By Yulia Almazova
Economists expect the February Personal Income and Outlays report to show continued but modest growth in consumer spending, even as the data depicts an economy before the war in Iran upended global markets.
The consensus expects personal income growth to slow slightly from 0.4% in January to 0.3% in February. Core personal consumption expenditure, measuring price changes for goods and services, excluding volatile food and energy costs, is expected to hold essentially flat at 3.0% – still a full percentage point above the Fed’s target.
Headline PCE will likely look better than core tomorrow because February energy prices were still relatively calm before the Iran war. But core is the number that will move markets and Fed expectations. If tomorrow’s release shows a flat core PCE year-over-year, it will put the Fed’s fight against inflation at an effective standstill, holding policymakers in a bind until the data changes. Despite the Fed’s uncertainty, economists are expecting consumer spending to continue performing well.
“Consumers are probably going to be more inclined to look through this rather than retrench right away”, said Tom Simons, senior economist at Jefferies.
Note on Today’s Political Context: Pre-Iran War Capture of the Economy
Like Thursday’s trade report, the February Personal Income and Outlays release is essentially a flashback to a different economic climate – a time before the U.S. and Israel launched military action in the Middle East, sending oil prices surging and stock markets into volatility. Despite today’s uncertainties, economists are not alarmed at the future fallout from the war becoming a detrimental threat to the U.S. economy. Nevertheless, this context matters in reading data on consumer behavior in tomorrow’s report.
The Fed’s Inflation Dilemma
Core PCE sitting flat at 3.0% and a full half-point above core CPI at 2.5% creates a “divergence dilemma” for the Fed – when the CPI and the PCE measures progress in different directions, the Fed is more likely to remain at a standstill until a clearer pathway is available.
If tomorrow’s report confirms expectations, the Fed is predicted to abstain from cutting rates at least through September.
“The Fed is in a difficult spot right now with pressures from both ends,” said Oscar Munoz, Chief US Macro Strategist at TD Securities, “We don’t want to see stagnation continue long-term.”
Middle and Lower-Class Wages
Average hourly earnings have been rising around 3.5% year-over-year, which technically puts workers slightly ahead of a 3.0% PCE – that thin margin begins to disappear for lower and middle income households. The majority of U.S. households spend a larger share of their income on: food, energy, healthcare – with spending in those spheres expected to continue showing growth.
Government wages and salaries, especially in the healthcare sector, have been a small but consistent contributor to personal income growth throughout last year. Any softening there, combined with tepid private sector wage growth in goods-producing industries, could signal that the income foundation supporting consumer spending is beginning to crack as rising energy costs are adding more pressure on general consumers.
The Saving and Spending Rates
The savings rate hit a low of 3.6% in December before bouncing back to 4.5% in January – a jump driven largely by a tax withholding revision and a Social Security cost-of-living adjustment. If the saving rate retreats again in February, it would suggest consumers are increasingly tapping into their savings to upkeep their spending habits. Economists warn that this pattern is ultimately unsustainable.
Wealthier households drive an outsized share of consumer spending, and are holding up the aggregate numbers in the economy.
“It is not too likely that the majority of the wealthy households think that something in the market has changed permanently” said Simmons, predicting consumer spending to continue growing.
The Bureau of Economic Analysis releases the report Thursday at 8:30 a.m. EST.