Recent manufacturing and service sector reports from the Institute for Supply Management (ISM) point to more ominous signs in the US economic landscape. The July reports show service sector activity is all but ground to a halt. At the same time, manufacturing production is contracting at its quickest rate since October 2024. These important supply side developments are feeding stagflation fears. These challenging conditions, continuously slow growth coupled with increasing inflation, may create a new set of vulnerabilities that further depreciate the value of the US dollar.
The ISM report on services reflects a historic collapse in activity. Instead, it raises troubling questions about the overall health of the sector. This month over month decline is indicative of softening consumer demand, which can be troublesome for businesses that are counting on consistent growth to get by. The manufacturing sector has shrunk almost as greatly. This drop showcases a broader economic malaise as it was the largest decrease in almost two years.
More alarming than the shift from surplus to deficit in these sectors is the decline itself. Using the price index for both services and manufacturing, that would imply inflation spiking up significantly. Taken together, the data is cause for serious alarm that costs for consumers are about to increase at a time when they’re already feeling severe economic pain.
“In parallel, the price index for both the services and manufacturing sectors point to upside risk to inflation.” – BBH FX analysts
The average US tariff rate was only at an effective 8.8% back in June. That is set to increase to 18.3% on August 1. If this expected increase materializes, it will be the highest average effective tariff rate since 1934. These various new costs imposed on businesses are often passed along to consumers, driving up costs even more and further exacerbating inflation.
The implementation of higher tariffs is a double-whammy for the economy. Their purpose is to shield American companies and workers from foreign competition. It can’t do so at the risk of stifling economic growth and raising inflationary pressures. The full impact of these tariffs have yet to materialize. This unfortunate turn of events serves to underscore the confusion about how they will impact the overall economy.
“The full hit on the US economy from tariffs has yet to come.” – BBH FX analysts
Against this economic backdrop, we continue to watch closely all economic developments. Fed Governor Lisa Cook and Boston Fed President Susan Collins are scheduled to participate in a panel discussion at 2:00 pm New York time today. At the very least, their insights will help inform our understanding of how monetary policy will change, in response to a changing economy.
Later in the day, San Francisco Fed President Mary Daly will address participants at an economic summit at 4:10 pm New York time. Her comments offer a glimpse at how the Fed plans to address the dual challenge of stagnation and inflation that we face today. These economic challenges are real and felt by everyone.
As analysts assess the current situation, many conclude that the US economy is precariously positioned on the edge of stagflation. Inflationary pressures have spread, and growth has begun to stall. Economists have cautioned that all of these factors will overshadow the US dollar and chip away at its status in world markets.
“The US economy is teetering on the edge of stagflation, a backdrop that will undermine USD.” – BBH FX analysts