A K-shaped dynamic, characterized by a divergence in spending growth rates between high- and low-income households,
emerged in late 2024 and early 2025. According to BofA, during this period, the wealthiest 10% of households accounted for approximately 23% of consumption, while the bottom 10% accounted for only 4%.
In a K-shaped economy, the outcomes for different population groups over the same period are dramatically different: one side of the K points upward, symbolizing those who are prospering, while the other points downward, representing those facing economic stagnation or recession.
The key consequence of a K-shaped economy is that aggregate demand begins to depend on the willingness of affluent consumers to spend. "The K-shaped spending structure makes aggregate demand disproportionately dependent on the balance sheets, wealth effects, and consumption behavior of high-income households," BofA analysts note.
This is why, according to the bank's analysts, demand remained resilient even as low-income households faced pressure from rising rents, rising debt burdens, high energy prices, and a deteriorating labor market.
Employment growth and consumer sentiment indicators take all consumers into account equally, so overall economic activity can be maintained even if these factors worsen—assuming the K-shaped spending pattern continues.
According to BofA, this is precisely what happened when immigration restrictions led to a slowdown in labor market growth, but higher-income households continued to spend more on services, ultimately stabilizing labor demand, as the vast majority of jobs are concentrated in the service sector.
A similar conclusion can be drawn from the experience of the post-pandemic recovery.
"Fiscal support during the pandemic and excess savings contributed to a stronger recovery in the US economy compared to the sluggish recovery in Europe." This wasn't limited to households: foreign demand for U.S. assets helped finance large deficits, while strong corporate profitability supported investment and employment," BofA said in a research note.
The danger of a K-shaped dynamic is that overall consumption growth masks underlying stress in other segments of the economy.
"Traditional signals of weakness in the consumer sector—such as rising nonperforming debt or declining hiring among low-wage workers—can coexist with stable overall spending, making it difficult to assess the health of the consumer sector in real time from the perspective of the broader economy," BofA added.
The bank believes the current K-shaped consumer is a consequence of high-income households benefiting from major macroeconomic shocks, interacting with unequal financial buffers and asset appreciation.
According to BofA, the K-shaped structure has been strengthened by high borrowing costs and the widening gap between rising rents and largely fixed mortgage payments—a consequence of the Federal Reserve's tightening policy. However, the central bank's policy may prove incapable of addressing this issue.
The two arms of the K require different policy prescriptions: high-income households are experiencing reflation amid a demand boom, while low-income households are facing moderate stagflation.
BofA believes the Fed's recent response is consistent with its recommended gradual approach.
Ultimately, the effectiveness of Fed policy in reducing rising inequality is limited by fiscal space, inflation risks, and market tolerance. While targeted support for low-income households could cushion shocks such as rising energy prices and support demand in the face of uneven economic pressures, with a 6% budget deficit, competing budget priorities, and the risk of demand-pull inflation, fiscal policy space remains limited.