April Personal Income & Outlays: Some Progress
Growth of personal wage income slowed meaningfully. Core services and central tendency inflation rates remain elevated relative to the 2% target.
The April Personal Income and Outlays report provides a good insight on the U.S. consumer as well as inflationary pressures going forward. This note presents some of these insights.
Key takeaways:
Personal income growth out of wages and salaries slowed in April and was notably revised down for Q4 2023 and Q1 2024.
With these revisions household wage income growth now has slowed to a pace that’s broadly consistent with 2% PCE inflation over the medium-term.
The stock of excess savings has NOT run out and continues to be a tailwind for consumption. Between March and April, it fell around $29 billion and equaled about $523 billion in April.
Core services excl. housing PCE inflation, the Fed’s favorite gauge of underlying inflation, remains at elevated levels but showed some slowing in momentum. More boarder based underlying inflation measures accelerated since late 2023 further above the Fed’s inflation target. The central tendency of PCE inflation currently suggests underlying inflation in the 2.8%-3% range.
Although underlying inflation remains stubbornly stuck above the 2% inflation target, slowing wage income growth suggests that over time spending will likely bring about more slowing in core services inflation. Given this, the Fed will be patient and is unlikely to cut rates this summer.
Wage Income Growth Slowed
A dominant source of household income is personal income out of wages and salaries. Today’s report showed meaningful downward revisions in growth of household income out of wages and salaries for both Q4 2023 and Q1 2024 (chart below).
The year/year growth rate in April slowed compared to March (chart above), as it went down to 4.2% from 4.4% (downwardly revised from 5.5%). Note that overall personal income growth increased in April from 4.4% to 4.5% year/year, implying that growth of non-wage income (interest and dividend income as well as government transfers) held up better than wage income growth in April.
To interpret wage income growth trends, I earlier proposed to compare wage income growth with a neutral benchmark growth rate based on trend non-farm business sector (NFB) output growth and either the abovementioned common inflation expectations factor or the 2% Fed inflation target. Similar to what I did when discussing wages and inflation expectations in my October update, I now also incorporate trend labor share growth into this neutral benchmark.
Any deviation in actual household wage income growth above or below the aforementioned the inflation target-consistent neutral benchmark means household wage income growth outpaces or cannot sustain in the medium term the 2% inflation target.
The chart above shows that with the downward revisions over the previous two quarter, the wage income growth gap based on the Fed’s inflation target has essentially closed. Hence, nominal wage income growth now broadly runs at a pace that should be able to bring inflation back to target in the medium term.
Pace of Excess Savings Drawdowns Remains Gradual
Household spending was up 0.2% over the month in April, in line with disposable household income growth of 0.2% for the same period. As a consequence, the savings rate remained essentially unchanged at 3.6% in April.
The chart above shows that the savings rate remains below my trend savings rate estimate of 5.1% (down from an upwardly revised 5.3% in March) using the ‘average of trend’ approach outlined in my earlier excess savings note (orange line). The actual savings rate had been diverging to the downside relative to this trend savings rate estimate since May 2023, but a lot less so compared to trend savings rate assumptions used elsewhere (grey and yellow lines).
Given the earlier discussed downward revisions to personal wage income growth and the decline in my estimate of the trend savings rate, in April cumulative excess savings declined from $552 billion in the previous month (revised down from $571 billion) to about $523 billion (see chart above).
Note that also in the chart above that interest payments have now become a source of excess savings drawdowns in addition to consumption spending. Hence, going forward with high interest rates increasingly impacting household budgets we can expect a somewhat faster pace of excess savings declines. Nonetheless, above-trend growth in disposable income continues to be a partial offset to the drawdowns in excess savings coming from above-trend growth in consumption spending and interest payments.
Underlying Inflation Rates Remain Elevated
In terms of inflation, core PCE inflation slowed in April to a 3% annualized monthly rate from an upwardly revised 4.1% rate in March. Core goods inflation accelerated to 1.3% annualized month/month from 0.8% in March, whereas core service inflation eased up to 3.6% annualized month/month in April from an upwardly revised 5.2% in the preceding month.
The Fed’s favorite gauge of underlying inflation, core services excl. housing PCE inflation drove a lot of the April core service inflation deceleration, as its pace was dropped from (an upwardly revised) 5.2% annualized month/month to about 3.2%. Given the large volatility in this measure since late 2023 it seems worthwhile to smooth through noisy month-over-month dynamics.
The chart above plots three-, six- and 12-month annualized inflation rates for the non-housing core services PCE deflator. The average annualized monthly rate still reads about 4% for the post-COVID era (black dashed line), two times the average rate we observed for the immediate years pre-COVID.
The momentum measures in the chart above have been sticky around 4% for most of 2023. But in Q4 2023 momentum in core services excl. housing PCE inflation appeared to ease in a tentative sign that it might finally start to break free from the post-pandemic 4% trend. However, since the end of 2023 this disinflationary trend reversed, although April showed some relieve at least based on three-month momentum.
Instead of focusing on whether specific components of inflation should be ignored or not when assessing underlying inflation trends, one could focus on the central tendency of consumer price inflation, a.k.a. the center of the distribution of all price changes unaffected by extremely volatile consumer price components. This could potentially provide a better sense of the target toward which inflation moves over time once those excessively volatile price changes have stabilized.
Such measures of central tendency for the PCE price indices use a variety of trimming procedures to weed out excessive volatile components of these price indices in a given month:
Median CPI, which takes the inflation rate of the component at the 50% percentile of the CPI component price changes.
Trimmed Mean PCE (Dallas Fed), where the highest 31% and lowest 24% of PCE component price changes are dropped.
15% Trimmed Mean PCE, where the highest 7.5% and lowest 7.5% of PCE component price changes are dropped.
20% Trimmed Mean PCE, where the highest 10% and lowest 10% of PCE component price changes are dropped.
30% Trimmed Mean PCE, where the highest 15% and lowest 15% of PCE component price changes are dropped.
The chart above scales each of these measures into a three-month average distance relative to 2% core PCE inflation as a measure of the Fed's inflation target. Based on these three-month averages underlying inflation essentially was in line with the 2% inflation target by December 20233. That all changed going into 2024 and since then underlying three-month inflation rates increased their overshoot of the Fed's inflation target. This remained the case April even though some of the overshoot eased.
Alternatively, it might be more insightful to look at the smoother six-month averages of the annualized percentage point deviation of monthly central tendency inflation measures relative to their values as implied by 2% core PCE inflation. The chart above suggests a similar story as for the three-month average measures: a lot of progress was made by the end 2023 in terms of a return back towards the Fed’s 2% inflation target, which since late 2023 reversed.
The six-month average deviations of underlying PCE inflation rates relative to the inflation target in the chart above suggest that currently the underlying PCE inflation trend sits in the 2.8%-3% range. And with even more elevated underlying inflation rates on a three-month average basis, any possible further slowing over the summer will likely occur at a very moderate pace.
Although underlying inflation remains stubbornly stuck above the 2% inflation target, slowing wage income growth suggests that over time spending will likely bring about more slowing in core services inflation. Given this, the Fed will be patient and is unlikely to cut rates this summer.