Spending, Transfer Payments, and Taxes

As the chart below shows, personal outlays (i.e. spending) has grown significantly faster than wages over the past decade. Even before the crisis, consumers spent more of what they earned.

Since the 2008 crisis, wages initially declined (and have since remained stagnant) and the level of savings has moved higher (both of which are negative for consumption on a stand-alone basis), but spending remains strong.

How is this possible?

Well, when one adds in transfer payments (i.e. money provided by the government) and subtracts less taxes from wages, we see a different story... growth that has actually outpaced consumption since the downturn.

The reduced tax burden is a result of lower incomes to tax, a lower tax rate via the progressive tax structure, and tax cuts enacted to stimulate demand.

Telling (to me) is that over the last 10 years, wages plus transfer payments less taxes have grown at pretty much the exact same rate as personal outlays, despite weak wage growth. Going forward, unless there is change in the austerity sentiment that has been the focus of both Republicans (less spending) and Democrats (higher taxes), expect the boosts we have seen, to soften.

If that happens, we'll likely need actual wage growth via an employment recovery in order for the consumption rebound to continue.

Source: BEA

How is Spending Still Strong?

Since Lehman collapsed in September 2008, consumption has remained surprisingly strong in the face of high unemployment (thus lower wages), lower asset values (less ability to tap home or 401k for spending), and a collapse in consumer credit.

How? The government! Less taxes and higher transfer payments (i.e. unemployment / welfare benefits).

Going forward we'll need a sustained source.

Source: BEA / Federal Reserve

Staycation... Slow Retreat

EconomPic first highlighted the "staycation" phenomenon last year (i.e. choosing to vacation at home). Since that time, tourism has rebounded within the U.S. albeit to a much lower level than pre-crisis.

Note these figures were only recently released through Q1. I'm interested in what happens this summer... will travelers bounce back following a hiatus in vacation travels over the past few years, will recent market volatility / continued employment issues keep travelers at bay, and/or will a strong dollar prevent foreigners from visiting / push high-end travelers (i.e. those that have bounced back with regards to consumption) to travel abroad instead of keeping the $$ in the U.S.

Source: BEA

Spending: The Will vs. The Wallet

Spending has resumed. So who are those that have done the resumption? Gallup (hat tip The Big Picture) details:

Upper-income Americans' self-reported spending rose 33% to an average of $145 per day in May -- up from $109 per day in April 2010 and May 2009, and the highest monthly average since November 2008.

Who is not participating in the rebound? Everyone else.

Middle- and lower-income Americans' self-reported spending averaged $59 per day in May, the same as in April 2010 and May 2009.

The below chart shows the spending habits by wealth, as well as age group (and yes, there is overlap).



The difference has been labeled by Gallup as 'Frugality Fatigue' among those that CAN afford to spend (but were holding back) and those that couldn't spend (and still cannot). After all... most Americans will always have the "will" to spend (i.e. never count out the U.S. consumer), but many are finding out they no longer have the wallet (or credit) to do so:

Overall consumer spending increased 14% in May, driven entirely by the surge in upper-income spending. As a result, Gallup's May spending results seem consistent with reports from the lower- and middle-income retailers that consumer spending did not continue to improve last month. While spending was up overall in May, the flat spending numbers over the past three months among consumers earning less than $90,000 a year means weak sales for the retailers that serve them.

At the same time, May's spending illustrates that many upper-income consumers have the disposable income to increase their daily spending if they so desire. In a behavioral economics context, these consumers seemed to be holding back on spending prior to May in response to the length and depth of the recession, the financial crisis, and a general feeling of economic uncertainty.

Source: Gallup

Staycation Phenomenon

Wikipedia details the staycation phenomenon:

A staycation (also spelled stay-cation, stacation, or staykation) is a neologism for a period of time in which an individual or family stays at home and relaxes at home or takes day trips from their home to area attractions. Staycations have achieved high popularity in the US during the financial crisis of 2007–2009 in which unemployment levels and gas prices are high. Staycations also became a popular phenomenon in the UK in 2009 as a weak pound made overseas holidays significantly more expensive.

The term was added to the 2009 version of the Merriam-Webster's Collegiate Dictionary.

And here is is in chart form...



Source: BEA

The Paradox of Thrift

Okay, don't argue with a Nobel Laureate economists. As soon as I posted this under the heading "I Think Paul Krugman is Wrong", I realized he is of course... correct in his interpretation. The overall thought of whether this is the reason for the decline in savings is up for interpretation.

First, I'll let Paul summarize what the paradox of thrift is:

The paradox of thrift is one of those Keynesian insights that largely dropped out of economic discourse as economists grew increasingly (and wrongly) confident that central bankers could always stabilize the economy. Now it’s back as a concept. But is it actually visible in the data? The answer is, and how!

The story behind the paradox of thrift goes like this. Suppose a large group of people decides to save more. You might think that this would necessarily mean a rise in national savings. But if falling consumption causes the economy to fall into a recession, incomes will fall, and so will savings, other things equal. This induced fall in savings can largely or completely offset the initial rise.

Which way it goes depends on what happens to investment, since savings are always equal to investment. If the central bank can cut interest rates, investment and hence savings may rise. But if the central bank can’t cut rates — say, because they’re already zero — investment is likely to fall, not rise, because of lower capacity utilization. And this means that GDP and hence incomes have to fall so much that when people try to save more, the nation actually ends up saving less.

In other words, if ALL consumers increase their savings in a consumption based economy, the overall pie (i.e. economy) shrinks. Thus, while individuals save more as a percent of income, overall savings decrease as the pie decreases at a faster rate.

Paul then shows a chart, which is similar to the following (his is just the difference in each of these categories from Q4 '07 --> Q1 '09) pulled from the same BEA database.

He sees the data and declares:

Sure enough, the sharp increase in personal saving has been accompanied by a decline in overall national saving — partly via reduced corporate savings, largely via increased public deficits.

What matters for the economy is the aggregate savings (my mistake, my point was that the individual consumer still has the incentive to save as they have been able to raise their "personal" level of savings). Since savings must equal investment (the I in C + I + G + NX = GDP equation), the decrease in savings has impacted the size of the overall economy, thus income. The issues that Paul details (and again, I missed) is that even though individuals have increased savings rapidly, overall investment is STILL down.

Of course, the counter-argument is that we need government spending to take the place of personal spending until the consumer is able to bounce back.

Update:

Reader Matt Stiles with an alternative view:

Saving is investment. The very act of saving is nothing more than a postponement of current consumption in exchange for future consumption. While in between, the money is used to lend to entrepreneurs. The rate of interest is what regulates this process.

Of course, if you throw in government tampering with 200 year old property laws. (GM, Chrysler) and allow banks to operate without traditional legal accounting principles then sure, savers will be less likely to invest where they otherwise would (early stages of production).

Additionally, Krugman take the Keynesian approach and advocates for enormous deficit spending. And subsequently, when this pulls down the "overall" level of investment in the economy, this somehow supports his "paradox of thrift?" Seems suspect to me...

The End of Spend?

We'll see how consumer spending holds up in the coming months, but a new Gallup Poll finds that:

about a third of Americans, 32%, say they have been spending less in recent months, and that they intend to solidify this behavior as their "new, normal" pattern in the years ahead. Twenty-seven percent say they are saving more now and intend to make this their new, normal pattern in the years ahead.

Source: Gallup