The Economic Impact Of Decreased Tax Refunds Is Likely To Be Significant

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by: New Deal Democrat
Summary

As a result of the new tax law of 2017, tax filers are getting on average $170 less in refunds.

Since there are about 140 million tax filing units, that amounts to $24 billion.

This is about 0.4% of the total amount of retail sales in the last 12 months.

A decline in that amount of retail spending over the next several months would have significant implications.

Introduction

It turns out that the recent brouhaha about how the tax law changes are affecting refunds may have a substantial effect on consumer spending.

The estimated total decline in the amount of refunds is about -0.4% of annual retail sales

Here’s the math: according to CNN, the average refund is down -8%, or about $170 per tax filer. Further, according to the most recent IRS data, the total number of tax filing units in the US is 140 million. That means that the total decline in the amount of tax refunds is approximately $24 billion.

So, how does that amount compare with the total amount of retail spending monthly and annually? Let’s go to the graphs.

Here is total nominal retail spending, both seasonally adjusted and non-seasonally adjusted:

Over the past 12 months, retail spending per month has averaged about $460 billion, for an annual total (through November) of $5.4 trillion. The reduced tax withholding has been in effect for one year now.

So, have the extra dollars in workers’ paychecks been saved or spent? Accounting to the personal savings rate, the answer is clear:

Not only has it been spent, but the savings rate actually decreased over the past 12 months.

By process of simple division, it appears that retail sales over the last year were only affected slightly on a monthly basis, to the tune of about 0.45% of the annual total, or less than 1/2 of 0.1%.

But on the other hand, real retail sales through November grew at 2.0% YoY, or just 1.5-1.6% YoY without the tax withholding spending - the lowest since 2016:

The next question is, how will consumers react to the lower refunds? If they cut back on their purchases over the next 3 or 4 months, again by the process of simple math that will be a loss of -0.1% to -0.2% over each of those months.

Finally, this creates an interesting real-world behavioral economics experiment. Will workers affected by this decrease the number of their exemptions in order to get a refund next year, or will they leave their withholding status alone?

The behavioral literature suggests that they will not change their withholding status for two reasons: (1) inertia; and (2) aversion to realizing a loss, hoping that the situation will resolve itself within the next year.

Conclusion

Over the last six months, real retail sales per capita have only increased between 0.1% and 0.2% a month:

Should the trend continue, an equivalent decline caused by decreased tax refunds would probably be enough to tip this long leading indicator at the very least neutral.

And because, although the relationship is noisy, real retail sales tend to lead employment by a few months, that would mean a significant deceleration in monthly jobs growth as well.

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 (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.