Spending Gains Slow in July

Personal disposable income growth edged 0.1% lower after adjusting for inflation in July. Revisions for May and June were to the downside. Wages and salaries continued to rise along with payouts for unemployment benefits. Farm income and income from dividends dropped; some banks scaled back on their dividend payments to preserve capital in the wake of stress tests by the Federal Reserve.

Consumer spending rose 1.6% after adjusting for inflation. That marks a slowdown from the upwardly revised 7.1% inflation-adjusted pace of May and June, but is still strong. The largest gains were on motor vehicles and services. Spending on health care, food services and accommodation were the biggest contributors to the rise in spending on services as vacationers ventured out again. Physician and dental offices worked through backlogs that accumulated during lockdowns, while the number of elective surgeries also picked up at hospitals; some were temporarily suspended in some of the worst hot spots for the virus during July. Driving was seen as safer than flying, which helped to buoy gasoline usage during the month. Hotel occupancy rates picked up in June and July but remained well below the level prior to the crisis, especially in large cities. The National Park Services reported a surge in crowds over the period.

The personal consumption and expenditures (PCE) index rose 0.3% in July from June, with a rise in energy prices and big-ticket durable goods more than offsetting a sharp decline in food prices. Food costs surged in the immediate aftermath of the crisis as farms went bankrupt along with the restaurants they supplied; meat processors were also shuttered due to a surge in COVID-19 infections.

Spending on services continued to regain ground lost but is 8.6% below year-ago levels. Medical costs were a primary driver of gains in the service sector in July. A return of elective surgeries and fees that physicians and dental offices levied on patients to cover the higher costs of personal protective equipment (PPE) needed to protect them were drivers of those increases. The PCE index rose 1.0% from a year ago, up only slightly from the 0.9% annual pace we saw in June.

The saving rate fell to 17.8% in July from 19.2% in June. The saving rate peaked at a record-setting 33.7% in April during the height of lockdowns. Many have looked to elevated saving as a reason to remain optimistic as we move into August. The problem is the mismatch between who is saving and who needs it. Much of the rise in the saving rate can be attributed to a rise in saving by wealthy households, who are spending less in a world where social distancing is still necessary.

The core PCE index, which excludes food and energy, rose 0.3% in July but jumped 1.3% from a year ago. Those gains are still tepid and well below the Federal Reserve’s 2% target, which it has been unable to hit. This week, the Federal Reserve Chairman, Jay Powell, solidified the Fed’s commitment to overshoot on inflation before raising rates. The goal is to allow unemployment to fall low enough to lift the fortunes of the most marginalized workers before policy makers worry about inflation. This contrasts sharply with the view the Fed had during much of the time Alan Greenspan was chairman; he led preemptive rate hikes to curb inflation.

Bottom Line
Stimulus payments and supplemental unemployment insurance (UI) payments helped spending to rebound rapidly in the wake of lockdowns; those gains were carried into July. The question is, can they be maintained since extended unemployment benefits ended at the start of August? Credit card usage slowed dramatically in late July and August despite the high saving rate and efforts to pay down debt with stimulus checks earlier in the crisis. Some big-box discounters have already reported a sharp drop in spending by customers since the lapse in unemployment benefits.

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