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Economic Growth Is All on You, Consumer: The Fed

Last Updated September 23, 2020 12:59 PM
Harsh Chauhan
Last Updated September 23, 2020 12:59 PM

Consumer confidence in the U.S. has held steady  and spending has increased despite a slew of negative signs that point toward an economic slowdown. Federal Reserve officials admit that consumers are alone in carrying the burden of the economy.

Consumers are spending more despite headwinds

According to Federal Reserve Bank of New York President John Williams cited by Bloomberg :

“The consumer is now carrying all of the weight, or much of the weight, for growth going forward. One thing, though, about consumer spending that you have to be careful about is it’s not really a leading indicator.”

Williams’ comments are right on the money, as the consumer confidence index  for the month of August came in at 135.1. This is slightly lower than the July reading of 135.8 but well ahead of the 129.5 reading that economists polled by Reuters were expecting.

What’s more, real personal consumption expenditures  for Q2 2019 increased by 4.7 percent. That’s a significant jump over the 1.1 percent growth seen Q1 of this year and is the highest reading seen since Q4 2014 when the metric had increased 4.9 percent.

Graph showing real personal consumption expenditures.
Real Personal Consumption Expenditures grew at a nice clip in the second quarter. | Source: U.S. Bureau of Economic Analysis  

Consumer spending accounts for 68%  of the U.S. economy, so an uptick in this reading is great news for the Fed. After all, signs of a slowdown in other sectors such as manufacturing and housing indicate that the U.S. economy could be headed toward a recession.

According to the Institute for Supply Management (ISM), the U.S. manufacturing Purchasing Managers’ Index (PMI) dropped  to 49.1 percent in August. A reading lower than 50 percent indicates that manufacturing activity is contracting. What’s more, this is the lowest reading in more than three years.

It is likely that the Fed’s decision to slash the short-term interest rate by 25 basis points has been a tailwind for consumer confidence.

Fed officials fear that consumers could blink soon

Fed officials believe that other indicators give us a better picture of where the economy is heading. But they will be keeping a close eye on consumer spending patterns because a slowdown in this metric could signal that we might be heading toward a recession. According to Williams cited in Bloomberg:

“We’ve really seen some slowing in business investment. We’ve seen slowing in export growth. We’ve seen slowing in manufacturing,”   “[This data] maybe giving a little bit more of an indication of where things are going.”

Dallas Fed chief Robert Kaplan is reportedly wary  that weakness in other economic indicators could eventually reflect on consumer spending. He warns that the Fed and other policymakers should not wait for consumer spending to weaken and take proactive steps to keep it in good health.

The Fed is anticipated  to slash interest rates by a quarter-point once again this month, and that could give consumer spending a shot in the arm. But if consumer spending starts slowing down thanks to the slowdown in other sectors, the only catalyst driving the U.S. economy could go away and, if prognosticators are right, send the U.S. into a recession.