U.S. consumer spending rebounds, but high inflation cooling demand

By Lucia Mutikani

WASHINGTON (Reuters) – US consumer spending rose more-than-expected in August, but stubbornly high inflation is dampening demand and potentially limiting an expected recovery in economic growth this quarter.

Friday’s Commerce Department report also showed that underlying inflationary pressures have been building over the past month, providing cover for the Federal Reserve to remain on its aggressive monetary tightening path.

Wage growth also appears to be slowing and consumers are using excess savings to offset high prices. This, combined with stiff Fed rate hikes, has increased the economy’s vulnerability to a recession next year.

“More pain lies ahead as the economy heads into a moderate slowdown in the first half of next year,” said Sal Guatieri, senior economist at BMO Capital Markets in Toronto. “This will eventually cool inflation, but not before the Fed can tighten a few more moves.”

Consumer spending, which accounts for more than two-thirds of US economic activity, rose 0.4% last month after falling 0.2% in July. Economists polled by Reuters had forecast consumer spending to rise 0.2%.

Revisions to the 2017 data showed that consumer spending was slightly stronger than previously thought and savings levels were lower. Part of the increase in spending last month reflected higher prices, particularly for homes and utilities.

Spending was led by services, where spending rose 0.8% after rising 0.1% in July. There were also increases in spending on transportation services, health care, and restaurant, hotel, and motel accommodation.

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Spending on leisure services, however, fell, a sign that consumers are reining in their discretionary spending.

Merchandise spending declined 0.5%, dampened by a decline in service station revenues amid lower gasoline prices. Merchandise spending fell 0.7% in July. There were also declines in spending on leisure items, another indication that consumers were reducing their discretionary spending. Spending on furniture and other durable goods declined.

But spending on motor vehicles increased. Overall spending is shifting from goods back to services.

Gasoline prices fell 11.8% in August from July to $3,691 a gallon, according to data from the US Energy Information Administration. On the inflation front, however, this offered little relief over the past month as service prices rose by 0.6%.

The personal consumption expenditure (PCE) price index rose 0.3% after falling 0.1% in July. In the 12 months to August, the PCE price index rose 6.2% after rising 6.4% in July. Excluding the volatile food and energy components, the PCE price index rose 0.6% after remaining flat in July. The so-called core PCE price index rose 4.9% year-on-year in August after rising 4.7% in July.

The Fed tracks the PCE price indices for its 2% inflation target. Other measures of inflation run much higher. The consumer price index rose 8.3% yoy in August.

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Wall Street stocks were mixed. The dollar rose against a basket of currencies. US Treasury yields fell.

SLOWING WAGE GROWTH

However, inflation has probably peaked. A separate report on Friday showed that the University of Michigan survey’s one-year consumer inflation expectations slipped to 4.7% in September. That was the lowest reading since September 2021 and down from 4.8% in August. The survey’s five-year inflation outlook fell to 2.7% from 2.9% in August, falling below the 2.9% to 3.1% range for the first time since July 2021.

The Fed raised interest rates by 75 basis points last week, the third straight hike of this magnitude, and announced more big hikes for this year.

Since March, the US Federal Reserve has raised interest rates from near zero to the current range of 3.00% to 3.25%. Last week, the Fed raised its median forecast for core PCE inflation to 4.5% this year from its previous estimate of 4.3% in June. Its estimate for 2023 core inflation has been raised to 3.1% from the 2.7% previously forecast in June.

High inflation limits spending. Inflation-adjusted consumer spending edged up 0.1% in August after falling 0.1% in the previous month. This suggests that consumer spending could be subdued this quarter, having helped mitigate the drag on GDP from a slowdown in inventory building in the second quarter.

Consumer spending grew at a 2% annual rate in the second quarter. The economy contracted 0.6% in the most recent quarter after contracting 1.6% in the January-March quarter. Goldman Sachs cut its third-quarter GDP growth forecast by 0.5 percentage points to 0.9% on spending data.

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Growth this quarter is mainly driven by a narrowing trade deficit. A build-up of inventories, some of which are unsold goods due to slowing demand, should also support GDP growth this quarter.

“The near-term outlook remains modest at best,” said Scott Hoyt, senior economist at Moody’s Analytics in West Chester, Pennsylvania. “Rising interest rates will make new borrowing more expensive and undermine spending on large items normally bought on credit.”

Consumer spending is likely to remain moderate, with wage growth showing signs of slowing. Personal income rose 0.3% in August, matching the previous month’s gain.

Wages rose 0.3% after rising 0.8% in July. The savings rate remained unchanged at 3.5%. The savings rate for July was cut to 3.5% from a previously reported 5.0%. The savings rate in March 2021 was 26.3%. It is now near the level of the Great Recession of 2007-09.

“It looks like consumers have been using up the ‘excess savings’ built up in the earlier stages of the pandemic to spur recent spending,” said Daniel Silver, an economist at JPMorgan in New York.

(Reporting by Lucia Mutikani; Editing by Chizu Nomiyama and Andrea Ricci)