Getting It Right - Significant Underestimation Of Income

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by: Steven Hansen

Summary

Most have heard of the comprehensive update for GDP and Personal Income and Expenditures.

The changes in trends were significant for personal income - which appears to have been significantly under-reported for several years.

The graphs below tell the story.

Annual revisions or updates of data usually involve small adjustments. But the latest update of the National Income and Product Accounts massively moved the sticks and changed trend lines. In brief, there was correction for a significant underestimation of personal income from small businesses and dividends.

Comprehensive updates of the National Income and Product Accounts (NIPAs) are conducted about every five years by the BEA. The major update this year was to income - with relatively little adjustment to expenditures. This update affects the Bureau of Economic Analysis' (BEA) GDP and Personal Income and Expenditures. From the BEA:

Revisions to nonfarm proprietors’ income for 2007-2017 primarily reflect revisions to estimates of underreported income. Estimates of underreported income for nonfarm proprietors are revised based on newly available Internal Revenue Service (NYSE:IRS) tax gap data, which is a component of the IRS’ National Research Program.

Revisions to personal dividend income in 2016 and 2017 primarily reflect the incorporation of newly available IRS Statistics of Income data.

The personal saving rate was revised up 1.4 percentage points to 6.4 percent in 2013, up 1.6 percentage points to 7.3 percent in 2014, up 1.5 percentage points to 7.6 percent in 2015, up 1.8 percentage points to 6.7 percent in 2016, and up 3.3 percentage points to 6.7 percent in 2017.

From 2012 to 2017, the average annual rate of growth of real disposable personal income was revised up 0.4 percentage point from 1.8 percent to 2.2 percent.

Just to get a feel of the outrageous change in income - here are before and after graphs. Pay special attention to the changes after 2016.

Growth of Real Disposable Income (blue line) to Real Expenditures (red line)

before revision

Current

Seasonally Adjusted Spending's Ratio to Income (a declining ratio means consumer is spending less of its Income)

before revision

current

Personal Savings as a Percentage of Disposable Personal Income

before revision

current

In summary the new "reality" is:

  • the savings rate for individuals is no longer at historic lows and is about average to the levels seen since 1990.
  • the relationship between personal spending and income is no longer at historic highs (meaning the consumer formerly was spending too much against historical norms) and now is about average to the levels seen since 1990.

What is the use of producing data if you cannot get it right? Would we be better off if data were published every five years when it would presumably be more accurate?

One very important takeaway from the new data is that the current economic expansion may have more room to run. For almost two years now we have been saying that consumers spending more than they were making in income was unsustainable. Turns out that they have been living more within their means than we thought and sustainability is less of a concern.

My usual weekly wrap is in my instablog.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.