WASHINGTON (Reuters) - U.S. consumer spending fell for the first time in nearly two years in January and the goods trade deficit widened to a record high as businesses front-loaded imports to avoid tariffs, setting up the economy for weak growth or even a contraction this quarter.

While the data from the Commerce Department on Friday also showed a moderation in annual inflation last month, prices showed some stickiness, with fairly solid monthly gains. In addition, President Donald Trump's administration is ratcheting up tariffs, which economists said would raise prices as businesses pass on the higher costs of imported goods to consumers.

Consumers' inflation expectations soared in February. The Atlanta Federal Reserve slashed its gross domestic product estimate for the first quarter to show the economy contracting at a 1.5% annualized rate from a 2.3% growth pace earlier.

Financial markets now expect the Federal Reserve to resume cutting interest rates in June following a pause in January to give policymakers time to assess the economic impact of the administration's policies.

"The combination of sticky inflation and a potential growth scare, which is evident in this report, will likely present a worrisome monetary policy conundrum for the Fed," said Olu Sonola, head of U.S. Economic Research at Fitch Ratings.

"The outlook gets even murkier as the threat of tariffs permeates business and consumer confidence. We may be entering a deer in the headlights moment for the Fed."

Consumer spending, which accounts for more than two-thirds of U.S. economic activity, dropped 0.2% last month, the Commerce Department's Bureau of Economic Analysis said. That was the first decline since March 2023 and the biggest decrease in nearly four years. It followed an upwardly revised 0.8% increase in December, which previously was reported as a 0.7% advance.

Economists polled by Reuters had forecast consumer spending gaining 0.1%. Outlays in prior months were boosted by pre-emptive buying ahead of tariffs, which reversed in January.

Unseasonably cold temperatures and snowstorms that engulfed large parts of the country were likely drags on spending as were wildfires, which scorched areas of Los Angeles.

Spending on goods tumbled 1.2%, led by motor vehicles, recreational goods, household furniture, clothing and footwear as well as food and beverages.

Services outlays rose 0.3%, lifted by spending on housing and utilities as well as food services and accommodation. They offset a decline in expenditures by nonprofit institutions, which economists attributed to deep spending cuts at the United States Agency for International Development.

The agency has been the biggest casualty in an unprecedented campaign by tech billionaire Elon Musk's Department of Government Efficiency, or DOGE, - an entity created by Trump - to slash spending and shrink the federal government.

"Even though it is called the Agency for International Development, it spent a lot domestically," said Chris Low, chief economist at FHN Financial.

When adjusted for inflation, consumer spending fell 0.5%, the biggest decline since February 2021, reversing December's 0.5% gain. The weak so-called real consumer spending followed on the heels of a decline in homebuilding last month.

A separate report from the Commerce Department's Census Bureau showed the goods trade deficit jumped 25.6% to $153.3 billion last month, an all-time high as imports vaulted 11.9%.

Exports increased 2.0%. Though the surge in imports was likely precautionary, it nonetheless added to the stream of negative data for the January-March quarter. The economy grew at a 2.3% rate in the fourth quarter, driven by consumer spending.

STRONG INCOME GROWTH

Still, spending remains underpinned by a resilient labor market, which is helping to keep household income elevated. Personal income shot up 0.9%, also boosted by cost of living adjustments for social security recipients. Wages rose 0.4%.

With income outpacing spending, the saving rate increased to a seven-month high of 4.6% from 3.5% in December.

Stocks on Wall Street were mixed. The dollar was steady against a basket of currencies. U.S. Treasury yields fell.

Trump in his first month in office has issued a cascade of tariff orders, imposing an additional 10% levy on goods from China. On Thursday, Trump said a 25% tariff on Mexican and Canadian goods will take effect on March 4, after being delayed for a month, along with an extra 10% duty on Chinese imports.

Other duties aimed at imported steel, aluminum and motor vehicles will either soon go into effect or are in fast-track development. The administration is also firing federal workers, with spillovers to contractors, actions that economists warned could impact spending.

News on inflation was mixed. The Personal Consumption Expenditures (PCE) price index increased 0.3% in January, matching December's unrevised gain and economists' expectations.

Goods prices increased 0.5% amid higher costs of motor vehicles and gasoline. Services prices climbed 0.2%, with strong gains in the costs of recreation services partially offset by a decline in the prices of healthcare.

In the 12 months through January, the PCE price index rose 2.5% after increasing 2.6% in December.

Stripping out the volatile food and energy components, the PCE price index climbed 0.3% last month after an unrevised 0.2% rise in December. In the 12 months through January, core inflation increased 2.6% after climbing 2.9% in December.

Annual inflation is slowing as last year's big rises drop out of the calculation, which could persist for a few months.

The Fed tracks the PCE price measures for its 2% inflation target. The U.S. central bank paused rate cuts in January, leaving its benchmark overnight interest rate in the 4.25%-4.50% range, having reduced it by 100 basis points since September, when it started its easing cycle.

Minutes of the U.S. central bank's January 28-29 policy meeting published last week showed officials were worried about higher inflation from Trump's initial policy proposals. The policy rate was hiked by 5.25 percentage points in 2022 and 2023 to quell inflation.

"Tariffs are the most obvious threat to the pricing environment and the last few tenths to the Fed's 2% target remain in the crosshairs," said Shannon Grein, an economist at Wells Fargo.