Lapse in UI Benefits Hits Incomes

Disposable personal income fell by 3.5% in August after adjusting for inflation. The lapse in the $600 per month supplements to unemployment insurance was partially offset by an improvement in wages and salaries and farm income. Temporary census hires added to the improvement for the month, but the ranks of those workers were already shrinking in September. Data for July income was revised up only slightly.

Personal consumption expenditures (PCE) slowed to a 0.7% pace after adjusting for inflation, 0.4% behind the downwardly revised pace of July and a sharp slowdown from May and June. A rebound in spending on services - travel and tourism and health care - was tempered by a drop in spending on nondurable goods, most notably food. Sadly, food expenditures is where we expected to see the largest blow due to the loss in unemployment insurance. This was evident in a sharp drop in spending at grocery stores in the retail sales data for August.

The PCE index of inflation rose 0.3% in August and was up 1.4% from a year ago. That is the fastest year-over-year change in PCE that we have seen since before the onset of COVID-19 in February, but it is still well below the Federal Reserve’s 2% target. A sharp jump in goods prices, which is where high-income households have been spending aggressively, accounts for much of the acceleration in inflation on a year-over-year basis. The core PCE index, which strips out the volatile food and energy components, rose 0.3% in August and jumped 1.6% from a year ago. That is also the hottest core rate for inflation since February.

The Federal Reserve has said that it would allow inflation to modestly overshoot its 2% target for a period of time if that brought unemployment down faster. Fed Chairman Jay Powell has said he would like to see 3.5% unemployment again, especially if that meant that low-wage workers would see more substantial wage gains. A flare in inflation would be much harder for the Fed to tolerate, especially if it occurred because of supply disruptions and destruction created by the crisis. We will have to watch the trajectory of inflation closely as we move into the fourth quarter, especially if Congress does not step in to provide more support for households and firms on the brink of failure.

The saving rate fell to 14.1% in August from 17.7% in July. That is still well above the 8.3% saving rate in February prior to the crisis. Much of the rise in saving is due to the fact that consumers can’t spend on services in the way they once could. Stimulus checks and supplements to unemployment insurance added to the saving rate but much of that saving was depleted by the end of August. The only thing helping in September will be the temporary $300 per week that most but not all states received via executive order.

Bottom Line
The lapse in the supplements to unemployment insurance hit incomes harder than spending in August, but the place was most disturbing. Food insecurity worsened. This is further evidence that momentum in the economy slowed as we reached the end of the summer. That won’t stop us from having a robust third quarter, but it could undermine growth in the fourth quarter before we have had a chance to get out of the economic canyon created by COVID-19.

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