Consumer spending slows
Control results weak, but school shopping solid.
Despite a surprisingly strong 0.3% month-over-month (m/m) increase in headline retail spending last month, so-called control results were weaker than expected for the second consecutive month. Retail sales have slowed sharply over the first three-quarters of the important Back-to-School (BTS) season.
Control results (which exclude spending on food, gas, autos and building materials, and are a direct input into the Commerce Department’s GDP calculations) were breakeven in August, well below the consensus expectations for a solid 0.5% m/m gain. July control results were revised down by half to a 0.4% gain from a preliminary 0.8% increase, while June was finalized at a strong 1.1% m/m gain.
To be sure, BTS spending from June through August 2022 rose by a strong 9.3% y/y. But that is well below the powerful 16.3% y/y surge achieved during the 2021 BTS season. While last year’s soaring results recovered from the pandemic economic shutdown in 2020, BTS spending rose by an average of 3.7% over the previous five years.
Why is Back-to-School a four-month retail sales season? Because of the post-pandemic supply-chain outages over the past three years, BTS spending now begins in June, so that students and parents won’t find themselves out of stock on electronics, apparel and dorm-room furnishings. BTS also is an important leading indicator for Christmas, whose retail sales are usually 80-90% positively correlated with BTS results, excluding the impact of extreme weather problems.
The recent deceleration in consumer spending suggests that Christmas spending from October 2022 through January 2023 could similarly rise at half the pace, or less, than Christmas 2021’s strong 16.3% y/y increase. There certainly are no shortage of headwinds: a softening labor market, high inflation, elevated food, energy and housing prices, declining business and consumer confidence, a plunging savings rate, falling stock prices, rising interest rates and growing recession fears.
Port backlog and supply chain improving The good news is that the backlog of a record 109 container ships that were stacked up outside the Los Angeles and Long Beach ports earlier this year has fallen by 80%. That is helping to ease the supply-chain bottleneck. But the bad news is that many of the major retailers, such as bellwethers Target, Walmart, Nordstrom and Best Buy, now have a glut of unwanted inventory (which they had ordered a year ago) that they’re discounting heavily to clear their aisles ahead of the holiday shopping season. FedEx announced last week it is shuttering stores and freezing hiring amid weakening global demand.
Rail strike averted We dodged a bullet with the tentative rail industry labor agreement. A full rail shutdown could have cost the U.S. economy an estimated $2 billion per day. But the settlement comes at a sizable cost to existing inflationary pressures, with 24% wage increases for railway workers over five years. The deal is retroactive to 2019 and includes an immediate 14.1% increase upon pending ratification. Workers would then get a 4% raise next July and another 4.5% bump in July 2024, as well as five annual $1,000 lump-sum payments. While a strike would have exacerbated supply-chain woes during the critical holiday shipping period, the level of wage gains does nothing to ease cost-push inflation trends that are already running at four-decade highs. Companies have been passing some of their increased labor, commodity and transportation costs onto their end customers in the form of higher prices and eating the rest in the form of lower profit margins.
Inflation remains elevated and sticky The nominal retail Consumer Price Index (CPI) surged from 1.4% in January 2021 to a 41-year peak of 9.1% in June 2022, before easing to 8.3% in August. While core CPI spiked to a 40-year high of 6.5% y/y in March 2022, it has eased to 6.3% in August. But we believe the recent declines in energy prices during July and August will reverse sharply higher in coming months. Wages and housing remain consistently high, and food prices could rise even further. As a result, consumers have been cutting back and looking for ways to economize, such as trading down from national brands to store brands and eating out less.
Higher rates expected It will be years, in our view, before inflation eases back to the Federal Reserve’s 2% core inflation target. As a result, we expect another 75 basis-point hike from the Fed at its policy-setting meeting this week, followed by a pair of half-point hikes at the Fed’s November and December meetings, which will bring the fed funds rate up to 4% by year-end. Higher interest rates, inflation and recession risk likely will keep consumers cautious.
Personal savings rate at 13-year low The personal saving rate spiked from 8.3% pre-pandemic in February 2020 to a record 33.8% in April 2020 and to 26.6% in March 2021, due to generous fiscal stimulus benefits from President Trump’s CARES Act and President Biden’s American Rescue Plan (ARP), respectively. But more recently, the personal savings rate has slowed to a 13-year low of 5% in July 2022, well below the 30-year average of 6.7%. With their dry powder waning, consumers may no longer be willing or able to afford the ever-rising prices of goods and services, resulting in a slowdown for both personal consumption expenditures and GDP.
Labor market recovery mixed Although initial weekly unemployment claims plunged by 97% over two years from their peak at 6.137 million claims in April 2020 to 166,000 in mid-March 2022, claims backed up by 57% over the next five months to 261,000 in mid-July. But over the past two months, they have declined by 18% to 213,000 in mid-September. Consumers may remain cautious amid this growing job insecurity.
Business and consumer confidence have slipped in recent months:
NAHB Housing Market Index of builder confidence rose to a 10-month high of 84 in December 2021, but has since plummeted to a 2-year low of 49 in August 2022, due to record high home prices, a doubling of mortgage rates to 6%, and the worst affordability in more than 30 years.
National Federation of Independent Business (NFIB) small-business optimism index rebounded to an 8-month high of 102.5 in June 2021. But the index plummeted to a 9-year low of 89.5 in June 2022, before rebounding to 91.8 last month.
Michigan Consumer Sentiment Index surged to a 1-year high of 88.3 in April 2021. But results plunged over the last year to a 44-year low of 50 in June 2022. The index has since bounced to 59.5 this month.
Conference Board’s Consumer Confidence Index fell from a 16-month high of 128.9 in June 2021 to a new 17-month low of 95.3 in July 2022. But the index rebounded sharply to 103.2 in August.