July Spending and Income and August Consumer Sentiment

KEY DATA: Consumption: +1.9%; Disposable Income: 0.2%; Wages and Salaries: +1.4%; Prices: +0.3%; Ex-Food and Energy: +0.3%/ Sentiment: +1.6 points

IN A NUTSHELL: “Consumers just keep on consuming and that is great news for growth.”

WHAT IT MEANS:  Households may have hunkered down in early spring, but that started changing dramatically in May and the spending spree continues largely unabated.  Consumption jumped in July, led by strong gains in demand for durables, nondurables and services.  Yes, the spending surge is moderating, but that is only a matter of perspective.  The May and June increases were record highs and the July one turns out to be the tenth largest in the last sixty years.  That’s not too shabby.  Comparing the inflation-adjusted second quarter level of spending to the July level, consumption is rising at a nearly 37% rate this quarter.  We could see a massive GDP growth rate, even if consumption is flat the rest of the quarter.  Can households keep it up?  If you believe the income numbers, that is unclear.  Income rose solidly, led by a surge in wage and salary income.  When you add 1.8 million workers, that is going to happen.  On the other hand, government transfers, i.e., unemployment payments, were down sharply. But the August numbers could be a lot different, as the supplemental unemployment payments disappeared.  We could see incomes fall as a consequence. As for inflation, prices are rising faster, though the gains over the year are still quite modest.  Given the Fed’s new monetary policy strategy, the members would like to see inflation accelerate for quite a few more months as the overall index stands at 1% and excluding food and energy, prices were up only 1.3% over the year.

A second reason that consumption may not keep surging is confidence, or a lack thereof. The University of Michigan’s Consumer Sentiment Index rose modestly in August.  The view of current conditions barely budged, while there was a limited rise in expectations.  The overall index is, as noted in the report, remained “depressed”.   You need both growing income and improving confidence to keep the economy going and right now, that is just not in the cards. As the report notes, “Although strong gains in consumer spending from the 2nd quarter lows can be anticipated, those gains will significantly slow by year-end without some additional fiscal spending programs to diminish the hardships faced by unemployed workers, small businesses, as well as support for state and local governments.”

IMPLICATIONS: We are set up for a really strong third quarter growth number, even though Washington is doing its best to limit that gain.  The makeshift unemployment add-on has limited funding and the failure to come up with an extended supplement program is likely to lower income gains, confidence and spending.  It is an interesting calculus that those politicians up for reelection are using.  They seem to think that reducing government payments of over twenty-six million people is good politics.  That is the number of workers receiving unemployment checks.  In other words, let’s wait another month and see what spending and job gains look like before we declare the V-shaped recovery forecast a winner.  Next Friday we get the August employment report and most economists expect another great one.  I hope that is the case, but either the August or September one is likely to be very disappointing. Since some of the government payments to businesses required limited or no layoffs until October, we could see the bad numbers pushed out a little.  But they are coming.