September 4, 2002
When is it time to worry about the absence of consumer spending?
Retailers began wondering about the strength of consumer spending during the Memorial Day weekend. At that time, analysts argued that the weather was too fine for barbecues for households to go shopping at malls. Modest sales gains in subsequent weeks suggested that the Memorial Day weekend slump may have been an aberration.
However, sales never overshot trend lines in subsequent weeks to make up for the barbecue diversion.
Although July sales were strong, all the gains in retail sales were the result of two sectors, autos and gasoline. The explanation for gasoline was simple--prices rose for that good.
Auto sales also were easy to explain. Zero incentive financing returned. Although the October spurt in auto sales did not stall other consumer activity, auto incentives in July were used to explain the absence of other sales gains.
Early in August, reports of weak clothing sales were explained away by unusually hot weather. However, the weather improved sharply as back-to-school sales began. Unfortunately, the sales did not. The latest weekly report of sales from Walmart (which accounts for 9 percent of all retail sales in the U.S.) showed no improvement in same store sales.
It now appears that retail sales may fall for August. Moreover, weak back-to-school activity will slow the growth of Christmas orders. If the retailers do not have the goods, they cannot sell them. Thus, a mediocre Christmas sales season already may be the best that can happen.
Why is the consumer becoming so reluctant to spend? First, the loss of 1.4 million paychecks in the past year certainly requires spending restraint in those impacted households. Second, the workweek, which had been expanding since January, abruptly dropped in July. As a result, the growth of worker purchasing power after inflation fell from 2.8 percent in June to only 1.3 percent in July.
Debt also may be adding to consumer burdens. However, I argued previously that the cost of carrying debt has declined because of reductions in finance charges. Until those charges rise per dollar of debt, current debt burdens should be manageable for the average household.
The third major reason for spending reluctance is the growing conviction that reduced wealth will not be restored by a stock market rally anytime soon. After a 20 percent reduction in household wealth in the past three years, spending is to excessive for wealth. Indeed, only 20 percent of households now believe they have an adequate wealth accumulation plan to meet their retirement needs. (A year ago, 51 percent of households still believed that their prevailing programs were adequate).
As I agree with these households that wealth will not be restored soon, can this concern about spending lead to the much discussed double dip recession?
Clearly, a plunge in consumer spending would throw this economy back into recession, but such a plunge is not likely to happen.
Economists have been studying consumer behavior for some time. One conclusion is that households are willing to substantially reduce their current savings and even raise debt before they accept a reduction in their standards of living.
Of course, those households that suffer an unexpected drop in income have no choice but to restrain spending. Still, the 1.4 million lost paychecks remains 1 percent of all employees. We have suffered much greater losses of paychecks than that without observing a drop in the level of spending.
Unless unemployment becomes much steeper, the consumer is unlikely to roll back spending from previous living standards. On the other hand, as employment begins to rise, most of the gains in income will be used to reduce debt and restore spending programs.
Indeed, the vast majority of the $130 billion reduction in household tax liability enacted in the past year for this year's income has been saved. This does not mean that the reductions had no economic effect. Without the tax cuts, more households would have been forced to cut back.
If household spending will not fall without further reductions in paychecks, then consumer spending can only lead to a new dip in economic activity if some other sector begins the employment decline. As housing remains strong, inventories are lean, capital spending is at low rates of accumulation and appears to be searching for a bottom, and a weakening dollar is beginning to stimulate exports; the source of that employment loss is hard to identify.
Thus, we can probably continue to rule out a full blown recession from the sluggish consumer. But we can no longer ignore the decidedly reduced strength of the recovery that this reluctant consumer is beginning to create.