Nov Personal Income & Outlays: Sparky Households
Personal wage income, excess savings and underlying real spending remain strong. Underlying inflation trends eased again.
The November Personal Income and Outlays report provides some valuable insights on the U.S. consumer as well as inflationary pressures going forward. This note sketches out some of these insights.
Key takeaways:
Personal income growth out of wages and salaries accelerated again in November and runs at a pace that can sustain a 3% PCE inflation rate for the year ahead.
The stock of excess savings has NOT run out and continues to be a tailwind for consumption. Between October and November, it fell around $36 billion and equaled about $584 billion in November.
Real PCE growth continues to show a strong momentum, with the underlying (trimmed mean) growth rate outpacing at an accelerated pace in November. This suggests that consumption will remain strong in 2023 Q4 and, likely, 2024 Q1.
Core services excl. housing PCE inflation, the Fed’s favorite gauge of underlying inflation, remains at elevated levels on a year/year basis but has shown continued downward momentum. More progress is needed to convince the Fed to start cutting rates early in 2024.
Wage Income Growth Accelerated … Again.
A dominant source of household income is personal income out of wages and salaries. Today’s report showed only minor revisions in the recent growth of household income out of wages and salaries since the summer.
Compared to the vintage from last month’s report, the pace of year/year income growth out of wages and salaries for May-October was essentially unchanged (chart above). For the second consecutive time since June the year/year growth rate accelerated in November, to 6.2% from 5.3% in October.
The common trend across firms’ and households’ inflation expectations series that were available last week (December 15th) surveys suggested “Main Street” inflation expectations had been stuck around 3.2% between July and October but downshifted to about 3% in November, with tentative signs of further deceleration in December. Since then, the year-ahead expectations from the Conference Board Consumer Confidence survey for December and the final revision of the December inflation expectations from University of Michigan Consumer Survey were released. The re-estimation of the common factor across “Main Street” inflation expectations incorporating these two updates and plotted in the chart above now suggests that expectations in November and December stabilized at a 3% year/year PCE inflation equivalent.
To interpret wage income growth vs. elevated inflation expectations, 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 neutral benchmark means household wage income growth outpaces or cannot sustain in the medium term either survey-based year-head inflation expectations or the inflation target.
The chart above shows that with accelerating personal wage income growth in November, the wage income growth gap based on the “Main Street” year-ahead inflation expectations discussed earlier became positive again (+0.9 percentage point). Meanwhile the smoothed three-month moving average settled at zero (light and dark blue lines).
Momentum in the wage income growth gap based on the Fed’s inflation target accelerated markedly to about +1.9 percentage point, and the three-month averaged version runs at a +1.1-percentage point gap (light and dark orange lines in the chart above). Across all gap measures nominal wage income growth runs at a pace that can sustain with ease 3% year-head expectations for PCE inflation over the medium term - too high to be able to bring inflation back to target.
With household income growth out of wages and salaries running above the pace consistent with 2% PCE inflation this might be a sign that households’ incomes are likely to remain strong enough to keep consumption spending elevated.
Boring But … Excess Savings Have NOT Run Out Yet
Household spending was up 0.2% over the month in November, a somewhat slower pace compared to disposable household income growth of 0.4% for the same period. As a consequence, the savings rate ticked up from 4% in October (revised up from 3.8%) to 4.1% in November.
Despite this increase in the savings rate, and typical of what we’ve seen recently, the chart above shows that it remains below my trend savings rate estimate of about 6% (down from an upwardly revised 6.1% in October) 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, but a lot less so compared to trend savings rate assumptions used elsewhere (grey and yellow lines). So, what does this mean for the elusive excess savings of households?
Given the earlier discussed revisions to both personal wage income growth and my estimate of the trend savings rate, in November cumulative excess savings declined from $620 billion in the previous month (downwardly revised from $676 billion) to about $584 billion (see chart above).
It does seem that during the June-November period the pace of excess savings drawdowns accelerated somewhat compared to the January-May period. Nonetheless, the pace of drawdowns remains well below the 2022 pace. Compared to 2022 we continue to see in 2023 that above-trend growth in disposable income, driven by strong wage income growth, partially offsets the drawdowns in excess savings coming from above-trend growth in consumption spending.
Trend Pace in Consumption Spending Remains Strong
The solid pace of income growth out of wages in 2023 has allowed households to keep up an equally solid pace of inflation-adjusted spending without the need to completely run down the stock of excess savings. With wage income growth remaining strong at above inflation target pace, this could mean that real consumption expenditures can be expected to remain relatively high for the near term.
As is the case with headline inflation, headline real consumption spending growth often is driven by volatile components that not always reflect the underlying strength of the economy. A core real consumption spending growth measure, therefore, would be really useful, and I do that by approximating such a core measure based on constructing a weighted trimmed mean across 177 components1 of headline real personal consumption expenditures (PCE).
The chart above shows the resulting trimmed mean real PCE six-month growth rate. The chart makes clear that the trimmed mean measure provides a more accurate reading on the underlying strength of the economy than headline real PCE growth rates, with the trimmed mean measure dipping below headline growth before the onset of a recession.
Zooming in on the recent period, the chart above shows the six-month annualized trimmed mean real PCE growth rate in comparison to the headline real PCE. The strength of real consumption in 2022 was basically in line with is underlying growth rate, whereas in 2023 trimmed mean real PCE growth outpaced headline growth. In fact, for November the six-month annualized growth rate of trimmed mean real PCE accelerated compared to headline PCE.
Underlying consumption growth in 2023 thus far suggests that the economy is far removed from the onset of a recession and in fact shifted to a stronger footing this year. The continued strong pace of trimmed mean real PCE growth likely means that consumption will remain strong in the final quarter of 2023 and going into 2024 Q1.
Easing of Underlying Inflationary Pressures
In terms of inflation, core PCE inflation decelerated over the month, solely on account of core goods inflation that hit -4.4 % annualized month/month, whereas core service inflation ticked up from 2.4% to 2.6% annualized month/month in November. When we focus one of the Fed’s favorite gauges of underlying inflation, core services excl. housing PCE inflation that remained broadly unchanged at around 1.5% annualized month/month.
Going beyond the 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, twice as a high compared to the average for the immediate years pre-COVID. The momentum measures in the chart above have been sticky around 4% for most of 2023. But over the past two months momentum in core services excl. housing PCE inflation eased in a sign that it might finally start to break free from the post-pandemic 4% trend.
Note, though, that in the chart above three-month annualized non-housing core services inflation ticked up again, broadly in line with the re-acceleration in personal income growth out of wages & salaries I discussed earlier (on a three-month annualized basis personal wage income growth accelerated to 4.3% from 3.4% in October). With households’ wage income growth supportive of above-target PCE inflation over the medium term, a solid labor market that might rebound, still sizeable stocks of excess savings, and broad-based underlying strength in real consumption spending, conditions continue to be in place for core services inflation to remain sticky at an above-target pace.
The downward momentum in core services excl. housing PCE inflation in November, however, is an encouraging sign for the Fed. It therefore is prudent for the Fed to remain in a “wait and see” mode going forward, while retaining its current restrictive policy stance, with a pick-up in downward momentum in non-housing services inflation into early 2024 Q1 increasing the likelihood for rate cuts to commence at the March FOMC meeting.
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For a description of these 177 components, see Appendix A in the Dallas Fed trimmed mean PCE inflation working paper.