Consumers say they're upbeat, but their receipts say otherwise
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Consumer confidence remains at a near-17-year high, signaling steady optimism in the health of the domestic economy, as well as heightened expectations for future growth and prosperity. Anticipation of better times ahead, however, can mask mediocrity only temporarily, and with a more modest reality setting in, momentum is already poised to the downside, dragging down some indications of sentiment to the lowest level since before the election.

In the absence of improving labor market conditions, particularly from still-modest growth in wages, as well as stalled policy action in Washington, consumers will struggle to maintain current levels of optimism going forward, let alone arouse a further improvement in confidence.

Despite reports of a generally positive assessment of domestic economic conditions, however, consumers are already curtailing their spending patterns and reducing overall purchases. In other words, consumers themselves may not be buying what they’re selling, saying one thing and doing quite another. While consumers report still-solid confidence in the economy and their own financial footing, a decline in retail spending indicates contrary behavior.   

Consumer Confidence

According to the Conference Board, consumer confidence remains well-supported at near-peak levels. Slowing modestly from a post-election peak of 124.9 in March, the latest July release reported a reading of 121.1, the second-highest reading since the end of the Great Recession and the 12th-consecutive reading above 100.

According to the University of Michigan's Consumer Sentiment Index, however, consumer optimism, while still elevated, has taken a more meaningful step down from a first-quarter peak. Reaching 98.5 in January, UMich Sentiment has given back nearly all its post-election gains, falling to 93.4 as of the latest July report, a nine-month low.

Still well-improved from an October 2016 low of 87.2, the loss of positive momentum suggests consumers may be bleeding confidence in the prospects for further strength of the U.S. economy, as well as the underlying conditions to support their financial prosperity going forward.

Declining Expectations

Buoyed by promises of a pro-growth agenda early on, there is little doubt the more recent decline in consumer expectations stems from a lack of policy action in Washington. At the start of the year, the euphoric prospect of meaningful fiscal reform translating into increased prosperity and wealth opportunities fueled American optimism.

At this point, however, visions of tax and healthcare reform are rapidly dwindling; consumers are losing hope for any major boost from policy action from the Trump administration in the remaining four months of the year.                                 

While political inaction has weighed heavily on expectations, consumers’ positive assessment of current conditions remains supported by a generally optimistic view of market opportunities. Still-historically low rates, underperforming inflation and modest-but-positive wage growth have continued to fuel sentiment. Rapid wage growth in particular drove much of the momentum early on at the start of 2017. But while sizable improvement in earnings served to reinforce consumers’ confidence, as income growth stalls, so too will sentiment.

Rising to a recent peak of 2.8 percent back in February, average hourly earnings were a primary support to consumer sentiment at the start of the year. Wages, however, while still positive, have slowed to 2.5 percent as of the July employment report, only marginally above the 2.1-percent average established post-recession.

Without meaningful and sustained improvement in labor market conditions, particularly in terms of rapid growth in wages, consumers are likely to not only trim confidence levels but spending activity, as well. 

Spending

At this point, consumers are already altering current behaviors in light of reduced anticipation of future improvement in economic conditions and financial prosperity. June retail sales fell 0.2 percent, the second consecutive month of decline and the third month of negative purchase activity in the past six. Indicating a weak finish to the second quarter, topline sales rose just 2.9 percent on an annual basis with declines in six of the 13 major categories at the end of Q2. 

On Tuesday, July retail sales are expected to rise 0.3 percent, a six-month high. The anticipated jump would be enough to pull the annual rate of expenditures up to 3.4 percent from 2.8 percent reported in June, albeit still noticeably below a 5.6-percent pace reported at the start of the year.

The bottom line is weaker retail spending figures suggest households are increasingly cautious about their spending activity. Reducing purchases of traditional discretionary items, behavior at odds with heightened optimism, indicates consumers may be reporting an inflated level of optimism relative to their economic reality. In other words, consumers may be reinforcing a twist to the age-old adage: “Do as I say, not as I do.”

Historically, consumer confidence has been a good predictor of consumer behavior. However, more recently, as consumers front more stable financial conditions and elevated confidence than that of reality, the correlation between the two has dwindled. 

Going forward, despite still-elevated levels of confidence and lingering expectations for additional domestic growth and more prosperous job opportunities, the more lackluster reality of modest income growth and tepid overall activity, as well as continued inaction in Washington, will continue to tame consumer behavior, eventually weighing down confidence and sentiment. 

Lindsey Piegza, Ph.D., is the chief economist for Stifel Fixed Income. She has had her research published in Harvard Business Review and in textbooks for Northwestern University's Kellogg Graduate School of Management. She's a regular guest on CNBC, Bloomberg, Fox News and CNN.


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