One of the biggest threats to the markets is failing a basic prudence check. The danger is that homes are among the most depressed since the University of Michigan introduced its long-running consumer sentiment index in the 1950s. When consumers are worried about their finances and the economy, spending automatically has to cut back on what brings a recession.
Conscience Check: Really? Worse when in a deep recession in 1974, queues of cars waited for hours for fuel, if it was even available? Worse when unemployment was nearly double the current level in 1980 and inflation was in double digits, with interest rates at 14.5%? Worse since the 9/11 attacks, or when the global banking system was on the verge of failure in 2008? come on.
There’s good news and bad news. The good news is that consumers don’t slash spending in line with what Michigan statisticians tell. The bad news is that it could be on the way.
Consumer confidence is an important input to economic models as a forecasting tool for consumption, the largest sector of the economy. This is even more important now because a great hope of surviving a recession is that families use the extra savings to keep up with spending.
The other long-running consumer survey, from the conference board, asks slightly different questions and passes a basic discretion test. Its current status index shows consumer confidence is higher than in some boom periods in the past, in line with consumer spending data—highest in April, adjusted for inflation—and with superlow unemployment.
The danger comes from its expectations index, which is falling. It has now reached several bearish levels in the past. It may all very well be a job and a solid income, but if you’re worried about the future, you probably aren’t going to go out and spend your rainy day money on a new couch, car, or vacation. are.
A super-basic alternative measure of unhappiness is the Misery Index, which is the simple sum of the unemployment rate and inflation. Unemployment puts them out of work and adds to the concerns of the workers. But high inflation also affects people with secure jobs.
Rising consumer concerns are bad enough in normal times. They are now a particular concern because of the hopes that have rested on huge piles of savings during the pandemic. If consumers refuse to eat in them, the only way they can spend with inflation is if wages go up higher, something that could reduce profits or create an inflationary spiral. None of this augurs well for the stock.
If consumer sentiment measures are accurate, they promise a nasty feedback loop. The mood of the consumer is greatly affected by the volatility in the stocks. Indeed, the six-month change in the Conference Board’s expectations index can be explained by a change in the S&P 500. As shares fall, sentiment falls, threatening to cut spending, impacting corporate earnings and therefore causing shares to fall again.
The self-fulfilling nature of poor consumer expectations is akin to talking yourself into a recession.
Still, it’s not clear whether consumers are good at predicting their future spending. There is a link to future purchases of expensive items like cars and washing machines. But this move in the stock market over the past six months is a stronger predictor of broad household spending in a year than the consumer expectations index.
Unhappy consumers choose to save rather than spend, posing the biggest risk to the economy. Unfortunately, the measures we’ve taken don’t give a great snapshot of how bad things really are today, or how bad they could be. The only sure thing is that the mood is turning sour.