Since emerging from the financial crisis, U.S. economic performance has consistently disappointed. This is particularly apparent when you consider the historical pattern of economic recoveries: Typically, the strength of the rebound is in proportion to the severity of the recession. Several factors are to blame: demographics, fiscal drag and tepid capital spending. Adding to the list of culprits is weak household consumption. Despite a material improvement in the labor market, a surge in household wealth and a dramatic drop in gasoline prices, U.S. consumers are hesitant with their spending.
There are several explanations for this phenomenon, ranging from the longer term to the more cyclical. However, the slowdown in consumption predates the crisis, suggesting the importance of the longer-term factors, such as the secular stagnation in wages, particularly for middle-income families, as well as rising savings and slower household credit growth. Although the savings rate has rebounded from last decade’s lows, relative to history, the U.S. savings rate is still low. This is particularly problematic as households are now facing a longer retirement, further complicated by ultralow interest rates.
The stall in household credit growth is also hurting spending. A multi-decade credit binge played a larger role in supporting household consumption than is often appreciated. With consumer debt levels still elevated, particularly for middle-income households, it is unlikely that most households will resume their previous borrowing levels anytime soon. In the absence of that tailwind, investors may need to recalibrate expectations for how fast U.S. spending is likely to grow.
Interestingly, this does not appear to be happening, at least not judging by the valuations of U.S. consumer discretionary stocks. While part of the rally in this sector can be justified by exceptionally high profitability, it is unclear if companies can remain as profitable if consumption remains soft.