Some Perspective on US Consumer Spending

If you have leafed through financial news recently, you have probably seen an increasingly widespread claim: Consumers are tapped out, and December’s small consumer spending drop is just the tip of the iceberg. Some coverage cites rising credit card use and delinquencies—even stretching to auto loans. Other pieces highlight anecdotes of households cutting back to make ends meet. We have seen chatter about the weak savings rate and last year’s drop in disposable income. It all, allegedly, means consumers will no longer support economic growth, making a recession that much likelier. We aren’t ruling out a recession—the private sector has weakened, as we showed last week. Yet we don’t think reality matches the consumer spending gloom, another factor helping create ample positive surprise power for stocks.

While consumer spending grew in Q4, it clearly ended on a down note. November’s print, adjusted for inflation, got revised down from flat to -0.2% m/m, and December added a -0.3% drop.^[i] Spending on services, which carried the load all year, was flat in December while goods spending fell -0.9%.^[ii] So on the surface, the data would seem to support the claim that households are cutting discretionary spending as prices rise and recession fears mount. We can conceive how that may also be consistent with the savings rate inching up from 2.9% to 3.4% in December, which is still low by historical standards. But then again, one could easily argue the rise in the savings rate means consumers aren’t quite as strapped as feared right now.

Yet this is all in the past. Last month’s consumer spending doesn’t predict this month’s or year’s, so extrapolating it forward would be a mistake. Better, in our view, is to investigate whether people’s purchasing power is as bad as headlines warn looking forward. After reviewing, we don’t think it is.

Take the handwringing about credit cards. There is much chatter about rising interest rates on balances, anecdotes of more households making minimum payments only and banks prepping for a surge in delinquencies. Several big card companies made headlines last week for beefing up their loan loss reserves after 30-day delinquencies rose. But context—and a broader view—are key. The S&P/Experian Consumer Credit Default Composite Index provides this. It aggregates default rates on auto loans, mortgages and credit cards, and its history includes expansions and recessions. In December, it hit 0.63%, which is up from a low of 0.37% in November 2021—when households were still flush with handouts from Uncle Sam and before inflation’s dastardly 2022.^[iii] Yet even with 2022’s default uptick, December’s index level pales in comparison to December 2012’s 1.72%.^[iv] Heck, it is lower than at any point pre-COVID.

Now, the inclusion of first and second mortgages does skew the composite lower. But the S&P/Experian Auto Default Index is simply up from series lows in 2021 to pre-pandemic rates in December 2022.^[v] The Bankcard Default Index, at 2.77% in December, is at the low end of the pre-pandemic range.^[vi] If these figures didn’t indicate a consumer credit bloodbath and spending crunch in the mid and late 2010s, we don’t see why they would now.

As for consumer spending’s main driver—disposable income—we see reason for optimism. Yes, adjusted for inflation, disposable income fell -6.4% last year.^[vii] But that dismal reading largely reflects the end of the temporary expanded child tax credit, making it one more series skewed by pandemic-related dislocations. There is no series for disposable income excluding transfer payments, but the closest thing we have, inflation-adjusted personal income excluding transfer payments, rose 0.6% last year—driven by higher employee compensation, which outstripped growth in rental and investment income.^[viii] Households on fixed incomes are about to get a big boost thanks to Social Security’s cost of living adjustment, which bumped payments 8.7% higher starting in January. These folks got hit hard last year as living costs rose before Social Security payments did, but they now have significantly more wiggle room.

So looking forward, we see households that overall have solid incomes and manageable debt. We know that this doesn’t reflect everyone in the country and don’t dismiss the challenges some face. But stocks generally look at the overall, general trend—no matter how much coverage the exceptions get in financial news coverage. What makes for interesting, heart-tugging reading often isn’t the reality that feeds into economic data, never mind corporate earnings and stock returns. Rather, stocks move on the simple question: Is reality over the next 3 – 30 month likely to be better or worse than everyone expects? Fearful stories of tapped-out consumers help keep expectations low, making the bar much easier for reality to clear. Consumer spending grinding along in 2023, at this point, would probably qualify as positive surprise—and seems quite likely.