INDICATOR: April Spending and Income
KEY DATA: Consumption: -0.2%; Disposable Income: -0.1%; Wages and Salaries: 0.0%; Prices: -0.3%
IN A NUTSHELL: “Unless worker incomes start growing a lot faster, it will be really hard to get spending to grow very strongly."
WHAT IT MEANS: Consumers didn’t open their wallets a whole lot in April. Household spending fell, though if you adjust for inflation, demand did rise a touch. Declining energy costs played a role in the drop, which was offset by better sales of big-ticket items and, critically, services. I have mentioned this often, but services are two-thirds of spending and 45% of the economy and if this component doesn’t go anywhere, growth will remain sluggish. So, will spending pick up? That is a real question given the income numbers. Income fell, though once again, adjusting for prices it did increase a bit. My concern, though, is with wages and salaries, which were almost flat. The economy is growing, business profits and balance sheets are strong and stock prices are soaring yet labor payments are being held down. How anyone expects strong domestic growth without strong consumption is beyond me. And since strong consumption requires solid pay increases, not just new workers being paid, the continued limitation on wages and salaries will likely keep growth from reaching its full potential. What saved households in April was a drop in prices. Indeed, the Fed’s closely-watched Personal Consumption Expenditures index, excluding food and energy, was flat over the month and rose at a modest 1.1% pace over the year. That is almost one full percentage point below the Fed’s desired level. More importantly, this measure of inflation has been decelerating.
MARKETS AND FED POLICY IMPLICATIONS: This was a disappointing report on so many levels. Spending was soft and income growth was weak with wages and salaries barely budging. While confidence may be rising, it will be hard for workers to spend a whole lot more if they don’t make a whole lot more. That is a warning to all those at the Fed who are screaming for tapering to begin. Where is the surging demand that will lead to inflation going to come from? Are businesses going to suddenly find religion and start raising wages rapidly? Indeed, despite the recovery in the economy and the improving labor market conditions, wage growth is minimal and inflation is decelerating. The Fed always faces the Bayesian issue of which mistake should it make: Should it do something (taper) and risk slowing the recovery or do nothing (keep QE at current levels) and risk future inflation. It still seems to me that the biggest risk remains the economy as we don’t know what will happen with fiscal policy, which has been the biggest barrier to growth, or what are the true states of the European or Chinese economies. And finally, as I commented strongly yesterday (okay, it was a diatribe), I just cannot figure out where the inflation threat is coming from. Lest we forget, the mistake the Fed in the 1930s was to remove its stimulus too soon.