KEY DATA: Consumption: +0.3%; Inflation-Adjusted: 0%; Income: 0.5%; Real Disposable Income: +0.1%; Inflation: +0.3%; Excluding Food and Energy: +0.2%/ Sentiment: +2.8 points
IN A NUTSHELL: “It’s nice that income gains were strong, but it would be a lot better if more of the rise came from wages increases.”
WHAT IT MEANS: The consumer remains the key to continued solid economic growth. Do households have the wherewithal to keep spending? Not as much as you might think. Personal income soared in April, which was the good news. The disappointing news was that wage and salary gains were not the driving force. Yes, they were up decently, but it was a surge in interest income that created the jump in personal income. It is not clear that consumers will be spending the interest surge or even how that rise was created. As for consumption, a improving spending on nondurable goods demand offset the disappointing drop in vehicle purchases. Adjusting for inflation, consumer spending was flat. Still, given the enormous surge in demand in March, consumption looks on track to grow by at least two percent this quarter. That may be the only thing that keeps the second quarter GDP number from being truly bad. Speaking of inflation, the headline and core (excluding food and energy) numbers ran a bit hotter than they had been. Over the year, though, both measures remain in the 1.5% range, which is well below the Fed’s 2% target. As long as inflation remains in check, the tepid rise in wages should be enough to keep spending up. And the rising savings rate means that households have some insurance if the economy falters.
On the consumer confidence front, households remain exuberant. The University of Michigan’s May Consumer Sentiment Index rose from the April reading but was down from the mid-month number. The outlook for future growth rose sharply even as the view of current conditions faded a touch. How the future growth number will react to the introduction of tariffs on Mexico will be interesting to see. MARKETS AND FED POLICY IMPLICATIONS:Headline numbers often mislead and the large gain in top line income growth was not indicative of what most workers are seeing. Wage and salaries are what they watch and while compensation is growing decently, the percent change over the year has been steadily decelerating since August 2017. The inflation-adjusted rise has been below 2% for the past year and that makes it awfully hard to sustain 3% overall growth. The good news is that confidence has remained incredibly high. The strong job market is driving that optimism but the view of current conditions may be on the downslide. Over the year, Michigan’s current conditions index is now off. A key number for second quarter consumption is May vehicle sales, which comes out next week. If we don’t see a major rebound from the April collapse, second quarter growth will likely be weaker than most economists had been expecting. And then there is the announcement of tariffs on Mexican products. This has to raise questions about not only the US-Mexico-Canada agreement but also the likelihood of an agreement with China. If having an agreement doesn’t stop the U.S. from imposing tariffs on a country’s goods, why have an agreement at all? Tariffs are now viewed by this administration as a cudgel to secure actions from other countries that may or may not have anything to do with fair trade practices. That cannot be good news for investors who now have to worry not only when, but if a China-U.S. agreement will occur. In addition, rising consumer and business costs due to tariffs on both Chinese and Mexican products can only slow growth further. We have entered a period of major uncertainties and that cannot be good for the markets, which were already reeling from the Chinese trade war. Can we really fight two trade wars at the same time? We shall see.