When Congress and the Obama administration let a 2% payroll tax cut expire on January 1 as part of the fiscal cliff deal, economists predicted a consumer retreat.
Two per cent might not sound like much, but it does put a dent in people’s disposable incomes: For the average American household earning $50,000 a year, it means $1,000 less in spending money. Consumers, analysts said, surely were about to scale back on their trips to the mall, ignore the Amazon ads in their inbox and opt for home-brewed coffee over a Grande Latte.
Well, in January real personal consumption expenditures grew at the same pace as they had in December. In February they edged up a notch. In March they kept up the pace and by the end of the first quarter they’d risen by 3.2 per cent: well above expectations.
Could it be that people hadn’t noticed their paycheques were a few dollars lighter, analysts wondered? Perhaps the tax hike had caught families off-guard and they would need some time to adjust to their new, tighter budgets. “The reduction in personal income as a result of higher taxes … will likely slow consumer spending growth in the second quarter,” TD senior economist James Marple predicted in a research note when first-quarter results came out.
A month and a half into the second quarter, though, there aren’t many signs of that. Consumer spending data for April isn’t out yet, but growth in retail sales for the same month seems to indicate shoppers didn’t back down.
As I wrote earlier this week, soaring housing and stock market prices are likely putting Americans in the mood for spending. But where’s the money coming from?
Not from paycheques. According to the latest jobs report, average hourly earnings are up 1.9% compared to April of last year, which amounts to 45 cents. In general, as the chart below shows, American incomes have been growing at slower and slower rates since the 1970s:
According to the Fed, the extra cash isn’t coming from stepped-up borrowing either. Americans are still paying off their debts. Over the first quarter, overall U.S. household debt shrunk by 1%, to the lowest level since 2006:
This only leaves—you got it—savings. In January, households’ savings rate tumbled to 2.3%, down from 6.5% in December and 4.1% in November. It hasn’t climbed back up since. In March, the latest available reading, it stood at 2.7%, the lowest it’s been (excluding January) since December 2007:
Even if Americans keep paying off their debt, such a low savings rate is problematic. If it persists, too many U.S. families will have too small a cushion to be able to cope with even a moderate economic downturn, which, given the state of the global economy, could happen sooner than many expect.
But even if Americans go back to living paycheque-to-paycheque, there’s only so much they can spend without relying on credit card debt and home-equity lines of credit. In the absence of loose credit, consumer spending in the U.S. will be pegged to incomes—and there doesn’t seem to be much growth potential there.
Erica Alini is a California-based reporter and a regular contributor to CanadianBusiness.com, where she covers the U.S. economy. Follow her on Twitter: @ealini.