US consumers are devoted spenders and the beat of their shopping hearts has been propping up the economy. But it’s time for a stress test: is the consumer’s heartbeat strong or is there a hidden murmur poised to cause disruption?
February saw a second consecutive month of higher inflation readings from the Labor Department as gasoline and housing costs crept higher. Yet, at a casual glance, the picture is rosy. The soft-landing narrative is pervasive even as the Federal Reserve employs restrictive policies to rein in inflation, inadvertently stifling the economy. They don’t see the signs of a recession in the cards while those resilient consumers continue to spend.
But that’s not the whole story. Retail sales are expected to rise by 3.5% this year, a slower pace than 2023, according to the National Retail Federation. Sticky inflation is dampening hopes of an even stronger recovery in spending.
When we take a closer look, cracks start to emerge in the optimistic soft-landing story. Two giants, Nike and Lululemon, came out with poor reports last week while several other national retailers are announcing store closings across the country. We are also facing an artificial intelligence revolution that may decimate employment in several industries, with the International Monetary Fund’s (IMF) estimation that 60% of jobs in developed economies will be lost to AI.
Some other indicators we’re watching:
Manufacturing: Industrial production, durable sales, and auto sales have all decreased. Manufacturers are operating below capacity and the shipments index also plunged. This data implies that the consumer is under pressure. The Dallas Fed Manufacturing survey headline sentiment gauge dropped to the lowest end of analysts’ forecasts. The production index, a key measure of state manufacturing conditions, fell five points, suggesting a slight decline in output month over month. And the new orders index, which measures demand, dropped 17 points despite business predictions that new orders would pick up in the first quarter. All signs point to weakening customer demand.
The Consumer Experience: Interest payments are a burden. High-interest rates on mortgages and car loans are putting them out of reach for many Americans. High-interest rates on credit card debt is squeezing disposable income, meaning less cash goes into the economy. This drives down spending on goods and services, creating a downward spiral. Personal spending increased by 0.2% in January 2024, a notable slowdown from the 0.7% rise observed in December, aligning with market expectations. Consumers allocated more funds to housing and utilities, financial services, and insurance due to financial service charges, fees, commissions, and healthcare expenses such as hospital bills. Meanwhile, spending on goods declined, with reduced spending on motor vehicles and parts, gasoline, and other nondurable goods.
Delinquency rates on credit cards and auto loans spiked to their highest since the Great Recession, according to a recent New York Fed report. Mortgage delinquencies also rose in February. On the bright side, we’re still seeing historically low levels of unemployment. While the overall job market is healthy, employment for those without a college education has slowed in recent months. We are watching the unemployment rates closely for an early sign of when the stock market is likely to peak. Current signs do not indicate a recession at present.
Stock Market: Ever looking forward and front running the economy! We believe that this long stretch of high-interest rates is killing the business cycle. It’s only a matter of time before it turns, the layoffs begin en masse, and markets start to fall before the news even hits. Smaller companies will find it harder to service their debt and their profit margins will shrink while consumers face unemployment and therby less disposable income.
It’s worth noting that 2024 is an election year for more than 50 countries around the world and central banks in these countries continue to inject financial liquidity into the global markets. Will this be enough to stave off a global recession? Our analysis suggests not, as we anticipate the bottom falling out later this year.
Unlike us, most investors believe that the Fed has engineered a goldilocks economy that averts a recession with inflation running above the Fed’s target. (According to Deutsche Bank’s March Global Markets Survey, only 17% of market participants expect a recession.) In the short term, this is likely to propel risk assets even higher. The macroeconomic environment also supports this bullish case for now.
While we can’t put an actual heart rate monitor on consumer spending, we are closely watching other measures to gauge how strong of a pulse the economy is running on. Mostly steady and giving cover for the soft-landing narrative for now, but we aren’t letting ourselves get too complacent. We remain on high alert for any anomalies in the beating heart of America’s consumers.
