Watch what consumers do, not what they say

The consumer’s mood has been shaky this year, with survey-based measures of confidence tumbling toward the inflation-era lows of 2022. Over a longer timeframe, confidence has remained weak after falling off a cliff with the arrival of Covid.

With the pandemic mostly a memory at this point, the source of a lingering sour mood has been something of a mystery, though a possible explanation is the country’s political polarization. Whatever the cause, the data doesn’t align with robust economic reality. Indeed, the government revised second quarter GDP growth higher, from an annual rate of 3.3% to 3.8%, with the bump largely coming from increased spending on services.

Accordingly, we’ve become inclined to discount the sentiment data as it may have little to do with behavior. As an old saw goes, US consumers shop when they’re glad … and even more when they’re sad. Retail therapy, cleanup on aisle 7. One wonders whether consumer sentiment will come to be taken as a contrary indicator. In any case, in a nation where consumer spending is the heart of economic activity, what consumers do matters more than how they feel.  

One sign of the health of the consumer comes in the heady returns of the stock market as of late. Also, retailers’ second quarter earnings results were solid, and the consumer discretionary sector has outperformed over the past three months.

As has been the case for much of the post-pandemic experience, bearish prognosticators tend to view this year’s spike in uncertainty – bond market volatility, fiscal budget drama, tariffs, geopolitical conflict, etc. – as sure to hurt consumer spending. That has not been the case.

The most likely explanation is employment. There has clearly been a loss of momentum in terms of job creation and availability, but the conditions overall have been stable. In fact, the unemployment rate, while elevated from recent historic lows, has barely budged, remaining in a range of 4.0-4.3%.

Perhaps the level of unemployment doesn’t matter quite so much as stability in the labor market; consumers who are comfortable in their jobs will spend.

Not all cohorts have fared the same. The net worth of the affluent has boomed due to home and equity portfolio appreciation, while the have-nots are suffering under the weight of inflation. We see this playing out in areas of the economy like lodging where luxury hotels thrive while their budget-focused counterparts struggle.

For now, at the level of the aggregate economy, the K-shape appears to be enough to keep growth intact, as the latest GDP numbers show. One area for improvement is housing, in which activity has been suppressed by unaffordability and lack of supply. The Trump administration has been taking note, however, and lists housing as one of the reasons the Fed should reduce rates. As for the lower fork of the “K,” the less affluent may see some relief next year from the One Big Beautiful Bill Act, with its tax provisions on tips, overtime, Social Security and auto loans.