Additionally, February’s retail sales figures were released last week and showed a 1.1% increase, double what consensus expectations had forecast. This increase is particularly noticeable, since it comes on the heels of higher marginal tax rates for the wealthy and higher payroll taxes for everyone.
Individual savings rates down
Despite the fears of many that the higher taxes that went into effect in January might put a dampener on economic growth in general and on consumer spending in particular, so far the economy has been able to weather the impact.
To some extent, the resilience of the consumer can be attributed to improvements in the labour market: with more people working it is hardly surprising that more people are spending. But there is also another factor at work: a declining savings rate.
After the financial crisis, many were predicting a long-term increase in the savings rate. Although we did see a brief spike in savings rates in 2008, they have since been grinding lower, with January’s personal savings rate plunging to 2.4%, the lowest level since late 2007. Reductions in savings do provide a boost to near-term spending levels, but falling savings also clearly presents some risks since it is an unsustainable trend.
One critical component that still appears to be missing from the economy is personal income growth. With the labour market showing signs of improvement, we theoretically should be seeing improvements in this area but so far the evidence has been mixed. The latest data, from January, showed that real disposable income rose by only 0.6%, the slowest rate of growth since February 2011.
Steer clear of consumer-oriented sectors
February’s data is scheduled to be released on 29 March, and will bear close watching. We should eventually see some stronger upward pressure on income levels, but there is still quite a bit of slack in the labour market which means that wages are unlikely to rise quickly. Until unemployment falls further, this process is likely to be a slow one.
For now, income growth remains the key missing ingredient in the economic recovery. If income does start to rise, the economy should convert to a self-sustaining growth trajectory. On the other hand, if income growth remains muted, it would suggest that spending levels (and the broader economy) will remain vulnerable.
From an investment perspective, with consumer spending still on shaky ground, we remain cautious on consumer-oriented sectors of the stock market. Instead, we would suggest a focus on sectors such as energy, where attractive valuations offer some support.
