The recovery is struggling for direction as we head into the summer months. After an encouraging start to the year that was marked by the strongest private sector job growth since early 2006, data on hiring and business activity have become more difficult to digest. Even as business profits and confidence have firmed, the job market slowed abruptly in March and again in April. Following six consecutive months of improvement, April’s index of leading economic indicators declined. Strains from Europe’s failure to resolve its sovereign debt crisis have dampened the bull run in U.S. equities, erasing recent gains and driving up measures of volatility and financial stress. The recession may have been over for longer than it lasted, but the recovery’s inflexions have underscored that it remains tenuous.
Amidst the competing forces and conflicting data, consumers have re-emerged as stalwart contributors to activity. That has come as a surprise to many economists who bet that sustained improvements in home values and hiring would precede consumer activity. The U.S. consumer is a fickle beast and has responded to the first-quarter market vagaries, including the rise in oil prices, with a rebound in sentiment. Rather than a new American consumer, disabused of the notion that heavy borrowing bears no consequences, the old consumer has reasserted himself in force. More confident in the outlook and weary of an austere household budget, he has pushed savings rates lower and boosted his draws on credit.
Historically low interest rates have cushioned consumers against the immediate impact of borrowing to fund auto purchases and college educations. But the unforgiving macroeconomic conditions that have kept interest rates low will not persist indefinitely. Nor will consumers be able to encumber themselves to the point of obvious overburden if the government acts in loco parentis under the auspices of consumer financial protection. For current retail trends to be sustained, consumers will have to rely to a greater extent on income and to a lesser degree on debt.
Broad-based income gains can only follow from a healthier job market, tying retail outcomes back to hiring. The connection should be obvious, but the recent enthusiasm of retail sector investors points to a degree of cognitive dissonance. In fact, income gains will have to be larger than in the past, reflecting that some discretionary spending will find its way out of the bricks and mortar channel and into online sales. Other dollars will be reallocated to higher rents as housing competes for more of the after-tax pie.
As we approach the federal election, the politicization of policymaking is rising to ever-greater heights of risibility. If the employment recovery was outside the scope of a government that did not make it the chief priority before, we cannot reasonably anticipate a compromise breakthrough under prevailing conditions.
On an adjacent front, however, a decision will be forced on the share of income that ends up in consumers’ pockets. Left unattended, the year-end “fiscal cliff” will see the Bush-era income tax cuts and the current payroll-tax holiday expire just as meaningful spending cuts go into effect. The Congressional Budget Office estimates that that scenario would cut growth to 1.1 percent in fiscal year 2013 and unemployment would rise. The retail sector would bear the brunt of a sudden drop in disposable income. Such austerity could right our fiscal ship if only we had the resolve to test the medicines we prescribe to our European friends.
Congress’ track record suggests that a solution will be brokered at the 11th hour and that it will extend the status quo rather than seek to address the issue conclusively before a new president is elected or the incumbent returns to the White House. Indecisiveness is a threat to all of us, however, including the retail sector. As Fed officials observed at their most recent rate-setting meeting, “uncertainty about the trajectory of future fiscal policy could lead businesses to defer hiring and investment.” Did you know that economists had also mastered the art of diplomacy? In a different world, they might offer a more stinging rebuke and remind us all of the high costs of accomplishing nothing.
Sam Chandan, PhD, is president and chief economist of Chandan Economics and an adjunct professor at the Wharton School.