Recession Watch: The U.S. Consumer May Be Getting Stretched Thin

A concerning combination of rising debt and falling savings

Photo by Towfiqu barbhuiya on Unsplash

This past Wednesday, the Fed once again raised interest rates, this time by 50 basis points.

I have written fairly extensively on both the Fed’s actions as well as related commentary from both Jerome Powell and other Fed governors (see here and here for examples). My latest extensive coverage on the topic was of Fed Chairman Powell’s November 30 speech at Brookings Institution. If you haven’t read the article, it might be worth a few minutes of your time.

Suffice it to say that Powell’s commentary this past Wednesday was very similar to what he said at Brookings Institution. For now, I’ll just leave you with one additional tidbit from Powell’s follow-up press conference. Here’s his response to a question about the Fed possibly changing its inflation target to something a little easier to achieve.

“We're not considering changing our inflation target and not going to consider that under any circumstances. We're going to keep our inflation target at 2% and use our tools to get inflation back to 2%."

I didn't see anything at all to indicate any second-guessing as to the Fed’s willingness to allow a recessionary period, with the associated pain it would inflict.

Have Consumers Gotten The Picture?

For today’s note, however, I’m going to go in a little different direction. Given the likelihood of recession, one might think that the U.S. consumer would be reining in spending in a big way. However, this does not appear to be the case.

Here are two charts that should make you nervous.

First, data recently released by the Bureau of Economic Analysis shows that the U.S. personal savings rate dropped in October to 2.3%.

How low is that? Since 1959, there has only been one month when the saving rate was lower. This was in July, 2005. At that particular time, housing prices were enjoying a strong run and the consumer appears to have been feeling pretty good.

Here’s the second chart, courtesy of the New York Fed, which looks at the other side of the coin, U.S. household debt.

The above graphic segments total household debt between housing and non-housing debt. If your eyes are telling you that the pink portion (non-housing debt) appears to rising even more rapidly than housing debt, you would be correct. Here’s a brief excerpt from the related commentary.

Credit card balances saw a $38 billion increase since the second quarter, a 15% year-over-year increase marked the largest in more than 20 years. Credit card balances are nearing their pre-pandemic levels, after sharp declines in the first year of the pandemic. Auto loan balances increased by $22 billion in the third quarter, continuing the upward trajectory that has been in place since 2011. Other balances, which include retail cards and other consumer loans, increased by $21 billion, following the $25 billion increase last quarter. (Bold mine)

Here’s the optimistic take on all of this. At some level, consumers have been able to get away with spending rather than saving due to being flush with excess cash accumulated during the pandemic, when they both received stimulus checks and were stuck at home.

At the same time, a less optimistic take is that some may be struggling to maintain a standard of living that they got accustomed to during the pandemic, but which they can no longer afford. New York Times business columnist Peter Coy points to an October report by Bank of America Institute, which studies anonymized data of the bank’s own customers, which concluded that this drawdown of excess savings was happening faster among lower-income households.

What, though, about upper-income households? They may be facing a similar dilemma. What I have referred to as “The world of 4,818,” a stunning bull market in stocks that peaked in January, 2022, has since come to, well, a screeching halt. At the same time, fiscal stimulus has more or less ended and interest rates are increasing, making all forms of debt more expensive.

What Does It All Mean?

Recently, I encouraged readers to “Invest as if we’re in the 5th inning.” Related to that, I also shared the fact that I had raised the cash level in my personal portfolio to almost 25%.

The day that article was published, the S&P 500 index closed at 3,958.79. In the weeks that followed, the market rallied fairly strongly from those values, with the S&P crossing the 4,100 mark at least temporarily both on December 1 and December 13.

As a recent retiree, I took advantage of that rally to move enough cash to my online savings accounts (currently yielding roughly 3%) to fund my spending requirements for the upcoming year. But I did even more. Primarily on December 12, I sold sufficient amounts of both U.S. and foreign stock exchange-traded funds ("ETFs") to bring the cash level of the remaining funds in my investment accounts all the way to roughly 28%.

It remains my belief that we will revisit the 2022 lows sometime in 2023, perhaps around March. I hope to return later with another article describing my overall outlook in more detail. But for now, what I have laid out in this article is one of several reasons I believe things may play out this way.