The GDP data released this morning confirmed that the U.S. economy slowed to a crawl in the first quarter of 2015, growing just 0.2 percent. More troubling, at least in some ways: The Conference Board's Consumer Confidence Index unexpectedly declined this month. Ominously, the weakness was driven by worries over the health of the job market. Both current conditions and future expectations fell in the report released yesterday, with the latter dropping to levels not seen since September.
That suggests that the surprisingly weak March payroll report — in which just 126,000 nonfarm jobs were created vs. the 247,000 analysts were expecting — wasn't just a weather-related fluke. For some reason, the weakness is continuing into the spring. And that, obviously, is a problem.
The problem has manifested via a dramatic four-month slide in retail sales, as shown in the chart below. While the drop in consumer confidence has been a problem, it's relatively stable compared to the way consumers have snapped their wallets shut.
The hope is that long-hoped-for wage inflation will materialize and turn this around. Societe Generale economist Aneta Markowska is confident. She's keeping an eye on three data points in particular in the weeks to come for evidence of this.
The first is the April jobs report to be released on May 8. She expects payroll gains well in excess of 300,000 (vs. 126,000 in March) and a further decline in the unemployment rate from its current level of 5.5 percent.
Specifically, she thinks the economy created 315,000 jobs in April — the best result since December and more than double March's gain. This is based on initial jobless claims (which recently dropped to match the cyclical low recorded in February), warmer weather and the calendar effect from the fact that April is a five-week month.
The second is the read on wage inflation from the Employment Cost Index for the first quarter, to be released on Thursday. Assuming a 0.7 percent sequential increase in the first quarter, which would match the average of the past three quarters, the year-over-year growth rate in labor costs (a proxy for wages) would accelerate from 2.3 percent to 2.8 percent, representing the best gains since 2008.
And finally, the April retail sales report due in mid-May should confirm that the tightening job market and nascent wage gains are translating into increased consumer spending now that winter's chill has faded.
The reason that wage inflation is so key to the turnaround story is that pay has been lagging behind key spending categories such as health care and housing. Bank of America Merrill Lynch estimates that 20 percent of household spending goes to health care services and pharmaceuticals, up from 6 percent back in 1960. The rise has been offset by a decline in share of spending in other categories such as food and beverages, clothing and furniture.
Changes to the health care system mean that households increasingly shoulder the cost of their care, from higher insurance premiums to higher co-pays and deductibles. These changes are so recent that there isn't a good data series available yet to quantify the change; only anecdotal observations.
Ed Yardeni of Yardeni Research highlights the fact that American consumers now spent a record $8,066 per capita annually on health care, but this data is showing total spending without information on the allocation of payments made by governments, insurance companies and consumers. But, in his words "Thanks to Obamacare, we are all paying more to the piper."
As for housing, the chart above shows how the rise in average hourly earnings has badly lagged the rise in total shelter costs since housing started to bounce back in 2012.
Capital Economics believes that rental inflation could soon reach a 25-year high, worsening the squeeze. This is based on data from the Census Bureau's latest vacancy figures, which suggest rents are about to accelerate to the upside: Vacancies are still close to a 20-year low.
At the same time, demand is set to rise, with the household formation rate increasing after a long, post-recession slumber during which Millennials shacked up with friends and family.
A bounce back in wages would help reverse these drags. And it could also lift sprits and turn confidence back around. A recent study by Brookings found that poverty and squeezed budgets does in fact lead to pain, worry, sadness, stress and anger.
It would also help close the inequality gap by helping labor's share of income recover (at the expense of corporate profitability).
As you can see in the chart above, labor's share of income has been in a secular decline since the bursting of the dotcom bubble. That's fueled a chorus of problems for the economy, from a growing divergence in wealth to overreliance on debt and still high levels of enrollment in social assistance programs like food stamps.
Over the next few weeks, we'll learn if consumers are finally about to enjoy a lift.
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