Photographer: Patrick T. Fallon/Bloomberg

The Downside to Higher Consumer Spending

Higher consumer spending is good for the economy, sure. Good for the spenders? Not so much

Household spending rose in May by the most in almost six years, as wage gains from a strengthening job market pumped up incomes. That makes economists and the stock market happy. And with the U.S. economy heavily dependent on consumer spending, it's hard to argue that looser wallets are a bad thing. But higher spending means lower saving—and with bleak retirement prospects for most U.S. workers, that's a tough tradeoff. 

Americans get kudos for saving much of the $150 billion windfall from lower oil prices, and some of that went to paying off debt. But after reaching a more than two-year high of 5.7 percent in February, the savings rate has been falling and stands at 5.1 percent. Harm Bandholz, chief U.S. economist at UniCredit Bank, writes that “this is just the beginning” of a decline. He expects the savings rate to fall below 4.5 percent.

At the same time, a few signs on the consumer front are worrisome: 

  • Interest-only mortgage loans are coming back, albeit with higher standards.
  • Consumers are taking longer-term loans when they buy cars, with leases as long as 72 months. That adds up to a lot in extra interest payments
  • Borrowers who can't qualify for home equity lines of credit are increasingly relying on credit cards. The average fixed rate on a credit card is more than 13 percent. That's nearly three times that of a $30,000 home-equity loan for borrowers with average credit scores, according to the recent data from Bankrate.com. 

The lure of a new car—where much of the consumer spending is going—is strong. Those who can resist could use any extra cash to invest in assets that actually appreciate over time. Here are a few ways to get on stronger financial footing: 

  • Build up an emergency fund. A Bankrate.com survey found that 29 percent of Americans said they had no emergency savings. Only 25 percent of Americans have the recommended six months' worth of savings.
  • Bump up 401(k) savings plan contribution rates. Even a 1 percent bump can have a good long-term payoff.
  • Set up an automatic deduction plan tied to savings accounts. When you don't even see the money, it's hard to miss it. Look for special deals on CDs, potentially at credit unions. You won't get much more than 1 percent on a 1-year CD, but it's better than the zippo you'd likely get from a brokerage sweep account.

If the appeal of a new car is too much to resist, try resisting those offers of lower payments on loans as long as 72 months. Here's one way to look at it: The average monthly car payment is about $480. If you get rid of that payment in four years, rather than six or more, in year five you can put that monthly $480 toward fully funding an IRA, if you're younger than 50. 

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