United States shoppers do not yet appear to be discouraged by this year’s high inflation and slumping stock market. Consumer spending, as reflected by credit and debit card data from JPMorgan Chase, increased in May at a 3-year compound annual growth rate of 8.8%.1 That is up from 7.5% for the first quarter of 2022, and the numbers have steadily improved each month of this year from February through May.

There does appear to be a shift in consumer spending that stems from the lagging effects of the economy reopening and people going back to work in offices. Spending on leisure wear declined, for example, while spending on formal business attire increased. Similarly, spending for goods that could be delivered to homes has declined, as has the time spent on home-based activities like watching streaming services or viewing social media. People are going out and having experiences again. That shift has led to layoffs at firms like Meta (Facebook) and Netflix, while creating more business for restaurants, hotels and travel-related services.

The health of the consumer was also confirmed by the first week of Q1 2022 earnings reports from retailers. Seventy percent of 14 companies beat expectations, and only 20% lowered estimates for what their annual revenues will be.

Among the minority of companies, like Wal-Mart and Target, that did lower earnings expectations for their 2022 fiscal year, the problems didn’t stem from consumer spending levels. Instead, their challenges resulted from continued supply chain problems, which have been exacerbated by higher fuel costs, and from the high costs of raw materials and input, stemming from accelerated inflation.

Bank of America CEO Brian Moynihan does not believe anything in the near term will slow U.S. consumers down.2 While attending this year’s World Economic Forum in Davos-Klosters, Switzerland, he told Bloomberg Television, “consumers are in good shape, [and] not overleveraged.”

The bank’s customers have much more money in their checking and savings accounts than they did before the pandemic. Customers who had $1,000 to $2,000 in their accounts before COVID-19 now have an average balance of $4,000, while those who had $2,000 to $5,000 pre-pandemic had an average balance of $13,000 as of April, according to Moynihan.3

A high savings rate over the past two years, as well as a highly competitive labor market and low unemployment, are key reasons why consumers now have higher balances. Being flush with cash seems to have spurred their confidence, as spending in May of this year was higher than it was in May of last year, as Moynihan noted in an earlier interview on CNBC.3

Signs that inflationary pressures may be peaking

The core personal consumption expenditures price index (PCE), which excludes volatile energy and food prices, rose 4.9% in April.4 While that still represents an elevated level of inflation, the number, which the Commerce Department reported on May 24, was still down from March’s 5.2% pace of year-over-year price increases.

The headline PCE number, which does include energy and food, was up 6.3% in April relative to April of 2021. Still, the monthly increase offered more evidence that the pace of inflation might be slowing. April’s number was just 0.2% higher than March’s, while March’s had been 0.9% higher than February’s.
The core PCE is the Federal Reserve Board’s favorite gauge of inflation. These promising signs on inflation may explain why at least one of its members has signaled the Fed may not need to remain aggressive with its rate hikes through the end of year.

While expressing support for Fed Chair Jerome Powell’s plan to increase the federal funds rate by 50 basis points in both June and July, Raphael Bostic, the president of the Federal Reserve Bank of Atlanta, suggested that by September it may be time to pause with the rate hikes.5 In a speech before the Rotary Club of Atlanta on May 23, he said the “on-the-ground dynamics” of the economy may provide a rationale for the Fed to stop and assess whether any further rate hikes are necessary. Any announcements of rate increases are usually made after Federal Open Market Committee (FOMC) meetings. After its July meeting, the FOMC will meet three more times – in September, November and December -- before year-end.

The loss of wealth that investors have experienced this year could be another factor that lowers the pace of inflation and eliminates the need for rate hikes in the final four months of the year. With the S&P 500 Index down about 13% year-to-date6 and cryptocurrencies like Bitcoin and Ethereum experiencing steep declines, investors have lost significant wealth. If that loss of wealth eventually causes people to stop spending at the rates seen in recent months, the stock market and cryptocurrency losses could be the pins that burst the balloon of heightened inflation. In the past, the “wealth effect” has been a successful curb on inflation, as people’s perception of their reduced wealth, even when they have discretionary dollars available in their bank accounts, causes them to spend less.

New home sales plummet

Inflated real estate prices and higher mortgage rates have impaired the once hot housing market. Purchases of new single-family homes dropped by 16.6% in April, the biggest decline in nine years. Many economists been expected to see a sales level of 749,000 in new homes. But the April number was just 591,000, the weakest level of sales since April 2020.7

Recession fears linger, but some positive outlooks can be found

As a group, CEOs do not have a positive near-term outlook for the U.S. economy. With its regular survey of CEO confidence, the Conference Board reported this month that 57% of corporate leaders expect the economy to experience “a very short, mild recession.”8 Only 14% of them said conditions had improved in the second quarter, down from 34% in the first quarter, and 61% of them believed conditions had worsened in the second quarter.

It's not only CEOs who are worried about recession. Google searches on the word have increased fourfold since February.9

Earnings season also contributed to these concerns. Notable among the doomsayers were the social media platform Snap and retailer Abercrombie & Fitch. Snap announced it would miss revenue and earnings estimates because the economy had “deteriorated faster and further than anticipated.”10 Even though Abercrombie’s sales had improved year over year, it said volatility in the supply environment and higher freight costs would likely result in lower sales and operating income for its fiscal year 2022.11

Amid those disappointments, though, there was good news from companies whose positive earnings report led them to a much more constructive economic outlook.12 Discount retailer Dollar Tree far surpassed estimates of its Q1 sales and earnings. Its competitor Dollar General reported strong first quarter sales and profit gains and provided an upbeat outlook for the rest of the year. Macy’s tripled its quarterly profits from a year ago, while raising expectations for its earnings over the full year.

Tags: Inflation