Discretionary spending, the unsung hero

Summary

“Watch your spending” is a primary tenet of sensible household economics. Turns out, it’s a great way to make sense of the broader economy too. Not only does consumer discretionary spending growth serve as an excellent recession indicator, but it also plays an underrated role in Fed policy.

The boys who cried wolf

The time-honored bellwethers have been signaling recession for some time. For 15 straight months, the ISM manufacturing index has been in contraction territory and the yield curve has been inverted. The Leading Economic Index has been in decline for 22 straight months. We no longer have a recession in our forecast, but it is not unthinkable that these gauges may yet prove to be right. Yet the famed investor Howard Marks reminds us that “being too far ahead of your time is indistinguishable from being wrong.” If these harbingers have lost a bit of their luster, what is an alternative measure that might serve as better proxy? Is there perhaps something better-suited to the unique consumer-centric dynamics of this cycle?

While not the sole explanatory factor, the uncanny staying power of the consumer in the current cycle sheds a lot of light on the resilience of the U.S. economy. Traditional relationships such as the linkage between income and spending broke down over the past few years (Figure 1). Excess savings sustained the consumer even when real income fell, as it did through much of 2022. A massive take-up in credit card and other forms of revolving debt kept the consumer spending even as excess savings gradually dried up throughout much of 2023.

Download The Full Special Commentary