U.S. consumer spending stalled in May to the lowest growth rate this year as inflation remained elevated.
Consumer spending or personal consumption expenditures (PCE) only rose by 0.1 percent in May, according to a June 30 news release (pdf) by the U.S. Bureau of Economic Analysis (BEA). This is the lowest growth rate so far in 2023, equal to that of March. Compared to a year back, consumer spending in May 2023 rose by 3.8 percent—the lowest so far this year and down from a peak of 5.4 percent in January.
The stalling consumer spending comes as inflation remains high. The 12-month Consumer Price Index (CPI), a measure of annual inflation, came in at 4 percent in May. Inflation has remained at or above 4 percent for 25 months since April 2021.
The 4 percent inflation in May is double the Federal Reserve’s target rate of 2 percent annual inflation. During inflationary periods, the purchasing power of money declines. As a result, consumers’ spending habits can change, with people choosing to spend less.
In dollar terms, PCE rose by $18.9 billion in May. This included a $52 billion increase in services and a $33.1 billion decrease in spending on goods.
“Within services, the leading contributors to the increase were health care (led by outpatient services), ‘other’ services (led by international travel), and transportation services (led by air transportation). Within goods, spending on motor vehicles and parts (led by new light trucks) and gasoline and other energy goods were the largest contributors to the decrease.”
Interest Rates Impact
Consumer spending is also affected by interest rates. Since March 2022, the Federal Reserve has bumped up its benchmark interest rates by 5 percentage points at 10 consecutive policy meetings in a bid to rein in inflation.
Consequently, the central bank’s interest rate currently sits in a range of 5 percent to 5.25 percent, the highest since 2007.
Higher interest rates raise the cost of borrowing, diminishing disposable income and consequently limiting growth in consumer spending.
Though the Fed has paused hiking interest rates, a few more rate increases are on the cards. “Nearly all” participants in the policy-making Federal Open Market Committee (FOMC) “expect that it will be appropriate to raise interest rates somewhat further by the end of the year,” Fed Chair Jerome Powell said during a semiannual monetary policy report to the House Financial Services Committee.
A rise or fall in consumer spending can significantly impact the United States’ growth rate as it forms a major component of GDP. In March 2023, consumer spending accounted for 68.37 percent of U.S. GDP.
Cautious Consumer Spending
According to a June 22 post by McKinsey, though more consumers are feeling optimistic about the U.S. economy, they’re still spending “more cautiously.” McKinsey’s research showed that “across all age and income groups, consumer spending is lower than it was a year ago.”
“Real spending declined for the first time in more than two years. In March 2023, real spending fell 0.7 percent versus a year ago. The country has thus far avoided a recession, but consumers are being more financially cautious, especially in an inflationary environment where they’re not getting as much bang for their buck,” it said.
The price increases have forced most customers to look for better value for their money, including trading down, which refers to consumer behavior involving switching from an expensive or large-volume item to a cheaper or low-volume item.
McKinsey found that 89 percent of high-income millennials were trading down, which is a far bigger number than the 58 percent among high-income baby boomers.
