Consumer Sentiment: Do You Think Scary Thoughts?

Consumer Sentiment was never a metric that we set our sundial by for economic X factors, but it may matter more in the strange year of 2024.

Apr 12, 2024

OK. But what about high mortgage rates, inflation, Iran and the Strait of Hormuz, trade wars, South China Sea militarization, Taiwan semis, the border, heavily armed MAGA-heads, orange face paste, radical leftists, undermining elections, slaughter in Ukraine, Israel-Gaza, women's rights, vaccines, the measles, and of course DEI and ESG?

In many ways, this month’s Consumer Sentiment release was not much of an event, but the inflation expectations are edging higher short term and long term in a week where anxieties are running high. That part of the release mattered the most.
The inflation expectations over the short term rose to 3.1% and over the longer term to 3.0%.
As we highlight below, the readings from U Michigan Consumer Sentiment, which remain below some past cyclical medians, have not rattled consumer spending much yet since the big pop to start the year.
The historical timeline of the sentiment index underscores that there could be a lot to play out this year into early 2025 with economic fundamentals sound, but the external stimuli from domestic governance and international geopolitics are overwhelmingly negative at best and extremely toxic and destructive at worst.

We last wrote up the Consumer Sentiment trend line in January when the market saw a dazzling jump (see Consumer Sentiment: Multiple Personalities 1-19-24). The U Mich Sentiment index has been in more of a sideways move across 1Q24 with inflation and the UST curve struggling. We also don’t see the usual (but increasingly) toxic headlines on the domestic front and a worsening situation globally playing much of a role to this point. Trade stress potential (notably China) and energy prices (think Iran) flow into inflation and supplier chain functioning, so those are matters of dollar and cents economics that could move up the influence list.

With Trump on trial (maybe), Supreme Court decisions pending, the abortion topic burning hotter than ever, and “free and fair elections” being the most abused and misrepresented phrase ever invented (concocted) in today’s context, it is safe to say things will stay in one of two buckets – uglier or ugliest. Ugly is already here.

When Marjorie Taylor Greene is an important political figure driving congressional functioning, you know we have a problem. It is like Barbie raided Dr. Jekyll’s medicine cabinet and started doing boilermakers. There is no shortage of smart people on Team GOP. She did not make the practice squad, but she gets to be Coach?

An easy assumption is that the tone will get worse as the year goes on, and the geopolitics are certainly positioned to go more asymmetric if Iran gets pulled into direct military confrontation with Israel. If the escalation spreads across the proxies into hotter war mode (Hezbollah, where it is already hot), defense exports and aid will circle back once again to House dysfunction and shine more light on the Putinesque tendencies in the US House around who gets aid.

The trade and tariff topics will get louder as the election nears, and that can affect capex planning and supplier chain decisions. The deteriorating relationship with Mexico does not get as much airtime, but it is an important factor in the broader picture around supplier chain risk even if China dominates that dialogue. Supplier chains and oil both impact inflation but also industrial production.

As we have covered in the monthly releases, none of this has stopped the consumer from traveling, and driving service demand and spending with abandon. Last month’s PCE (Income & Outlays) release showed spending growth well in excess of Disposable Personal Income growth (see PCE Prices, Personal Income & Outlays: Sideways Tone 3-29-24 ). The savings rate is in the tank, and many have pointed out that is not sustainable.

The above chart updates the long-term timeline since the 1980-1982 double dip, and the swings can be dramatic. Right now, we are in the neighborhood of the long term median (78). The time series shows the ugliest numbers were tied to inflation and/or recession (May 1980, June 2022) and two “systemic moments” (Nov 2008, Aug 2011). The Gulf War prep in Oct 1990 hit 63.9.

We are well below the 1980s expansion median and 1990s expansion periods and also running below the median from the credit crisis through current times. The market was at 101 (Feb 2020) just ahead of COVID and at 101 in March 2018 coming off the Trump tax cuts but before the trade war noise and the evolution of Trump performance artistry.

Inflation expectations in check but not very low…

The above chart updates Sentiment vs. Short-Term Inflation expectations. The idea of rising inflation expectations is an old topic, but it is never good when it goes higher since it is a key shaper of consumer and employee expectations on how they consume and shop their working hours (wage expectations).

The above chart updates the Short-Term and Long-Term inflation line. The 3% handle is not great news for “inflation” but it is worth noting the long term differentials between CPI and PCE as food for thought in interpreting the number (see Fed Funds vs. PCE Price Index: What is Normal? 10-31-22 ). CPI has a long-term median of almost a half point higher than PCE.

It is our understanding that the “inflation” term bandied about is headline CPI based on what UM has buried in their website (good luck finding it on UM’s website). The UM inflation metrics need context relative to the PCE inflation 2.0 % fixation.

Even that PCE target can get you some differing views across the FOMC and FOMC alums on whether it is headline PCE or Core PCE that has been the target over the years (we’ve found commentaries from Fed talking heads that conflict). Using long-term medians of “CPI minus PCE”, you could in theory haircut the long-term view of CPI above to 2.5% to frame it vs. PCE. We show that relationship below.

The above updates the long-term headline CPI vs. headline PCE for a frame of reference and to add some context for the PCE target vs. the long term CPI expectation from the consumer. Essentially, the sentiment index is calling for CPI to get back to the long-term median and PCE modestly above the 2.0% PCE target. We don’t see that as a gloomy expectation, but there is also no hiding from the fact it just went higher.

Contributors:

Glenn Reynolds, CFA glenn@macro4micro.com

Kevin Chun, CFA kevin@macro4micro.com

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