2026 has reached the halfway point, which means it’s time to take a comprehensive look at how the economy has fared, and where it’s poised to go. This was the discussion of PNC’s recent Signals, Shifts, and What’s Ahead: A Mid-Year Economic Update Corporate Banking Webinar, which brought together Terry Begley, head of PNC Corporate Banking; Gus Faucher, PNC’s Chief Economist; Gagan Singh, PNC’s Chief Investment Officer; and Stephen Brothers, the head of PNC Corporate Banking on the East Coast.
The discussion revolved around growth, spending, and business investments, but the picture is uneven. “The economy continues to hold up, but when you look beneath the surface, it’s clear that the drivers of that strength are more concentrated than they’ve been in prior cycles,” asserted Begley.
Risks are shifting and uncertainty clouds the future despite recent positive economic updates, so much will likely change in the second half of 2026.
Growth is resilient, but it is heavily dependent on AI investment
Business investment has been one of the most obvious drivers of growth, but it’s also one of the most concentrated areas.
At a high level, capital expenditures are rising at a healthy pace, with Faucher noting that “capital spending is up about 10% annualized over the past six months.” Under normal conditions that would suggest a broad-based expansion across sectors. But the composition tells a different story. As he clarified, “when we take out AI-related expenditures, it’s actually down slightly.”
This points to a key dynamic: AI-related investment is doing most of the work. Data centers, computing power, and related investments account for most of the capital spending, spurred by massive demand and government incentives. It’s a capital spending concentration that has also spread to the financial markets.
“AI firms are now up to about 40% of total market capitalization,” continues Faucher. “And that is really boosting the equity markets in 2026.”
Growth remains substantial, but much of it is coming from this one support; this could be a problem if the optimism around tech fades. Fortunately, a 25% decline in corporate tax payments from the One Big Beautiful Bill Act and lower tariffs compared to earlier in 2026 are also supporting business investment.
Consumer spending strengthened and broadened in early 2026, though durability remains in question
Consumer spending growth has been strong so far this year as reflected in PNC data, but it remains somewhat uneven.
Faucher pointed out that “consumer spending is up about 5% from where it was a year ago — some of the strongest growth that we’re seeing,” even when removing gasoline from the calculation. That indicates underlying demand remains solid.
However, some of this growth this year has come from tax returns that are about 10% higher than where they were in 2025. Refunds that have already run out for most consumers.
Higher-income households are benefiting from rising asset values, particularly equities and homes, which have supported continued spending growth. In contrast, lower-income households, especially the bottom 25%, have relied more on temporary sources of support.
As Faucher noted, “lower-income households have been using those tax refunds to fund their spending,” particularly as they faced higher energy costs earlier in the year. Those refunds have already been distributed, so the buffer they have provided will fade in the second half of the year, increasing the likelihood that spending growth slows for that group.
That said, the consumer remains a source of strength overall, with solid growth in 2026, but that strength remains tied to higher-income households. Once again, this concentration creates the potential of higher volatility in the market over the long run.
The labor market is stabilizing, with cautious corporate behavior
After a weak period in 2025, job growth has improved in 2026, with the economy adding an average of roughly 190,000 jobs per month since March, according to Faucher. Just as important, job gains are taking place across more sectors in 2026.
Industries like healthcare, construction, and manufacturing are experiencing broad hiring with solid demand, but others, such as professional services and media, have become more selective and have seen employment fall.
Brothers described it as “a low-hire, low-fire equilibrium,” where companies are neither aggressively expanding nor significantly cutting back. Hiring decisions are increasingly
focused on filling specific, skill-based roles rather than simply increasing headcount. However, this is leading to complications in finding the right talent, indicating that skill gaps persist even in a more balanced labor market.
This has led to greater emphasis on keeping top talent, leading to fewer job openings. Overall, companies are growing, but they’re cautious.
Inflation remains persistent, and near-term pressures are building
Singh noted that “inflation has stayed above the Fed’s target for five years in a row,” and that recent conditions suggest it may move higher in the near term rather than lower. Core inflation (excluding food and energy) is currently running above 3%, reflecting ongoing pressures in the system.
Singh expects we will see some of this pressure released as the conflict in the Middle East moderates. In addition, while oil at approximately $80 a barrel is still higher than it was before the conflict, the U.S. economy’s reliance on oil has dropped significantly from the 1970s, thanks to more efficient vehicles and growth in less energy-intensive industries.
However, energy prices are likely to remain elevated while the U.S. rebuilds the strategic oil reserves, limiting any near-term slowing in inflation.
More important is the role of AI in the current inflation environment. While AI may be disinflationary over the longer run, it is adding significantly to inflation in the near term.
“This big AI buildout is causing inflation,” says Singh. “Particularly through increased demand for electricity, semiconductors, and other key inputs.”
The scale of investment required to support AI infrastructure is pushing up costs, and in a strong demand environment, businesses find it easier to pass those higher costs through to consumers.
The Fed outlook has shifted
The final key is monetary policy, and the Fed has its work cut out for it thanks to persistent inflation and the resilience of the economy.
PNC’s forecast at the beginning of the year was that we would see fed funds rate cuts in 2026, particularly because we had a new Fed Chair coming in, but that outlook has changed significantly. Singh described the shift clearly: “the likelihood of Fed easing has declined very sharply,” with “risks skewed toward tightening.”
This reflects the current environment, where:
- Inflation remains above target;
- The labor market is improving; and
- Economic growth continues.
New Fed Chair Kevin Warsh kept interest rates unchanged in his first meeting, while declining to give a near-term outlook. The conditions listed above limit the Fed’s ability to cut rates, and, if anything, make it more likely the Fed will hike rates by year-end.
This change has important implications for financial markets. Equity valuations are already elevated, and performance has been concentrated in a small number of sectors, with the AI industry being the big winner. Singh compared the current environment to prior periods of market enthusiasm, noting that “the equity markets are having a party like we have not seen in 30 years. It’s like déjà vu to ’99.”
High valuations mean markets are more sensitive to changes in interest rates. As Singh pointed out, “rates have a long history of being a party pooper for the equity market.” If rates move higher or remain elevated longer than expected the negative impacts on valuations and investor sentiment could be significant.
