The stock market cheered consumer spending data on Monday. “Stocks in U.S. Rise as Consumer Spending Report Boosts Economic Optimism“, gushed Bloomberg, and quickly followed it up with “U.S. Consumer Spending Climbs a Fifth Straight Month as Recovery Quickens.“ The Wall Street Journal also ran a piece on the Personal Income and Outlays release this morning on page A6, for those of you who still read a physical paper (we still do). Personal spending rose 0.3% in nominal dollars in February over the prior month, in-line with expectations, while personal income was flat. Not surprisingly, the personal savings rate fell to 3.1%, levels not seen since late 2008. “The consumption numbers look pretty healthy,” according to an economist quoted in the Wall Street Journal article referenced above. While it is true that ours is an economy driven by consumer spending, and many look to data on aggregate spending and retail sales as indicators of an economic turnaround, we have instead chosen to focus on the driver of sustainable spending: income. We hope this has the effect of washing out the noise of one-time stimulus-related spending, and it probably does. We would struggle to label consumption “healthy” if it isn’t being supported by income.
However, on a short-run basis, income has seemingly lost any predictive power on consumer spending, and has even ceased to serve as an upper bound.
Real consumption is effectively back at pre-recession peaks, down only 0.10% from the 2007 top and currently on the rise. Meanwhile, real ex-transfer income is down roughly 7% from its peak and has remained stagnant for half a year. In the pre-war period, we’ve never experienced anything like the current situation where real consumption is greater than real ex-transfer income. This is, of course, due in part to the record level of unemployment benefits currently being paid (which are included in transfer payments). Total real transfer payments rose to over $2 trillion for the second time ever, on an annualized basis. The last time was May of 2009 on the back of the $250 checks given out as part of the American Recovery and Reinvestment Act of 2009. This month, transfer receipts eclipsed the $2 trillion mark without help from any one-offs, and transfers as a percentage of income remained above 18%.
We simply cannot get excited about increases in consumption when income is so reliant on unprecedented government life support. However, something about the above chart says “secular trend.” We have been using real income less government transfer payments as our measure of “organic income,” but going forward this metric may behave differently than it has historically. The lion’s share of transfer payments, nearly 55%, is related to social security, Medicaid/Medicare, or similar benefits. Since the late 1960’s, this has been the norm. In fact, the overall makeup of government social benefits has changed little since data began being tracked. As you will see below, government social benefits are broken out into three buckets: old age/survivors/disability/health insurance (which includes Social Security, Medicaid, etc which I’ve labeled “Social Security, et al”), unemployment insurance, and a catch-all “other” bucket.
The mysterious “other” category contains all manner of things: food stamps, educational benefits, income maintenance programs, as well as the random stimulus-related benefits. You’ll see the spike in May of 2008 related to the Economic Stimulus Act of 2008, and the May 2009 bump-up from the aforementioned American Recovery and Reinvestment Act of 2009.
Despite the fact that the makeup of the transfer payments hasn’t changed meaningfully, the overall level of transfers has increased drastically (as you can see in the second chart above). As our population ages and begins to draw more heavily on social programs, we may need to adjust our thinking about what “organic income” really means, and how it will relate to personal consumption expenditures.
In lieu of a conclusion, we will state that transfer payments are labeled as such because they are a transfer of wealth from one group to another, and are not costless.
Mr. Roche is the Founder and Chief Investment Officer of Discipline Funds.Discipline Funds is a low fee financial advisory firm with a focus on helping people be more disciplined with their finances.
He is also the author of Pragmatic Capitalism: What Every Investor Needs to Understand About Money and Finance, Understanding the Modern Monetary System and Understanding Modern Portfolio Construction.