U.S. Retail Sector Faces Challenges Amid Tariff Pressures and Consumer Hesitancy

Table of Contents

1. Key Highlights:
2. Introduction
3. The Impact of Tariffs on Retail Profitability
4. Moody's Forecasts: EBIT and Revenue Growth
5. Macroeconomic Factors Beyond Tariffs
6. Value Retailers vs. Discretionary Players
7. FAQ

Key Highlights:

• Retailers, particularly in apparel and department stores, are grappling with low profitability due to high tariffs, with revenue growth capped at around 3%.
• Moody's Ratings forecasts a negative outlook for the sector, citing a difficult consumer environment and ongoing inflationary pressures.
• Value retailers, like Walmart, are expected to outperform due to their grocery exposure, while companies with higher discretionary sales, like Target, are likely to struggle.

Introduction

The U.S. retail landscape is currently under significant strain, primarily driven by the ongoing tariff-heavy trade policies that have adversely affected profitability across the apparel, footwear, and department store sectors. According to a recent report from Moody's Ratings, these challenges are compounded by a consumer environment that remains fraught with difficulties, including inflation and changing spending habits. As retailers navigate the complexities of selling through existing inventories acquired before the tariff increases, they face an uphill battle to maintain revenue and profitability levels.

In this article, we will explore the factors contributing to the negative outlook for the retail sector, examine the implications of tariffs on pricing strategies, and identify which retailers are positioned to thrive amid these challenges.

The Impact of Tariffs on Retail Profitability

U.S. retailers are particularly vulnerable to the current tariff landscape. Moody’s analysts have noted that these import duties are set to eat into the already slim profit margins of apparel and department store retailers. Despite a pause in some tariffs providing a slight respite, the overall profitability hit remains substantial. Analysts project that revenue will only grow by about 3% as companies struggle to pass on higher costs to consumers.

The pressure to maintain margins is heightened as retailers are left with little room for price increases. Many consumers have already begun to exhibit caution in their discretionary spending, further limiting retailers' pricing power. The challenge is stark; with the consumer environment described as "difficult," businesses must innovate and adapt to survive.

Year-on-Year Sales Trends

The sales landscape for department stores has revealed a troubling trend, with year-on-year declines reported every month in 2025, save for January. This is in stark contrast to apparel retailers, who have seen some month-to-month gains. According to data from the U.S. Department of Commerce, value-driven retailers such as Walmart are expected to outperform their competitors, largely due to their substantial grocery sales, which offer a buffer against the impacts of tariffs.

Conversely, retailers like Target, which have a higher mix of discretionary merchandise, are predicted to experience weaker performance. The dynamics of consumer behavior in 2025 have created a distinct divide between value players and those reliant on discretionary spending.

Moody's Forecasts: EBIT and Revenue Growth

Moody's Ratings analysts had initially anticipated an EBIT (Earnings Before Interest and Taxes) decline of over 10% in the retail sector, excluding e-commerce, over the coming year. However, with the postponement of reciprocal tariffs to August 1, this forecast has been adjusted to a decline of 3% to 5%. Despite this slight reprieve, revenue growth expectations remain unchanged. The persistent weak demand has made it increasingly challenging for retailers to offset rising costs through price hikes.

Mickey Chadha, a vice president at Moody's Ratings, emphasized that if tariffs worsen again, EBIT expectations would likely follow suit, indicating a tenuous balance between current profit margins and potential future impacts from trade policies.

The Pricing Dilemma

Pricing has emerged as a critical challenge for retailers, exacerbated by the ongoing consumer hesitance around discretionary spending. Many retailers have adopted a retail inventory accounting method, which has led to variable margin swings that complicate assessments of how tariffs are affecting overall performance. With consumers already wary of spending, the ability to adjust pricing strategies becomes even more crucial.

Retailers must navigate these complexities while also managing the expectations of shareholders and investors who are keenly aware of the broader economic implications of rising costs.

Macroeconomic Factors Beyond Tariffs

While tariffs play a significant role in the current retail dynamics, macroeconomic factors are also influencing the landscape. Elevated interest rates are putting additional pressure on larger discretionary purchases and housing-related sales, which can further dampen consumer confidence. Moody’s analysts predict that U.S. employment will cool, with unemployment expected to rise to 4.3% by the end of this year and 4.5% in the following year.

This environment necessitates a careful approach to inventory management and pricing strategies, as retailers must balance the need to maintain profitability while catering to increasingly cautious consumers.

Value Retailers vs. Discretionary Players

As the retail sector continues to navigate these turbulent waters, the distinction between value retailers and those focusing on discretionary merchandise becomes increasingly pronounced. Companies with strong grocery and value-oriented offerings, such as Walmart, are positioned to weather the storm more effectively than those reliant on discretionary sales.

Off-price retailers are also likely to maintain an edge as consumers seek out bargains in the face of economic uncertainty. These retailers have successfully cultivated a consumer base that prioritizes value, making them more resilient in a challenging economic environment.

Future Outlook for Retailers

Moving forward, the future of the retail sector hinges on several key factors, including the trajectory of tariffs, consumer sentiment, and broader economic trends. Retailers must remain agile, adapting their strategies to meet the evolving demands of consumers while managing the pressures of a tariff-heavy environment.

Companies that can successfully leverage their strengths in pricing, inventory management, and customer engagement will be better positioned to thrive. For many, this will involve investing in technology and data analytics to better understand consumer behavior and respond accordingly.

FAQ

What are the current challenges facing U.S. retailers?
U.S. retailers are currently facing challenges due to high tariffs that are eroding profit margins, along with a difficult consumer environment characterized by cautious spending and inflationary pressures.

How have tariffs impacted pricing strategies for retailers?
Tariffs have made it challenging for retailers to raise prices, as consumers are already hesitant to spend on discretionary items. This creates a difficult balance between maintaining profitability and attracting consumers.

Which retailers are expected to perform better in this environment?
Value-driven retailers, particularly those with significant grocery sales like Walmart, are expected to outperform their discretionary-focused counterparts, such as Target, which may struggle due to a higher mix of non-essential merchandise.

What macroeconomic factors are influencing the retail sector?
Elevated interest rates and expected increases in unemployment are contributing to a cooling consumer sentiment, which in turn impacts discretionary spending and retail sales overall.

How can retailers adapt to these challenges?
Retailers can adapt by investing in technology for better inventory management, understanding consumer behavior, and exploring pricing strategies that align with current economic conditions.