This Week’s Developments in the US Economy

The Health of the US Consumer

Over the past four years, US consumer sentiment has consistently been well below pre-2020 average levels, while year-over-year change in consumer activity often has been above pre-2020 levels. This contrast between subdued consumer sentiment and robust spending raises questions about whether surveys accurately reflect consumer attitudes and can be relied upon to inform the outlook for consumer activity broadly. We might typically consider consumer sentiment as a potential leading indicator for personal consumption expenditures—which, importantly, made up nearly 68% of US GDP in the first quarter of 2024. However, the past four years have revealed a meaningful gap between what consumers say in surveys and what they actually do with their wallets. This week we look across areas that are helpful in framing a more complete view of the consumer, particularly the interplay between savings and revolving debt.

How Moderating Inflation May Be Lifting Consumer Spending Activity

Consumers are experiencing some relief when we strip out volatile inflation components like food and energy as well as sticky components like lagged rent data. Core minus shelter inflation data, which declined from the previous month, is currently at 2.1% year-over-year. However, consumer sentiment may still reflect lower levels of optimism relative to pre-2020 due to the persistent headline inflation readings. For example, in May the median consumer expectation for inflation one year from now rose from 3.2% to 3.5%. We believe this will likely reinforce the recent observed moderation in consumer spending.

The Depletion of Savings & Increased Reliance on Debt

The interplay between consumers’ use of savings and revolving debt poses some risks to the outlook, which we see as moderating in the near-term rather than contracting meaningfully. According to a recent report released by the Federal Reserve Bank of San Francisco, excess pandemic savings—which supported US households’ balance sheets following the pandemic—were fully depleted earlier this year. The “savings runway” was much longer than initially anticipated, as an earlier analysis by the San Francisco Fed in August 2023 anticipated excess savings to last only through the conclusion of the third quarter of 2023. However, the household savings rate has exhibited a consistent downward trend over the past year, currently at roughly half of the post-GFC average at 3.2%.

Despite dwindling savings, consumers continue to spend, increasingly relying on debt financing. The popularity of options like Buy Now, Pay Later—which allows installment payments rather than full payment at purchase—has grown alongside overall household debt. As per the latest Household Debt and Credit Report released by the Federal Reserve Bank of New York, total household debt rose by 3.8% year-over-year in the first quarter of 2024, reaching $17.7 trillion. While the credit card debt balance dropped by 1% quarter-over-quarter, an occurrence not uncommon at the beginning of the year according to the NY Fed, it increased by 13.1% year-over-year. Additionally, new serious (90+ days) credit card delinquencies escalated from 6.4% to 6.9% when compared to the preceding quarter, with the age cohorts of 18-29 and 30-39 exhibiting the highest proportions of serious delinquencies, standing at 9.9% and 9.5%, respectively. Overall, our view is that risks to the outlook for consumers are higher for younger households and is a key area to monitor.

However, the total household debt balance has matched wage growth over the past three years, preventing debt payments from reaching unsustainable levels. This balance is reflected in household debt service payment as a percentage of disposable income, which stood at 9.8% by the end of 2024, which remained at a historically low figure, despite a higher interest rate environment.

As household debt increases, banks have tightened lending standards for consumer loans. Specifically, during the first quarter of 2024, many banks reported implementing stricter criteria for credit card loans. A notable increase was observed both in the net proportion of banks that tightened requirements related to credit scores and reduced credit limits, making it more challenging for consumers to overextend on revolving debt and, hopefully, increasing financial stability as a result.

Continued Moderating in Spending

Consumer spending, bolstered by pandemic-related savings and a strong labor market, has been a key pillar of the US economy. Despite the depletion of excess savings, we believe spending is likely to persist, albeit at a moderating pace, as it continues to see support from a robust yet gradually cooling labor market. Recent retail sales data suggests a moderation in consumer activity. While April saw a 3% year-over-year increase in retail sales, the month-over-month figure was flat. When excluding gas and autos and gas, retail sales witnessed a slight month-over-month decline of -0.2% and -0.1% respectively, indicating that gas costs may have propped up the headline figure.

At the industry level, nondiscretionary sectors such as clothing stores and food and beverage stores experienced month-over-month growth in sales. In contrast, more discretionary areas such as sporting goods, hobby, book, and music stores, miscellaneous stores, and nonstore retailers saw declines, which contributed to the disappointing figures last month. Month-to-month readings do not necessarily make a trend, however. For example, nonstore retailers showed a robust 7.5% year-over-year increase in April, the highest among the tracked industries, suggesting strong ongoing growth in online retail. In our view, consumer activity remains stable, and we anticipate some degree of moderation should be expected as inflation progresses downward.