Economy@W. P. Carey: The consumer still not back in the game

At mid-month, analysts had turned more pessimistic about the economy, as some of the promising "green shoots" of recovery appeared to have withered, writes Lee McPheters, editor of Economy@W. P. Carey. Economy-watchers (and the equity markets) had seized on a report that consumption spending was up by 2.2 percent in first quarter 2009. But the April release on consumer spending (set for June 1), is expected to show that the January and February increases were unsustainable, anomalous upticks.

At mid-month, analysts had turned more pessimistic about the economy, as some of the promising "green shoots" of recovery appeared to have withered, writes Lee McPheters, editor of Economy@W. P. Carey. Economy-watchers (and the equity markets) had seized on a report that consumption spending was up by 2.2 percent in first quarter 2009.

But the April release on consumer spending (set for June 1), is expected to show that the January and February increases were unsustainable, anomalous upticks. Analysts have turned more pessimistic about the economy in recent weeks, as some of the "green shoots" of recovery have withered. After decreasing from a peak of 670,000 at the end of March, initial unemployment claims rose for the week ending May 9, a strong reminder that labor markets are still in trouble.

Job losses exceeding 500,000 per month are expected to continue into the summer. One of the stronger false signals was buried in the latest report on Gross Domestic Product and its components. In the advance report for first quarter 2009, consumption spending was up by 2.2 percent.

Economy-watchers (and the equity markets) seized on this as a possible sign that the consumer was getting back into the game, after consecutive quarters of declines in consumer expenditures in the second half of 2008. The consumer is increasingly seen as the key to recovery, since other components of GDP (with the exception of the Federal government) are expected to contract for the next few quarters (See table at Economy@W. P. Carey).

The increase in Q1 consumption didn't necessarily come as a surprise, because analysts had been watching monthly figures on both consumer spending and retail sales during the first quarter. Consumer spending (as reported by the Bureau of Economic Analysis) was up in January by 1.7 percent and again in February by 0.4 percent, after six straight months of decrease. Similarly, retail sales showed modest positive growth in these same two months.

But reality set in when retail sales were down 1.3 percent in March and by 0.4 percent in April. The April release on consumer spending (set for June 1), is expected to show that the January and February increases were unsustainable, anomalous upticks. Few of the factors influencing consumer spending are sending positive signals. Consumer credit has decreased six of the past eight months, as consumers have grown reluctant to borrow (and lenders have tightened credit standards).

The savings rate (as a percent of disposable income) was 4.2 percent in March, up from 2.6 percent just six months ago. While this seems like a good thing, each one percent increase in the savings rate pulls approximately $100 billion out of the consumer spending stream. (Disposable personal income in March was just slightly greater than $10 trillion, and personal savings at 4.2 percent were $455 billion).

The Round Number Forecast from the W. P. Carey School of Business is updated at the mid-point of each month. The current (May 15) forecast anticipates that consumer spending will decrease by 1 percent in Q2, but rebound in the second half of the year. However, the slow quarterly growth in 2009 will not offset the sharp drops at the end of 2008, yielding an overall decrease in consumption of 0.5 percent for all of 2009.

If the forecast is realized, this will be the first annual decline in inflation-adjusted annual consumer spending since 1980. In the 2009 forecast, every component except the Federal government is expected to show declines. Spending on residential construction, which has been contracting each year since 2006, is projected to decrease by 25 percent, its largest one year decline in the current cycle.

Non-residential construction will decrease in both 2009 and 2010, as many of the credit problems afflicting the residential sector become increasingly problematic for commercial building. According to the Mortgage Bankers Association, commercial mortgage originations were down 70 percent in the first quarter of 2009. The current W. P. Carey School national forecast follows the broad consensus of thinking by analysts in academe, the private sector, and government.

Negative growth in GDP will be with us for at least one more quarter, followed in the second half by a modest recovery in consumer and business spending, along with signs of life in residential building. Unfortunately, labor market problems will persist well into 2010, resulting in rising unemployment rates for the remainder of this year and into the next.