Consumers are starting to act as if recession is imminent

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About the Author: Dana M. Peterson is chief economist at the Conference Board.

Consumers sense that a recession is imminent and are beginning to behave accordingly. They become more and more unhappy by the minute and pinch pennies at the cash register. Most people are working, have savings, and even receive pay raises. But pressured by higher inflation and rising interest rates, they are curbing spending.

Consumer confidence is showing deeper and deeper cracks, according to the Conference Board’s Consumer Confidence Index. The gauge slid for a second consecutive month in November, boosted by falling perceptions of both the current situation and expectations for the next six months. Consumer opinion on current trade and employment conditions is fading. That’s notable because they’ve had a largely favorable outlook this year, likely because most American adults have been working and enjoying higher wages. But stock market volatility, tech layoffs and inflation have made them less optimistic. A struggling economy and falling stock prices are bad news for business and job security.

Meanwhile, the survey’s expectations index continues to signal a coming recession. A reading below 80 generally indicates that consumers are anticipating a recession in the next half year, and it has been in that territory for nine straight months. So the gauge – which is generally correct – points to a recession from now or early 2023.

Weakened expectations reflect a soured view of future business and employment conditions as well as personal finances. Examples abound.

The consumer confidence index shows that one-year inflation expectations (at 7.2% in November) remain well above the 2019 average of 4.6%. Such beliefs bode ill for future personal finances and spending intentions.

Meanwhile, consumers’ spending plans heading into the holiday season are running out of steam. The Conference Board’s annual holiday spending survey found that households intend to spend less on gift items and more on non-gift items like food due to inflation. Consumers say they will return to malls, buying fewer items online, which could lead to increased spending on in-person services. But going forward, the appetite for things like cars, furniture, and appliances is fading.

Consumers have also soured on buying a home as mortgage rates rise and house prices remain significantly higher than before Covid. This is forcing many buyers, especially younger and first-time buyers, back into a frothy rental market, temporarily frustrating efforts to temper high housing costs.

The cooling of the housing market is necessary to calm domestic demand and contain inflation. Less construction of new homes and fewer sales of existing homes directly reduce gross domestic product growth. In addition, falling house prices reduce wealth, which also affects consumption growth. As that spending declines, companies cut prices to compensate, supporting the Fed’s inflation-reduction targets.

Growing consumer dissatisfaction in recent months is evident across all age and income groups as well as tax brackets. This is the first real experience of inflation for many young Americans, while older ones remember how harrowing it can be. The sentiment is worse among households earning less than $50,000 a year, generally the most sensitive to price increases and the least able to absorb income shocks such as job losses.

Consumers act on their feelings, a trend that will only accelerate bad news. The malaise is apparent in the housing data: Housing spending fell more than 16% in the first three quarters of 2022. Housing starts fell from a 16-year high of 1.8 million in April to 1.4 million in October. Sales of existing homes plunged from 6.49 million in January to 4.43 million in October.

Meanwhile, non-housing consumer spending is also falling. Demand for goods naturally declines as households return to spending on in-person services with the pandemic largely in the rearview mirror. But rising prices for basic necessities (like food, energy and housing), rising financing costs and falling home sales are also reducing demand for durable goods.

Actual spending on services has returned to pre-pandemic trend, but performance varies by category and depends on future finances. Consumers are spending more on certain experiences like restaurants and travel. But real spending on other forms of recreation and entertainment (such as sporting events, movies and museums), health services, personal care and motor vehicle services are still struggling to return to pre-pandemic levels. Some of these laggards are very discretionary or have cheaper substitutes like streaming services or public transportation.

Federal Reserve officials have warned that tackling inflation will lead to short-term difficulties. High inflation erodes all household incomes and can embed itself in the consumer psyche, leading to greater challenges for the economy in the future. Reducing consumer demand is part of the Fed’s inflation plan, but it will be a bitter pill for US households to swallow.

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