• The unstated risks of consumer economic modeling
• Tracking a permanent change in consumer spending
• Sentiment versus consumption
• Is the consumer the last to know?
Economic analysis anticipates the future through mathematical equations. If interest rates are reduced by a certain percentage then the economy can be expected to grow by x factor. The difficulty in accurate prediction arises from the assumptions disguised within the formulas. For the American consumer it is beginning to look like one of those basic assumptions has changed. The consumer that reliably spent most or all of his or her disposable income has become a cautious, price conscious shopper. Value and replacement rather than consumption and excess have become the bywords of the family budget.
If this change in consumer spending habits is permanent then predictions of economic growth based on an assumed level of consumer spending relative to income will overstate potential future GDP expansion. The government may send stimulus checks to the entire population but if the money is not spent the economy will not move.
Retails Sales without auto purchases have fallen in seven of the last nine reporting months. Since last August only January and February reported gains. In April they fell again shrinking 0.5%, a much weaker result than expected. The consumer who seemed to have returned in January and February after a terrible fourth quarter was in reality only taking advantage of the large discounts in post-Christmas sales.
The University of Michigan Consumer Sentiment numbers present, on the surface, a different picture. The overall reading has recovered more than 12 points since its November low; the ‘expectations’ result has regained more than 15 points. Both would seem to point to the type of recovery anticipated by economic models with consumers responding to the stimulus provided by low interest rates and government fiscal support of the economy.
However the ‘current condtions’ reading is far less positive than the headline numbers. It has recovered less from its nadir of last fall and has fallen again since January. In fact the ‘current conditions’ performance looks a lot like Retail Sales: after transitory gains in January and February the decline has returned.
When people are asked about what they expect for the future they respond based on the same types of assumptions that underpin economic models. After all they have been informed over and over again by the financial media that six months to a year after the Federal Reserve cuts rates the economy responds with growth. The stock market is widely regarded as a leading indicator presaging future growth and it has been rising since March. It may seem natural for survey responders to mimic these ideas in their replies.
But when the questions turn to registered facts, to the personal financial and economic condition of the respondent, the picture is far less sanguine. People are less confident about the future than the equities averages might suggest. Their spending decisions as recorded by sales figures are based on these personal pessimistic attitudes and not by the generally accepted notions of incipient economic recovery.
There has been a slow reduction of fear in all the financial markets so perhaps it is not unexpected to find that reflected in improving consumer attitudes. Few analysts expect the extreme volatility of September and October to return. There is plenty of remaining economic concern but it has turned to questions of GDP growth, tax policy and the potential of the US fiscal stimulus package. But diminution of fear should not be mistaken for equanimity about the future. Because consumers no longer expect the imminent collapse of the financial system does not mean the spending assumptions of two years ago will suddenly reassert themselves.
With the need for a haven currency ebbing, currency traders are resurrecting the normal criteria for currency comparison: interest rate cycles and economic growth. Interest rates are currently a dead letter. Even if central bankers were not fighting a worldwide recession, the specter of deflation, receding though it may be, is enough to insure low rates for the foreseeable future.
Most economic actors at any one time operate with a similar set of economic assumptions. The growth potential of the US economy based on the spending habits of the American consumer is the most questionable current assumption. The American consumer is under considerable long term economic stress, any GDP growth assumption that does not recognize this new fact is dubious at best.
A split has developed between what consumers say and what they do. Like the econometric models that assume a level of consumption relative to income that may no longer be valid, so consumers may be anticipating a recovery based on ideas that their own changed behavior has invalidated.