Does the American consumer know something analysts do not?
U.S. consumer spending dropped for the first time in twelve months and income growth was nonexistent. Both results were weaker than economists’ forecasts, yet American consumers seem their happiest in years.
Personal spending dropped 0.2% in April and income was unchanged. March personal income was revised 0.1% higher to 0.3% and spending was adjusted down an equal amount to 0.1%.
The annual growth rates of income and spending were both 2.8% in April, and are, except for the last two recessions, at twenty year lows.
But consumer sentiment for May in the University of Michigan Survey was at 84.5, the highest level in over five years, since July 2007. Consumers' assessment of their current situation, at 98.0, was likewise the best since August 2007. And even their judgment on the economic future at 75.8, usually the dourest of the three indices, was the most sanguine in half a decade. If one excludes a quickly reversed two month post-election pop last year, it was the strongest score since July 2007. All three exhibited strong gains from the prior month.
Does this mean that returning optimists among consumers whose decisions make up seventy percent of U.S. economic activity are set to power the States to a true recovery?
Perhaps one reason for rising optimism has been falling inflation. In the past year prices have climbed just 0.7%, the smallest gain since October 2009 and down from the1.0 percent rise in March. Core prices, excluding food and energy were only 1.1 percent ahead, down from 1.2 percent a month earlier and the slowest increase since March 2011.
The drop in inflation has had a positive effect on consumption. Real consumer spending, that is, after price adjustment, edged up 0.1 percent in April, after a 0.2 percent gain in March. It was the sixth straight monthly increase and the eighth of the last twelve.
Annual incomes have also seen a modest gain as inflation has tailed off over the past eighteen months. In the first three months of last year, wage gains averaged 1.77 percent and for all of 2012 the annual monthly increase averaged 1.85 percent.
The increase to 2.1 percent is not enough to spur spending and the annual consumption figures, 2.8 percent versus the twenty year average of 4.9 percent, bear this out. It may, however, when combined with equities and a stable labor market, be enough to improve sentiment. Things at least are not getting worse.
But inflation decreases are not income increases. Inflation cannot fall much lower than it is and in fact the Fed wants to bring it back to its 2.0 percent target. It would seem that the positive effect on sentiment and spending has probably run its course and more than anything is likely to shift back the other direction if inflation returns.
Consumption has been sustained by a reduction in the saving rate not by income gains. The 2.5 percent saving in April is down from 4.1 percent last June and is just above the historic low of 2.0 percent. It is far from the decade average of 3.7 percent and the twenty and thirty year averages of 3.9 percent and 5.1 percent respectively.
Without real increases in wages and benefits it is hard to see how the consumers can spend enough or reduce saving sufficiently to bring economic growth higher than the 2.4 percent pace of the first quarter. And with government spending continuing to fall most economists expect GDP in the second quarter to be between 1.5 percent and 2.2 percent.
Each of the past three years has seen the early promises of economic growth diminish as the year wore on with the cycle of hope beginning anew with the turn of the year. Despite the effervescent optimism of the stock market, the economic signs that this time will be different are thin on the ground.
Chief Market Strategist