Monetary Policy & Inflation | US
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Cyber week (Thanksgiving to Cyber Monday) saw a 7.8% YoY increase in e-sales, while Black Friday saw a 1.1% YoY increase in in-store purchases. These are strong numbers when set against core goods YoY CPI of -0.1% in October. Here, I offer context for consumer strength and argue it is inconsistent with Fed cuts next year.
Real consumption is volatile on a MoM basis, but the trend shows an acceleration since Q4 2022 (Chart 1).
Consumption strength reflects strong growth in labour income, i.e., real wages and employment, as well as a low savings rate. Real labour income growth is volatile MoM, but the trend has remained in a 2.0-2.5% range for the past year or so, though below pre-pandemic trends (Chart 2).
This reflects a growth in total hours worked that has been slowing from the unsustainable highs of the recovery but remains comparable to pre-pandemic trends (Chart 3).
By contrast, real wage growth is still recovering (Chart 4). This reflects wages’ typically lagged response to inflation surprises. Continued labour market tightness is likely to see real wage growth catch up further and get back to the pre-pandemic trend of about 2%.
The other driver of strong consumption growth is the low savings rate. Initially, it reflected government windfalls in 2020 and 2021, as well as unexpected inflation (Chart 5). When inflation surprises households, they tend to maintain their real consumption and absorb the higher costs through lower savings. This has been facilitated by a recovery in consumer credit.
Households have plenty of room to borrow more. Relative to after-tax income, their debt is lower than before the pandemic! And despite the 525bp increase in the FFR since 2022, households’ debt service ratio is about the same as before the pandemic. Monetary policy tightening is not getting transmitted to the real economy. The Fed is unlikely to cut in 2024.
Dominique Dwor-Frecaut is a macro strategist based in Southern California. She has worked on EM and DMs at hedge funds, on the sell side, the NY Fed, the IMF and the World Bank. She publishes the blog Macro Sis that discusses the drivers of macro returns.
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