war with Iran have yet to bear fruit. Meanwhile, the rise in energy prices has begun to seep into other areas of the economy. Following March’s 0.9% surge, the April Consumer Price Index (CPI) jumped 0.6% in April, lifting CPI up 3.8% from a year ago. While energy prices did most of the damage (about 40% of the April increase), prices rose across the board because energy costs impact most consumer products. Gasoline prices rose 5.4% and were up 28.4% from April 2025, while food costs were up 0.5%. Excluding these volatile segments, “Core” CPI rose 0.4% from March and 2.8% from a year ago. Both the core and headline CPI data argue that the trend in disinflation has been disrupted.
More evidence of that came from a separate report on Producer Prices (PPI) for goods and services used in the production process, which jumped 1.4% in April from March and 6.0% from April 2025 - the largest annual increase in over 4 years. Here, too, energy was the main culprit - up 7.8% from March. Food prices rose 0.2% and were up 2.2% year-over-year, while “Core” PPI rose 1.0% last month, lifting it 5.2% above a year ago. Services were responsible for nearly 60% of the April increase, rising 1.2% - boosted by an 8.1% surge in trucking costs. Apart from transportation, services prices were up just 0.1% while goods prices rose 2.0%.
The Fed has, until now, dismissed occasional upticks in headline inflation data because the “core” data was more subdued, but when the core data moves up in sync with the headlines, it makes rising inflation harder to ignore and adds another reason why the odds for a Fed rate cut continue to diminish, while the odds for a rate hike are increasing.
Resilient Growth and Labor Market Strength
Despite the growing pain from energy costs, the resilient US economy continues to shrug it off. At mid-month, stocks have set several new record highs, boosted by strong Q1 corporate earnings results and persistently strong economic data. The first estimate of Real (inflation adjusted) Q1 GDP showed that the economy grew 2.0% last quarter, led by a 10.4% (annualized) increase in business investment, and consumer spending which rose at a 1.6% annual clip, despite severe winter weather in the first two months of the year. “Core” GDP, which excludes the more volatile categories like government purchases, inventories, and trade - none of which can be counted on for sustained economic growth - grew at a 2.5% annual rate in Q1.
The US economy added 300,000 net new nonfarm payroll jobs over the past 2 months (185,000 in March and 115,000 in April) and the Unemployment Rate held steady at 4.3%, while average hourly earnings rose 3.6%, year-over-year. In addition, the payroll services firm ADP reported that private sector jobs rose 109,000 in April - the largest monthly gain since January 2025 - led by a 94,000 increase in the services sector. According to ADP, small businesses accounted for 65,000 of the April increase, while firms with over 500 employees added 42,000. On the wages front, “job hoppers” enjoyed a 6.6% increase in pay, compared with April 2025, while those who remained on the job received a 4.4% increase.
Despite recent headlines over layoffs, they remain near historically low levels. The Challenger report for May 7 showed that 83,387 job cuts were announced in April, with AI being cited as the primary reason for 26% of those layoffs. Through April 2026, layoffs were down 50%, compared with the same stretch in 2025. US job openings are holding steady at 6.9 million. According to the most recent (March) job openings report, layoffs and firings accounted for 1.9 million ff the 5.4 million discharges that month – the rest being voluntary “quits” as workers left for better situations. Meanwhile, new weekly claims for unemployment benefits rose to 211,000, mid-month, from 190,000 two weeks prior (which was the lowest reading since 1969) but remain well below their long-term average of 225,000. Continuing claims, for those receiving ongoing benefits, fell for the ninth straight week to just under 1.77 million - the lowest level in 16 months.
Broad-Based Expansion Across Key Sectors
The US manufacturing sector, which had struggled along with employment over the past year, continued to expand for a fourth consecutive month. The ISM Manufacturing Index for April held steady at 52.7 (the same as in March), matching its highest reading in 4 years, as 13 of the 18 industries surveyed reported growth. Meanwhile, its two most forward-looking subsets point to continued growth in manufacturing in the months ahead. New Orders rose to 54.1 from 53.5, while the Production index eased back to a still healthy 53.4 from a very strong 55.1 in March.
And, the US Services sector, which drives about 80% of US economic growth, also continued to expand in April. The ISM Non-Manufacturing Index eased to 53.6 from 54.0 as New Orders backed off to a still respectable 53.5 after climbing to a 3-year high of 60.6 in March. Meanwhile, the other forward-looking Services subset, Business Activity, climbed to a very strong 55.9 from 53.9 the month before. Last month, 14 out of the 18 industries surveyed reported growth.
Consumer Strength, Productivity Gains, and Market Outlook
Nearly three months into the Iran conflict, high gas prices have not dampened the consumer spending which drives over 70% of GDP. Retail Sales rose 0.5% in April as Americans continued to travel, dine out, and shop (online and at stores), lifting sales up 4.9% from a year ago. Part of the increase comes from sales at gas stations (which are measured in dollars spent) but, core sales, which exclude sales at gas stations, building materials, and car sales, rose 0.8% last month (including revisions). Separate updates on weekly retail sales from Johnson Redbook also show no signs of slower spending, with gains holding steady near 6.5% (year-over-year) over the past few months.Acting as a damper for rising inflation is US Productivity growth, which grew 0.8% in Q1 and was up 2.9% from Q1 2025 with manufacturing productivity rising 3.6%. With few exceptions, US wage growth has outpaced inflation for some time now, but that wage growth has not contributed to inflation. Unit labor costs (ULC), which is hourly pay divided by productivity, rose 1.2% (year-over-year) in Q1. This was the slowest annual increase in ULC since Q3 2023. This, even as wage growth rose 4.2%. The AI-led technology boom should continue to boost productivity, lifting GDP and serving as a partial brake on rising prices.
The 2026 economy is far from perfect, but its fundamentals are remarkably durable, with most of the economic evidence suggesting that the "Resilience Paradox" is more than just a temporary sugar high. With a full-year earnings growth forecast of 24.0% for the S&P 500, the oft cited "Sell in May and Go Away" mantra feels like an antiquated relic of a pre-AI, pre-liquidity-cushion era. The ultimate question begs: is this resilience a temporary phase provided by the extra $150 billion in tax refunds that most American received, or is the 2.9% productivity surge from the AI-Defense nexus creating a permanent new floor for growth? If the latter is true, the "logic of the unlikely" will continue to drive this market higher, defying the headlines well into the summer. A resolution to the Iran conflict will only create an additional tailwind to growth.
