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Consumers Tap Savings to Cope with Inflation

RFP
Personal disposable incomes fell 0.4% after adjusting for inflation in March, the seventh drop during the last eight months. Some of those losses could be attributed to the expiration of pandemic aid; more recently, inflation was the primary reason for the decline.

The personal consumption expenditures (PCE) index jumped 0.9% in March and 6.6% from a year ago. That marks the hottest pace of annual PCE inflation since January 1982. The surge in food and energy prices exacerbated the rise in overall inflation.

Oil prices have at least temporarily moderated. The rise in food prices has some room to run. Ukraine was known as Europe’s breadbasket for the grains and agricultural products it produces. Fertilizer is in short supply, which will exacerbate food shortages this summer. That will widen the breadth of the humanitarian crisis triggered by the war in Ukraine.

Core PCE, which excludes food and energy and tracks prices the Federal Reserve can better influence, rose 0.3% in March and decelerated to a 5.2% annual gain. That is still multiples of the Federal Reserve’s 2% threshold and will not stop the Fed from raising rates aggressively and beginning to reduce the balance sheet over the next two months.

Inflation in the service sector is expected to accelerate in the months to come. We have yet to feel the full effect of the surge in rents and home prices, which were accelerating in the first quarter, while the upward pressure on medical costs is still ahead of us. Many hospitals are suffering losses due to the cost of treating COVID patients and the delays in elective surgeries. Staffing shortages and escalating wages are compounding those cost issues.

Personal consumption expenditures rose 0.2% after adjusting for inflation; a drop in spending on big-ticket durable goods was partially offset by the pivot into services. Travel, tourism and elective surgeries, which had been backlogged by the pandemic, all picked up.

The saving rate dropped to 6.2% in March and hit the lowest level since 2013 in the first quarter. Consumers are dipping into the savings amassed during the pandemic to keep spending afloat in the face of blistering inflation.

Separately, the employment cost index, which is a more accurate measure of aggregate compensation gains than average hourly earnings, accelerated 1.4% in the first quarter and jumped 4.5% from a year ago. That is the fastest annual pace of growth in the index since the tail end of the tech bubble; employers are feeling it. Profits are disappointing as growth in the areas boosted by the pandemic slow and costs, including labor compensation, pick up. The quarterly acceleration in compensation is the fastest in three decades.

Gains in wages for the private sector almost doubled the wage gains in the public sector. That has accelerated a move out of the field by educators who, along with health care workers, are dealing with burnout.

Gains in low-wage industries remained strong but are moving up the economic food chain to higher wage, entry-level workers. The margin squeeze and pivot into services by consumers away from online spending means that the large retail and tech behemoths are going to stop pushing up the floor for low-wage workers. Amazon announced that it was done staffing up with its most recent profit announcement.

Bottom Line
The increase in costs is now hitting profit margins, which along with expectation of rate hikes by the Federal Reserve, has roiled stock prices. It will be another extremely long and challenging year. Buckle up.

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