US consumers have moved on from post-pandemic euphoria, struggling to keep up with rising prices, even though economic data looks historically positive.
Take today’s economic data and drop them into pretty much any other period of history and most Americans would feel positive.
The US economy is growing at an annualised rate of more than 2 per cent. It has added almost 1.5m jobs so far this year. Wages are rising faster than inflation, now just 2.5 per cent. And the Fed just got its rate-cutting cycle off to a flying start.
So, why is everyone so unhappy? And could this gloom become a self-fulfilling prophecy that triggers an unexpected US recession?
Feeling blue
The National Federation of Independent Business should probably think about changing the name of its Small Business Optimism Index: it has been well below its long-term average for almost three years. Its Uncertainty Index is at its highest level since October 2020, when the Ccovid-19 pandemic was still raging. The Conference Board’s Consumer Confidence Index has also been sliding for 12 months.
Some of this might be due to general uncertainty and pessimism generated by the looming US election. But the malaise, and disconnect between data and perceptions, seems deeper and more grounded in everyday reality.
Take the recent US inflation report. The front pages of the financial news cheered as headline year-over-year inflation declined from 2.9 to 2.5 per cent, the lowest since February 2021.
On Main Street, however, the cost of dining out has risen 25 per cent over the past four years. The cost of gas needed to drive to a restaurant is up 54 per cent. Want to buy a more efficient car? That’ll be 20 per cent dearer, and the cost of insuring it is up by more than half. In fact, who are we kidding? With rent up 23 per cent, many can barely afford to go out at all. If you stay in, at least the cost of groceries has risen by only 21 per cent, and you can console yourself with a beer, up a mere 16 per cent.
You get the picture. Similar numbers apply to school fees, visits to the dentist, nursing services and care homes. Those are price hikes well in excess of the Fed’s target, and falling inflation is no cure: absent a dose of meaningful deflation, which nobody wants, they are baked into our everyday lives for good.
All of that is compounded by a post-pandemic mood downer.
Consumer confidence soared back to pre-pandemic levels in the summer of 2021, when it was becoming clear we had the measure of the disease and lockdowns were lifting. The real surge in prices was still to come, consumers had excess savings to splash and they were heady with the rush of getting to do fun stuff again — they’d been vaccinated against ‘sticker shock’ as well as Covid.
The next three years would see that rush wear off at the same time as savings dwindled and prices — not just of the fun stuff but of dull, everyday necessities — continued to rise.
Outside of an actual recession, it’s hard to think of a more miserable economic backdrop.
Enough to induce a recession?
Which brings us to our second question: are consumers miserable enough to induce that recession?
We don’t think so. The supportive environment described at the top of this post is real. The only reason it might not feed into consumer sentiment is if consumers are so exhausted by the cost-of-living shock that they cannot be revived by slowing inflation, falling rates and relative job security.
Unemployment has been edging up, but we think that has more to do with fewer job openings than with layoffs. The July Job Openings and Labor Turnover Survey (JOLTS) suggests openings are down to a three-year low, but the hires rate was up 3.5 per cent and the quits rate was up 2.1 per cent, so workers still have enough confidence to risk a move. That all helps to explain why wages continue to rise ahead of inflation.
And on the cost-of-living side of things, if recognising that the past four years’ inflation is here for good has been a psychological blow, a psychological recovery can start when consumers arrive at acceptance. Think of it as the fifth stage of pocketbook grief.
An indication that we are getting there could be a decline in consumers’ one-year-ahead inflation expectations, which surveys indicate are currently stuck at the high level of 3 per cent.
We don’t anticipate consumer exhaustion or a recession, then, but we do anticipate a more discerning, cost-conscious consumer and a growth slowdown.
We think that means investors need to be similarly discerning and cost-conscious. Expanding margins via price hikes will get more difficult, which would suggest that rationalising capital expenditure and raising productivity could be the main driver of returns. In our view, companies with proven capabilities in those areas, available at reasonable prices, will be a source of outperformance.
Shannon L. Saccocia, chief investment officer, Private Wealth, Neuberger Berman
