Consumer spending rose 0.4% in April on an inflation-adjusted basis; that’s double the March level even after slight upward revisions. The saving rate dipped to 2.8%, the lowest since late 2017 when rebuilding associated with Hurricanes Irma and Harvey pushed down the saving rate. It is once again approaching all-time lows hit during the height of the housing market bubble.
Spending gains were broad-based across goods and services. Older homeowners continued to repair and remodel their homes instead of trying to trade up. Spending on travel increased. Services spending was also boosted by medical care and costs. Together the data affirm our forecast that consumer spending would rebound as we moved into the second quarter.
Overall and core inflation as measured by the personal consumption expenditures (PCE) deflator rose 0.2% in April. Year-over-year gains in the index, which the Federal Reserve uses as for its inflation target, held at 2.0% and 1.8%, respectively. Those gains represent a warming trend in inflation from last year and are expected to push the Fed to raise rates again during the June policy meeting. New tariffs and rising service sector prices have contributed to a rise in inflation. The transitory drag on inflation in 2017, created by unlimited data plans for cell phones, has played out.
The real challenge for the Fed is the trajectory of rate hikes, which will be highly depending on wage gains. The Fed’s most recent Beige Book, which provides a real-time snapshot of economic activity across the country, suggests that wage gains remain extremely uneven and not yet broad-based enough to raise rates aggressively.
The Fed has said it is willing to overshoot on inflation if that allows labor markets more time to heal and delivers on the wage front. Threats of tariffs and what looks like another escalation in trade tensions further complicate rate decisions by the Fed. Tariffs could boost inflation rapidly without creating an offsetting increase in wages. Over time, tariffs have been shown to cost more jobs than they protect. The tariffs on steel in the early 2000s cost an estimated 200,000 jobs in the vehicle industry alone.
Consumers are confident enough to dip into saving and spend. Those gains will show up as stronger GDP growth in the second quarter. Current tracking figures suggest that the rebound in growth could be close to 4%. The sticking point could be the new tariffs on imports, which will erode purchasing power and, ultimately, undermine growth at home and abroad. Gains today may turn out to be fleeting when we need them to endure.