Chris B

Consumers Spending Less Than Justified by Actual Income

The consumer savings rate is reverting to the long-term mean, rising from 0% to about 10%. This alone can explain the widening gap between income and spending. As I've said before, these savings will come directly out of consumption, which is currently 70% of GDP, resulting in about a 7% decline in GDP before the effect of other factors. There is a decent chance that reversion to the mean will lead to an overcorrection, and the savings rate going to 15% or 20%. If that occurs, there will be a lot of retail space for rent and a lot of unemployed people.

Add in the following factors and you have a strong case for an overcorrection in the savings rate:

1) Baby boomer demographics. Their income and access to credit is about to dry up. Their retirement portfolios have just dropped 40% and their home value just dropped 15-20%. They have only a few more years of working and saving left that will have to fund the next 30 years of their retirement and the possibility of a difficult-to-recover-f... layoff is looming. Splurging on luxuries will not be a priority.

2) High consumer debt. What would happen if the average American cut spending and managed to pay off just 25% of their credit card debt this year? The result would be a trillion dollar tsunami that would swamp every retailer.

3) High student loan debt. Expect the 20-30 year old crowd to save the economy? Think again. Decades of 15% inflation in college tuition and the defunding of the Pell Grant program in the early 90's mean that many young people with college degrees have tens of thousands of dollars in debt to pay off. This plus the prospect of a layoff constrains their ability to take advantage of fire sales in retail, real estate, and investments.

4) Stagnant wages. You've heard the statistic before. Real wages (after inflation) have not increased in a decade. Where else could growth in spending possibly come from?

5) The Loss effect. Given the investment losses of 2008, the only way many small investors will be able to acheive their goals is by increasing their savings rate. Plenty of 10-year plans that assumed 7-10% YOY growth have become impossible to acheive. This is similar to the Baby Boomer effect but includes ANY investor with a goal, without consideration to the specific challenges facing Boomers.

6) Demographic Graying. Japan's high savings rate is partially due to the large number of retirees living on fixed incomes. The US is now approaching their demographic makeup. Simply put: old folks don't buy as much stuff as younger folks. Their income isn't high enough and they already have enough junk to last a lifetime!