After saving up for the last five years, Shannon Alexander and her boyfriend are buying a house this month just outside Denver. At four bedrooms and 2,300 square feet, their new place is twice the size of the condo Alexander bought in 2004, and at $389,000, it’s more than twice the price, too. “I just feel really comfortable with where the economy is because my job is very much consumer-based,” says Alexander. She and her boyfriend, Josh Hill, are store team leaders at Target. Says Alexander, “If Target does well, then I do well.”
U.S. consumers have been surprisingly upbeat lately. After a slow spring, retail sales have increased for three straight months, posting their strongest gains since the end of 2010. Consumer confidence has been on a tear since mid-August and is now higher than it’s been in five years. Low interest rates and higher prices have helped push home sales up 11 percent over 2011. All this despite incomes that have remained flat, unemployment that’s still high at 7.8 percent, and gasoline and food prices that are higher than they were a few months ago.
The U.S. economy is developing a split personality. “There’s definitely something amiss here,” says Neil Dutta, senior U.S. economist at Renaissance Macro Research. “Corporate earnings do not paint the picture of such a positive consumer that we’re seeing.”
Businesses and consumers don’t always move in tandem. In the middle of 2008, consumer sentiment plunged before businesses started to pull back in the face of the coming crash, says Dutta. Still, today’s business-consumer split will need to work itself out: Either consumers will keep spending and business will perk up, or consumers will cut spending as they feel the downward pull of the fundamentals.
So who’s right? Though consumption accounts for about 65 percent of U.S. gross domestic product, there are signs that the current spending is a blip. “I would say that consumption has gone a bit crazy,” says Paul Ashworth, chief U.S. economist at Capital Economics, who pointed out the strange divergence in an Oct. 17 note to clients. Given the weak employment picture and flat incomes, this level of consumer spending probably isn’t sustainable, particularly since a lot of it is seems financed by people dipping into their piggy banks. The savings rate fell from 4.4 percent to 3.7 from the end of June to the end of August.
Consumers also tend to be far less forward-looking than businesses, says Dutta, which are clearly spooked by the uncertainty surrounding the presidential election, plus the looming fiscal cliff of spending cuts and tax increases scheduled to hit in January. Given all the unknowns, businesses are stuck in a holding pattern, awaiting resolution. “I honestly don’t think that most people are aware of it,” says Ashworth, referring to the fiscal cliff. “But they will be soon.”
Howard Morse, chairman of Morse Brothers, a third-generation cranberry grower in Easton, Mass., says “I’m in no man’s land.” Morse needs to buy a new front-end loader, which will cost him about $250,000. Despite a bumper crop this year and stable prices, he isn’t sure whether to buy the equipment or not. So he’s waiting. “I have no idea what to do with my business right now, and I’ve been doing this my whole life,” says Morse, a former chairman of Ocean Spray, the $2 billion cranberry co-op.
Morse’s accountant, Grafton “Cap” Willey, a managing director at the Boston accounting and consulting firm, C BIZ Tofias, has told him to hold off on making any big purchases this year. Under normal circumstances, Willey would tell business clients to increase end-of-the-year expenses to reduce their taxable earnings. But 2012 is different.
Depending on who wins the election and whether the fiscal cliff gets resolved, the smart move for a lot of businesses may be to maximize profits now and defer spending to next year so the expenditures lower their earnings in the face of higher taxes. “It is certainly not the normal way of doing tax planning,” says Willey, a former chair of the National Small Business Association. “This year is the most difficult in my 35-year career.” Willey says he’s telling clients to wait until Nov. 7, the day after the election, before they do anything.