On June 8, the Fed issued data through the first quarter of 2001 that documented the ongoing contraction in household wealth from a peak in the first quarter of 2000 to a recent low that pushes total wealth below the level seen in the 1999 fourth quarter. But on June 13, retail sales figures were released through May, extending a pattern of steady strength in consumer spending relative to disposable income.
The quandary, then: Though "positive" wealth effects were the obvious culprit behind excessive strength in consumer spending through the second half of the 1990's, there has yet to be a sizable reversal in consumption strength relative to income, with the commensurate downtrend in the savings rate, as wealth has fallen.
DECLINING WEALTH. The 4% drop in household wealth in the first quarter was impressive, though the value of "tangible" assets rose 2%, and the 5% quarterly drop in financial wealth has since been partly reversed. If financial wealth remains flat through the second half of 2001, and the value of tangible assets rises 5%, then the value of household assets should fall by a little less than 2% in 2001 overall, following the 0.8% decline in 2000.
Though these two annual declines would follow double-digit growth over the prior five years that is unprecedented in "real" terms, it nevertheless constitutes the only two outright asset value declines on record since the Fed began measuring wealth in 1945, and could rightly be expected to translate to a negative wealth effect on consumption. The associated declines in net worth, which account for growth in liabilities, are an even more dramatic 2.4% in 2000 and 3.0% in 2001.
Yet, the slowdown on consumer spending following the colossal gains around the turn of the century has done little more than track the slowdown in disposable income and other production variables, hence providing little evidence that a negative wealth effect is "pulling" down the GDP and production figures.
STILL SPENDING. This lack of an apparent effect is evident in the retail sales figures, which imply that growth in real consumption spending will be revised upward to the 3.3% area in the first quarter and should reach 2.4% in the second. These gains have left the savings rate falling at a remarkably steady clip, with a notably sharp drop to an estimated -1.0% in the first quarter from -0.7% in th fourth quarter of 2000 and -0.2% in the 2000 third quarter. We do expect some bounceback in the savings rate to the -0.8% area in the second quarter given the sales statistics through May, but this would hardly constitute a convincing change in the otherwise-downward savings rate trend.
With the impending tax rebates, which will begin in five weeks, it is likely that the savings rate will post a sharp rebound if households refrain from spending all the rebates as they seem to do with other income checks that reflect "permanent" income. This may appear to provide some statistical confirmation of a negative wealth effect, as consumption growth fails to keep pace with the tax-boosted 13% growth clip we expect for disposable income in the third quarter.
Yet, this spike in the savings rate will clearly reflect the tax law change and not the negative wealth effect that economists have been looking for. And this rise in the savings rate will be associated with a surge in spending that will likely leave real third quarter consumption growth in the robust 4%-5.5% range. Englund is Chief Market Economist for Standard & Poor's