Tax refunds and AI boom have offset some US economic pain from Iran war and high gas prices, so far

WASHINGTON (AP) — Americans are paying for the war in Iran with every visit to the gas station, but some of the damage to the U.S. economy is being offset — for now anyway — by big tax refunds and an investment boom driven by artificial intelligence.

Prices rose at the fastest pace in almost three years last month, U.S. economic growth is steady and layoffs fell last week, according to a slew of economic data released Thursday.

The inflation gauge favored by the Federal Reserve — the Commerce Department’s Personal Consumption Expenditures price index — rose 0.7% from February to March and 3.5% from a year earlier. The year-over-year gain was the biggest since May 2023.

No secret what was driving the increase: Gasoline prices shot up 21% in March from February after Iran responded to U.S. and Israeli attacks by closing the Strait of Hormuz and creating the biggest disruption of oil supplies in history.

The same data showed that prices outgrew American incomes — wages, business income and government benefits — for the second straight month in March.

The Commerce Department also reported Thursday that U.S. gross domestic product — the output of goods and services — grew at a steady 2% annual pace from January through March, slower than economists expected, but a rebound from lackluster 0.5% growth during the final three months of 2025. In the October-December quarter, the 43-day federal government shutdown had slashed more than a percentage point off growth.

Business investment is surging because of the AI boom. Excluding housing, business investment surged 10.4% in the first quarter, biggest jump in nearly three years.

From January through March, consumer spending — accounting for 70% of U.S. economic activity — expanded at a 1.6% annual pace. Americans were helped by big tax refunds, the result of President Donald Trump’s 2025 tax cuts.

But the boost might not last long. “Rising tax refunds were outpacing the increased burden of gasoline spending two to one in March and most of April,” wrote Michael Pearce, the chief U.S. economist at Oxford Economics. “With tax refund season winding down and gas prices still climbing, the hit to consumer spending will become more evident from May.”

The average price for a gallon of regular gasoline jumped another 7 cents overnight to $4.30. The price on this date last year was $3.18. In each of the past three days, gasoline prices have set new multi-year highs.

Forced to spend more on gasoline, consumers are likely to cut back their spending on other goods and services. Economists are already expecting GDP to take a hit as they do. Joe Brusuelas, chief economist at RSM, a tax and advisory firm, has downgraded his forecast for U.S. economic growth this year to 1.7% from the 2.4% he’d expected earlier.

“A year that was set to benefit from tail winds associated with a large tax cut and boom in artificial intelligence-led investment has been partially derailed by the impact of what as of today is an adverse and growing supply shock caused by the war in Iran,” Brusuelas said. “Unfortunately, war and the supply shock that ensued has altered the probable growth path this year.”

The combination of rising prices — and the threat to economic growth — has put the Fed and other central banks in a bind. Should they cut interest rates to help their economies? Or hold off — or even consider raising rates — to combat the threat of inflation?

So far, they are staying put. The Bank of England kept its main interest rate on hold at 3.75% Thursday and hinted of hikes to come as policymakers assess the war’s economic impact. Likewise, the Fed, the Bank of Japan and the European Central Bank, with all opting for no change as they assess the economic fallout from the conflict.

Still, U.S. workers enjoy considerable job security. The Labor Department reported Thursday that the number of Americans applying for unemployment benefits — a proxy for layoffs — tumbled last week to the lowest level in more than 50 years.

Companies aren’t letting workers go — but they aren’t necessarily eager to hire much either. Job growth last year was the weakest outside a recession since 2002. And it’s been up and down so far this year — strong in January (160,000 new jobs) and March (178,000) but weak in February when employers slashed 133,000 jobs.

Economists describe “no-hire, no-fire’’ scenario that locks young applicants out of the job market. At the same time, there are growing worries that AI is taking entry-level jobs.

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AP Business Writer Matt Ott in Washington contributed to this story.