Holiday over as Americans tighten belts

Historically, it has been a mistake to underestimate the resilience of US consumers. The famously shopaholic tendency of Americans has often been a source of strength for the nation’s businesses, bolstering growth when the economy looked vulnerable. American households spend about twice as much per capita as their German and French counterparts, according to the latest World Bank data.

Based on the most recent data on US household wealth, businesses should be able to rely on US consumers as a pillar of strength in coming years. Household net worth jumped US$5.5 trillion between April and June to a record US$154 trillion, according to the Federal Reserve.

But beneath the surface, cracks may be starting to appear. While the US economy appears on track for a gentle slowdown, an episode of belt-tightening by American consumers is emerging as a major threat. So how worried should chief financial officers be? And which sectors could be most at risk?

Wealthy winners

First, the record net worth of Americans largely reflects gains for the most affluent households. Those who own their own houses and are invested in stocks have benefited from rising house prices and a 13% rally in the S&P 500 so far in 2023, as of 18 October. However, the balance sheets of lower-income households look far less robust.

While the wealthy have seen their assets rise in value, rising credit card balances point to growing strains for the bulk of Americans. Recent data from the New York Federal Reserve shows delinquencies on credit card debt rising to 7.2% in the second quarter of 2023, which is back above pre-Covid levels, and more people falling behind on their car loans. Credit card balances rose by US$45bn in the second quarter, climbing above US$1 trillion for the first time, suggesting more Americans are relying on the plastic in their pockets to make budgets work.

Second, Americans have burnt through much of the roughly US$2.1 trillion of excess savings they accumulated during the pandemic, when government stimulus cheques arrived at a time shutdowns hampered the ability of Americans to spend. A recent study by the Federal Reserve Bank of San Francisco suggests that around 90% of this windfall has now been spent.

Third, and finally, current savings rates among Americans look unsustainably low. As of August, the savings rate was just 3.9% of income, compared with an average rate of more than 8% based on data going back to 1959. Such low levels raise the risk that many Americans will ultimately feel compelled to spend less, in order to bolster rainy-day funds and retirement accounts.

The potential for a period of belt-tightening is intensified by stagnant wage growth failing to keep pace with price rises. In the year to September 2023, average inflation-adjusted weekly earnings were down by 0.1%. Meanwhile, demand for workers shows signs of cooling, based on the most recent employment report for August. In addition, borrowing costs have risen over the past 18 months as the Federal Reserve has repeatedly hiked rates, and investors are now not expecting cuts until the middle of 2024.

Low-income losers

So while historically US consumers have defied the odds, a prudent CFO would have good reason to expect a slowdown in spending. Here the gap between high- and low-income groups could come into play. Much of the distress is likely to be felt in companies that focus on less affluent consumers. US chain store Macy’s, which focuses on more budget-conscious shoppers, has warned of weaker consumer spending into the holiday season, along with greater delays in customers meeting credit card payments.

By contrast, companies focused on a more premium market have suffered less so far. Fashion group Hugo Boss, for example, said it has remained resilient in the US in its most recent quarterly earnings announcement.

CFOs exposed directly to more financially strained low-income consumers may end up focusing even more than usual on efficiencies. Companies in areas where consumers rely on credit to purchase their products – such as the auto sector – could face particularly intense headwinds. So far, car sales in the US have held up due to a backlog of demand following supply chain disruptions resulting from the Covid-19 pandemic. Total vehicle sales rose from a low of just below 9 million units annually in April 2020, to just under 16 million in August 2023.

However, the cost of loans, along with higher prices, is making affordability a challenge for low-income consumers. Ominously, a recent study by the New York Federal Reserve found that 14% of applicants for car loans had been rejected over the previous 12 months, the highest since the New York Fed started tracking the figure and up from 9% earlier in the year.

Spending on leisure and dining out has held up well, with consumers eager to make up for indulgences forgone during the pandemic lockdowns. Here too, however, the Fed’s latest Beige Book economic survey suggests such extravagances might represent the ‘last stage of pent-up demand’.

By contrast, CFOs of companies where the focus is on business investment may feel on a more solid footing. Spending on AI and labour-saving technology such as robotics has strong momentum. Investment in oil drilling looks set to benefit from the recent rise in oil price, with Brent crude back above the US$90 a barrel mark at the time of writing.

The green energy transition is also gathering pace, with expanding solar capacity. Last year’s Chips and Science Act, which provided roughly US$280bn in new funding to boost semiconductor research and manufacturing in the US, is already benefiting many businesses.

But with consumer spending accounting for around 70% of US gross domestic product, few CFOs can view the headwinds facing American shoppers with equanimity. If businesses start to anticipate weaker demand, the natural response will be to cut back hiring and investment plans, creating a downward spiral. Consumers are usually among the greatest sources of economic strength for the US. In the coming year they could be its Achilles’ heel.