Despite a rise in overall inflation because of higher oil prices, core inflation and spending volume were softer in August, adding to the optimism projected by the Federal Reserve recently that the economy can achieve a soft landing.
The personal consumption expenditures price index—the Fed’s preferred gauge of inflation—rose by 0.4% from a month ago, while core inflation that excludes food and energy was up by 0.1%.
Core inflation fell below 4% on a year-ago basis for the first time since 2021, declining to 3.9% in August from 4.3% earlier. Overall inflation inched up to 3.5%.
More signs of disinflation also came from the “super core” metric which includes services less housing, food and energy, and is watched closely by the Fed. The metric fell to 4.44% from 4.78% on a year-ago basis and to 0.14% from 0.46% on a month-ago basis.
Spending volume—or real spending—increased modestly by 0.1%. With inflation added, spending rose by 0.4% in August.
The momentum of July’s spike in spending, which was attributed to a number of one-time events, did not carry over into August. But consumption, especially after adjusting for inflation, stayed solid on the month as the steady rise in personal income and a sizable amount of excess savings helped American consumers alleviate some of the pressure from higher energy prices. Personal income rose by 0.4% on a dollar basis from a month ago.
The question now becomes whether spending can help buoy the economy enough in the last quarter to avoid the hard landing of a recession.
There are headwinds that should slow spending and overall economic growth in the final months of the year: the United Auto Workers strike, a likely government shutdown, the resumption of student loan payments, elevated energy prices and continued high interest rates.
For now, we do not expect the headwinds to keep the economy off track from a soft landing.
With the recent downward revisions to personal savings by the government from 2017 to 2022, there is potentially more excess savings in the economy than initially thought.
To be sure, while the lower-income consumers might begin to empty out their saving accounts, higher earners, who drive more than 60% of total spending, should continue to find themselves on a strong footing financially.
Depending on how one measures excess savings—which does not have an official definition—there should be anywhere from a couple hundred billion to a half trillion of excess savings left to keep consumption afloat in the final quarter.
The savings rate was 3.9% in August. More details will be published soon once we look deeper into excess savings after Thursday’s significant revisions.
On top of that, the biggest factor that has kept the economy growing strong will continue to be the strong labor market. While we expect some easing in labor demand, we do not expect to see the steep decline in job gains that has preceded recessions in the past.
Read more of RSM’s insights on the economy and the middle market.
Still, should there not be a quick resolution to the autoworkers strike, the standoff over government spending and rising oil prices, our forecast of a 40% chance of a recession might turn out to be the base case.
There is also some concern over the decline in inflation-adjusted disposable income, which registered the third drop in a row in August, partly because of the decline in hours worked as a result of strikes.
That highlights how difficult the Federal Reserve’s job in the next couple of months will be, especially without any key data on jobs and inflation if a shutdown takes place. The Fed cannot control those headwinds. The rising uncertainty should most likely keep the Fed from raising rates in November, concluding the end of this rate hike cycle.
Inside the data
Spending volume rose the most for transportation and recreation services, increasing by 1.1% and 0.5%, respectively. Spending on recreational goods also posted a sizable increase, rising by 0.3%.
Motor vehicles led the decline, falling by 0.9%, followed by furnishings and energy goods, down by 0.5% and 0.4%, respectively.
Overall, goods spending was a drag on real spending in August, falling by 0.2%, while services spending rose by 0.2%.
As summer spending on services fades, we should expect more modest spending growth in the final quarter.
