The latest reports from the Bureau of Economic Analysis on economic growth and personal income and spending have, on the surface, appeared to show improvement. Spending is up more than expected and economic growth is clipping along at a 3% annual growth rate in the fourth quarter. That is the good news. As we have discussed in the past the consumer is the key to this whole economic equation. Consumption is 70% of the economy and, as long as the consumer has the ability to consume, the economy can chug along. However, therein lies the dysfunction as well.
The first chart shows GDP on a 10 year rolling percentage change basis. That massive decline in economic growth occurred even as consumption expanded from below 60% to over 70% of the economy. The belief is that expanding consumption should drive stronger economic growth but in reality the strongest economic growth was occurring while spending and debt levels remained at lower ranges and savings rate were high. Savings, as a function leads to productive investment as money is loaned to businesses for expansion or startup, real estate development, or the purchases of equipment. In turn production is increased which leads to higher levels of employment and income. During the 60-70's savings rates ranged between 6% and 15% versus 3.7% today.
Today, the belief is that if the system is flooded with cheaper dollars that the near-term dysfunction of the economy can be fixed through a consumption driven recovery. The problem, however, as we just discussed, is that production must come first. Production is the real source of healthy consumption in the economy. The debt driven consumption of the 80-90's was a slow moving cancer through the economy. Debt has to be serviced which, as debt levels increased without commensurate increases in income, diverted more and more income away from savings and ultimately productive investment.
The problem is that with the media viewing data from only one month, or quarter, to the next the long term trends are being missed.
Incomes On The Decline
In order for consumers to continue to consume at rates high enough to support long term economic growth they need increasing wage growth to offset the effects of inflation over time. This is currently not the case. In fact wages have been stagnant and declining since October of 2010. As of today's latest read - the year over year change in real disposable incomes fell 50% from where it stood in January. Even on a monthly basis real disposable incomes fell in both January and February. Mortgage and debt payments, insurance, utilities, food and auto payments must be met every month and these are just the bare essentials that consume a very large portion of the monthly household budget.
Food & Energy On The Rise - Savings On The Decline
Therein lies the obvious problem. As the rate of increase in income declines as food and energy costs rise - the deficit between income and expenses is made up with either decreased personal savings, increased debt or both. However, with credit tight, limited savings and engaged, either by force or choice, in debt deleveraging - consumers are struggling with higher food and energy prices as they try to maintain their current standard of living.
