Consumers Dip Into Saving to Fuel Spending

Personal disposable incomes rose 0.1% after adjusting for inflation in September. That is half of the pace of August, which was revised up. Consumer spending rose at a faster, 0.3% pace after adjusting for inflation. Spending gains were driven by a jump in vehicle purchases. At least a portion of those increases reflected the replacement demand following Hurricane Florence, which triggered widespread flooding across much of the Southeast.

In response, the saving rate fell to 6.2% in September from a 6.4% pace in August. The saving rate has dropped more than one percent since the start of the year. That reflects consumers’ growing confidence in the economy and the surging home and equity prices prior to October. It also suggests a heightened willingness to borrow, something that the Federal Reserve is watching closely; excess borrowing has historically shown up with higher prices.

The Personal Consumption Expenditure (PCE) price deflator, which tracks consumer price inflation more accurately than the CPI, rose 0.1% in September. That is the same as August. The PCE rose 2% on a year-over-year basis. That marks a slight slowdown in inflation on an annual basis but it will be short-lived as that deceleration in inflation was due to a temporary drop in prices at the gas pump.

The core PCE (excluding food and energy) rose 0.2% in September and held to the Fed’s target pace of 2% on a year-over-year basis. The return of core inflation to the Fed’s target is one of many reason that Fed officials feel comfortable normalizing monetary policy.

Bottom Line
Consumers were confident and continued to spend at a fairly strong pace despite a slowdown in income in September. The concern at the Fed is that such spending, coupled with expected bottlenecks due to supply chain disruptions, could trigger a corrosive overheating of inflation if not countered by slightly higher interest rates.

A rate hike in December is practically a done deal. The Fed is not trying to kill the economy. Instead, the Federal Open Market (FOMC) members are trying to pace us so that we can extend the length of this marathon we are now running. This economic expansion crossed nine years of age over the summer, making it the second-longest of the post-World War II era. The FOMC would like it to exceed the 1990s in length, which would mean the expansion would have to last beyond the summer of 2019.

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