Ongoing inflation continues to reinforce a K-shaped economy as AI adoption generates a reduction in demand for labor faster than the economy can create new jobs. Small businesses face a difficult balancing act of serving a bifurcated customer base while investing in new technologies and navigating tariffs as well as a turbulent economy. Here are key factors impacting consumer spending, small businesses and manufacturing today:
Consumer spending
While inflation is impacting all consumers across nearly all goods, it is not impacting all consumers equally. We now live in a K-shaped economy where the wealthy minority drive growth in consumer spending, while everyone else suffers under rising inflation, slower wage growth and higher unemployment. Well-off Americans with real estate and investment portfolios have continued to prosper as rising home prices and financial markets fuel wealth accumulation, while younger Americans — those saving to buy a home and one-day retire — saw these goals slip further from reach. The result is a bifurcated market for small businesses to target where one customer group continues to demand premium quality and service items while the other is looking for value and ways to reduce expenses. In this environment, small businesses who depend on consumer spending to drive revenue are struggling to identify their core customer and position their offerings appropriately.
Fluctuating oil prices
The recent inflationary spike led by higher energy prices due to the War in Iran is exacerbating this problem. Wealthy consumers are relatively immune to higher energy costs and their impact on the goods they purchase, while less wealthy consumers see more of their discretionary income going to operating vehicles and buying groceries.
Oil prices are yet another shock to operating margins that small businesses need to contend with. Businesses are grappling with the impact of an unforeseen expense and agonizing over whether to pass these increased costs on to an already stretched customer base. We expect that small businesses will likely delay raising prices as long as possible — similarly to when tariffs were first introduced — but that they will ultimately need to pass these expenses on to customers should prices remain elevated.
The uncertainty caused by fluctuating oil prices will likely cause many small businesses to retrench, holding off on starting new projects, taking on new hires, and investing in the growth of the business, until the picture becomes clearer. Given the importance of small businesses to the U.S. economy, this could have a significantly negative impact on the unemployment rate and overall GDP growth.
Impact from tariffs
Despite the Supreme Court ruling that the Federal Government had illegally collected tariffs from importers in the United States using the International Emergency Economic Powers Act (IEEPA); President Trump’s commitment to maintain the use of tariffs as a point of leverage in his negotiations with foreign countries, and his willingness to reach for novel interpretations of existing trade law, it seems unlikely that he will abandon tariffs as an economic strategy. Additionally, tariffs on most imported products continue under other trade policies, and with consumers now used to paying higher prices for imported goods, we expect these new tariffs to be passed on to borrowers just as the now overturned tariffs were.
Tariffs were designed to protect U.S. manufacturers from “dumping” and other forms of unfair foreign competition, while providing incentives to expand domestic production. While we see these goals as favorable to the manufacturing industry, we are skeptical that tariffs alone will usher in a new “golden age” of U.S. manufacturing. The reality is that American regulation, labor costs and lack of integrated domestic supply chains continue to put American manufacturers at a disadvantage. Those manufacturers that do operate in the U.S. often import critical raw materials and component parts through Asian supply chains, most of which are now subject to tariffs. The net result is a slightly more favorable operating environment for domestic manufacturers, but one that fails to recreate America’s manufacturing dominance of the 1950s and 1960s.
Businesses have learned how to navigate tariffs, altering supply chains and onshoring as much production as possible in an effort to avoid the tariff’s most painful effects.
Going forward, we expect to see continued repatriation of manufacturing to the U.S. as businesses seek shorter supply chains and work to avoid the cost of tariffs. However, despite growth in U.S. GDP from domestic manufacturing, we do not expect to see a meaningful growth in employment. In fact, in 2025 while total U.S. manufacturing production rose, the total number of Americans employed in the manufacturing sector fell. We attribute this to increased automation in the sector, a phenomenon that will only be enhanced by increasing adoption of robotics and AI technologies. We are believers in the future of American manufacturing and the importance of maintaining a competitive domestic manufacturing base. But we do not expect this rebirth to generate significant new jobs capable of reversing the effects of the K-shaped economy.
Role of AI
One of the greatest weapons against inflation will be productivity growth. Today, business leaders and economic experts seem to be pinning their hopes on new AI technologies to usher in an age of automation and rapid productivity growth. History has proven that new technologies take years to work their way into business processes, so we do not expect a silver bullet cure for inflationary pressure. However, we do believe in the power of new AI technologies to streamline work and eliminate both blue and white-collar jobs. In fact, we believe we are at the beginning of a workforce transformation that will lead to the elimination of many existing jobs and hopefully the creation of many new roles as the economy evolves.
Manufacturers are looking for automation and AI solutions to reduce headcount and their dependance on volatile labor markets. Robotics and 3-D printing are enabling the repatriation of manufacturing back to the United States in a less human-intensive and cost-effective manner. Additionally, the technologies behind self-driving cars and trucks are poised to disrupt supply chain management, and the use of agentic AI is already being used to supplement salespeople and customer service agents.
What small businesses and manufacturing companies alike can do in this economic landscape
Small businesses and manufacturers are taking a cautious approach to expansion given today’s economic environment. They are testing new markets on a small scale and confirming demand before investing heavily in new strategies.
Small businesses and manufacturers should be focused on customer demand, cost of goods, operating expense and free cash flow. Finding a dependable market at prices that are sufficient to cover the cost of the business is critical in a volatile market like the one we are experiencing today.
Small businesses and manufacturers serving a less-affluent client base are looking to lower the cost of their goods and services while still providing a basic level of service.
To navigate changes in government policy, technology and consumer spending, small businesses and manufacturers will need to be nimble and have access to flexible financing solutions. This means determining what financing they are likely to need and developing relationships with a variety of financial services providers. While many community banks have been consolidated into larger regional institutions, and others have scaled back their exposure to commercial credits, there are many non-bank small business lenders that are ready to fill the funding gap.
