Guest post: What personal consumption data means for the stock market

Submitted by Edward Harrison of the site Credit Writedowns.

The data for personal consumption came out yesterday.  However, I have not had a chance to look at the data and write a post until now.  What I see right now is not good for a sustainable recovery.  Let me tell you why and how this could impact the chances for getting a longer cyclical bull market.

Every month, the Bureau of Economic Analysis (BEA) releases a data series called Personal Income and Its Disposition. This measures personal income received by Americans and how this money is either spent or saved.  If the increase in income is good, generally that will flow through to consumption and ultimately increase retail sales and GDP.

Last year, as the recession took hold and commodity prices soared the real growth in personal income turned negative. That is to say the amount of money people earned adjusted for inflation was lower than it had been just 12 months prior.  This trend began in January 2008, just after the recession began.  Since Americans were earning less in aggregate (due mainly to inflation and job losses), they were spending less.  I like to look at the 6-month average real personal consumption expenditures (PCE) number as a proxy for the trend in American spending habits.  I compare this average to the average just 12-months prior to see if consumption is trending up or trending down.


Clearly, consumption in the United States is trending down. In fact, the average real PCE has never been negative in the studies 50 years until March 2009. Only in the early 1960s did it flirt with negative territory. It now stands at –0.7%.  Translation:  Americans are spending less.  This is true for two reasons.  First, many are losing their jobs. Therefore, personal income is under stress.  But, Americans are also saving more.  The savings rate hit 5.7% in April, the highest rate since 1995.


If you buy into Richard Koo’s balance sheet recession idea which I presented to you earlier today (see Central banks will face a Scylla and Charybdis flation challenge for years), then you should expect the savings rate to continue to march higher as consumers focus on debt reduction at the expense of consumption.

Going forward, I will be looking to highlight a statistic I follow which gets to the heart of this which I will call the Consumption to Income Gap (CIG). This statistic identifies when the rate of growth of consumption lags or leads the rate of growth of income.


In the past 50 years, the CIG turning negative has signalled impending economic weakness because the flow of causation is income to consumer spending to production to capital spending to GDP 9see my post “The Economy’s Four Horsemen” for more on that topic). But, the CIG tends to turns positive when the economy is improving and consumers no longer feel threatened.

Now, if Richard Koo is right that we are poised for a longer-term ‘balance sheet recession,’ the CIG will stay negative for a long time and the savings rate will continue to increase.  At present, this certainly what is occurring (since September 2008). However, 2001 presented a mirror image of this phenomenon. After the recession of 2001, the CIG stayed positive throughout the recession due to unprecedented monetary easing and deficit-inducing fiscal stimulus by George W. Bush. Every month showed consumption growth in excess of income growth from April 2001 when the recession actually began until July 2004, a full 32 months after the recession had ended.

When the CIG turned solidly negative in January 2006, you could have seen this as a sign of economic weakness and a harbinger of the recession which eventually came in December 2007.

My view on how to view this statistic is this:  if the CIG continues in negative territory, look to the first outcome I outlined in Central banks will face a Scylla and Charybdis flation challenge for years as the likely scenario to expect.  However, if the CIG turns positive, this would mean the reflation trade has gained traction and scenario #2 would be the likely outcome.

In terms of the rally in shares now ongoing, scenario #2 is bullish for the period after 2009 because it means the economy will be supported by ‘excess’ consumption. On the other hand, scenario #1 is not bullish because it will mean a weak economy and a potential double-dip.

Watch the Consumption-to-Income Gap.  I think it will be an important statistic to follow in terms of gauging where consumer spending is headed and what impact that will have on retail sales, company profits and stock prices.

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About Edward Harrison

I am a banking and finance specialist at the economic consultancy Global Macro Advisors. Previously, I worked at Deutsche Bank, Bain, the Corporate Executive Board and Yahoo. I have a BA in Economics from Dartmouth College and an MBA in Finance from Columbia University. As to ideology, I would call myself a libertarian realist - believer in the primacy of markets over a statist approach. However, I am no ideologue who believes that markets can solve all problems. Having lived in a lot of different places, I tend to take a global approach to economics and politics. I started my career as a diplomat in the foreign service and speak German, Dutch, Swedish, Spanish and French as well as English and can read a number of other European languages. I enjoy a good debate on these issues and I hope you enjoy my blogs. Please do sign up for the Email and RSS feeds on my blog pages. Cheers. Edward


  1. Leo Kolivakis

    Hi Edward,

    One thing you have to keep in mind is the wealth effect. As stocks soar and house prices stabilize, confidence picks up and epople will spend more.

    But the consumer won’t forget this recession for a long time and I think this will cap spending. Moreover, profits might look good on comparable year-over-year levels, they certainly will not be anything extraordinary.

    In short, this will be the most meagre recovery ever. The problem is that all that excess liquidity is fueling speculative activity in stocks, bonds, currencies, and commodities. How long will this party last?



  2. ndk

    I think this post would be much more useful if it also included analysis of the recent and anticipated trends in the income half of the cash flow statement. I think it’s easily as salient to our current problems than the expenditure side of the sheet. We saw incomes rise fairly dramatically in April, breaking with a bad trend in prior months. Some of it was stimulus, but not all. This really surprised me, because there’s such extraordinary unemployment, underemployment, and low employment to population, but I try not to argue with data.

    If nominal incomes really begin to rise, there may be room for increased savings as well as sustained consumption. Debt service is a large portion of household expenditures.As you do note, middle class incomes have been under immense pressure from global trade, corporations with revenue drops, and, IMO, a decline in the marginal value of a human’s labor. Elizabeth Warren has been rightly harping on this for a long time. That’s probably a big factor in the increase in indebtedness to begin with.

    Will this trend continue? I don’t know either way. I do know that a serious decline in the USD is the best way to increase nominal wages. Any wage gains in absence of a break of the CNY peg will be gradual, as wages even in China are not increasing as rapidly as they had been before. But 13% is still exceptionally quick growth in wages, and there’s ample room in there for American wages to begin growing once employment trends turn around.

    And that could leave room for consumption and paying down of debts, at the expense of lenders and savers again.

  3. beetgirl

    wages need to move up . or its over. wealth effect is not cash in hand. and is pretty much meaningless where i am from.

    help me!
    too far out of equilibrium!
    we are going to tip over! pay me more hurry!


  4. Jay

    I can assure you this recession will go into a depression. The feds is wasting too much money trying to delay the inevitable and making it worst.

  5. kackermann

    Wages are not going to go up until there is low unemployment.

    Some of the professional fields may see modest gains is business is good, be we are still shedding jobs.

    I see the figure of 10% unemployment spoken quite a bit, but my personal feeling is that number might be way too low.

    What is going to fuel an upturn? Foreign demand for American goods? Expanded credit?

    Hey, my confirmation word is spermos.

  6. Brick

    Despite having some reservations about the data, the report shows that consumer spending was down again despite a 1.1 percent rise in disposable income. Next months figures will not include social benefit rises, personal income allowance changes and yearly pay review changes, so we might expect the report to be worse next month. With government demand down with the exception of defense the real economy can be seen to be treading water at the best.
    The question then becomes will credit rules begin to relax, and can the FED keep mortgage rates low. While some relaxation of credit rules are likely the banks risk models have been completely overhauled so the effect will be muted. Mortgage rates are on the rise again which will cut into disposable income. Unemployment relentlessly continues further cutting consumer spending. Firms are cutting costs and investment so are unlikely to move much on wages or increase employment as they pay down their debt.
    This is without looking at the potential taxation increases coming down the line in a few years, the risks of currency devaluations, treasury debt problems, china continuing to play ball, California going bankrupt, Commercial real estate imploding etc.

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