Americans Buy IPads While Broke in New Abnormal Economy
In March, Ralph Ronzio went to a warehouse in a seedy part of Orange County, California, and watched a man auction off his condo for half what he’d paid for it. Ronzio had bought the place for $329,000 in 2005, when he moved to Southern California from Rhode Island to take a job at a data-storage company. It was the first place he’d ever owned.
“It was totally my bachelor pad,” he says. “Not much inside other than the usual leather couch and the big screen TV. My fiancée made me sell the couch.”
That wasn’t the only thing that changed when Ronzio got engaged. His fiancée had two young children, and there wasn’t enough room in the condo for all four of them. So last year, Ronzio bought a house nine miles (14 kilometers) away and they all moved in. He figured he could rent the condo and cover his costs. He figured wrong, Bloomberg Businessweek reports in its Aug. 2 issue.
The more he thought about the money he was losing, the more it stressed him out. Finally, Ronzio enlisted the help of a firm called You Walk Away and did exactly that from the remaining $319,000 on his condo mortgage. When the bank foreclosed, he says he felt a sense of relief. He also had more cash. He and his fiancée took the kids to Disneyland. Ronzio, 31, gave himself a treat as well.
“I bought myself an iPad,” he says.
Latest Apple Gadget
It used to be that someone like Ronzio could be fairly certain of the outcome when spending a few hundred thousand dollars on real estate. Housing prices were headed in only one direction. You could surf the boom and borrow against your home equity to pay for all manner of splurges -- a vacation, a flat- screen television, or the latest Apple Inc. gadget. Considering that housing prices almost doubled from 1999 to 2006, there was always an escape hatch: Sell your house and make enough money to pay it all back.
That was the old normal. Last year, Mohamed El-Erian, chief executive officer of Pacific Investment Management Co., manager of the world’s biggest bond fund, declared a “new normal,” a global realignment in which the U.S. consumer, no longer a hungry monster, became cautious and subdued.
The current circumstances might be better described as the new abnormal, in which no one knows anything. In June, the Conference Board Consumer Confidence Index fell 9 points after an 11 percent drop in the S&P 500 the month before. New housing starts were at an eight-month low. Meanwhile, the unemployment rate still hovers near double digits. That’s 14.6 million Americans out of work. Federal Reserve Chairman Ben Bernanke added to the anxiety with a July 21 declaration that the economic outlook is “unusually uncertain.”
So who are all those people at the mall? It’s easy to forget that a 9.5 percent unemployment rate means that about 9 out of 10 Americans in the workforce are still employed.
“Some consumers are probably liquidity-constrained,” says Kenneth Rogoff, Harvard University professor and former chief economist at the International Monetary Fund. These are “the ones who are probably not the ones buying iPads. But 90 percent of Americans do have a job, and maybe 70 percent are confident about them. And maybe half of those have liquidity.”
On a recent afternoon, Lucy Johnston, 37, an accountant from Tulsa, Oklahoma, could be found at the Fashion Show mall on the Strip in Las Vegas. She’s cutting back on shopping and eating out because of the recession.
“It’s really tough right now,” Johnston says. “I don’t do many full-on spa days anymore.”
Yet there she was, shopping and vacationing in Vegas with her husband.
“We’ve pulled out all the stops. We’re staying at the Bellagio,” she says.
The new abnormal has given rise to a nation of schizophrenic consumers. They splurge on high-end discretionary items and cut back on brand-name toothpaste and shampoo. Companies such as Cupertino, California-based Apple, whose net income jumped 94 percent in its last quarter, and Starbucks Corp., which saw a 61 percent increase in operating income over the same time frame, are thriving.
Mercedes-Benz is having a record sales year; deliveries of new vehicles in the U.S. rose 25 percent in the first six months of 2010. Lexus and BMW were also up. Though luxury-goods manufacturers such as Hermes International SCA and Burberry Group Plc are looking primarily to Asia for growth, their recent earnings reports suggest stabilization and even modest improvement in the U.S.
“Last September, retail started to recover on a very narrow basis,” says Michael Niemira, chief economist for the International Council of Shopping Centers. “Most of the industry was really weak. It wasn’t until the end of the year that you saw any momentum. It was all dollar stores and luxury. You have this bifurcated market. This year, it started to move to the middle a little. Now it’s kind of moved back to the edges.”
Some of this is a reminder that the rich have been largely shielded from the recession’s ravages.
“All of my customers think we are out of the recession,” says Marika Baca, an associate in the women’s department at the Barneys New York store. “This time last year, it was bad. But now the women who were reluctantly picking up one piece are easily buying three.”
Aspirational middle-class consumers say they are also yearning to get their hands on the same high-end merchandise, just as they did in better times.
Family Dollar Stores
In such an environment, optimism about the economic future ebbs and flows constantly, with far-reaching consequences for a nation in which consumer spending accounts for 70 percent of the gross national product. It’s an economy that suggests an EKG- shaped recovery -- a sequence of mini booms and busts as consumer fads and pent-up demand drive sales, until the impulses fade. Erratic behavior is everywhere, even at Matthews, North Carolina-based Family Dollar Stores Inc.
“My feeling is that you can see week-to-week differences today that are far more volatile than what we have been seeing,” says R. James Kelly, the company’s president and chief operating officer, reporting a quarter with a 19 percent increase in net income.
Consumer confidence was edging up earlier this year. The stock market had rebounded. It looked like the economy took on aspects of normal behavior -- and then it all fell apart. In June, the stock market gave back 4 percent of its value. Like teenagers suffering mood swings, consumers lost their nerve all over again.
On July 27, the Conference Board reported that confidence was at a five-month low, which it blamed on job insecurity.
“Concerns about the labor market are casting a dark cloud over consumers that is not likely to lift until the job market improves,” Lynn Franco, director of the board’s consumer research center, says in a statement.
Not everybody’s consumer diagnosis is the same, though. Shortly before the Conference Board released its finding, Consumer Reports, the 74-year-old magazine, unveiled the results of its monthly telephone survey about economic issues. It found that consumers had ramped up their retail spending by an average of $40. Though major purchases like cars remained unlikely, Americans were planning to spend more on appliances and electronics.
“We just focus on what’s happening this month,” says Ed Farrell, a director of the Consumer Reports National Research Center. “We don’t ask people what they think the business climate is going to be like in a year. If these people could tell us that, we’d all be very well off.”
American Express Co. released the results of its consumer survey on July 13, showing more willingness to spend, damped somewhat by guilt and despair on the part of some of these same respondents. The New York-based credit-card company found that 51 percent of consumers had fallen behind on their annual savings plan, in part because they were either making impulse purchases or simply spending beyond their means. There it is: gloom, muted optimism, and wild abandon.
What if these things aren’t exclusive in the new abnormal? Frank Veneroso, an investment strategy adviser in Portsmouth, New Hampshire, follows the nation’s saving rate. It was his opinion that high debt levels and economic fears would force Americans to rein in their spending and increase their savings.
‘Celebratory Spending Spree’
In the early part of the recession, that’s what happened. Then it stopped happening. Veneroso writes in a report that the nation’s wealthier citizens were so relieved when the stock market rallied last year after the financial crisis that they went on a “celebratory spending spree.” The recent market turmoil will put a stop to it and savings will start to inch back up, Veneroso says.
Except market rallies aren’t the only thing that emboldens consumers. Market dips can also loosen up purse strings, says Dan Ariely, a professor of behavioral economics at Duke University and author of “Predictably Irrational: The Hidden Forces that Shape Our Decisions.” When people fret about market gyrations, they see the advantage of shopping over putting money into a mutual fund that might tank, Ariely says.
“If they lose money by spending it on something, at least they have something to show for it,” he says.
For consumers looking for a reason, ups and downs can both provide a justification for spending. Stephanie Redmond, a 25- year-old electronics worker, talked about her financial woes as she shopped at the Dolphin Mall in Miami. She described herself as pessimistic about the economy.
Need New Car
“I don’t see it getting any better,” she said. “I need a new car, but I don’t plan on getting one anytime soon.”
Instead she recently bought a plane ticket to New York and stayed in a Times Square hotel.
“It was my first time, so it was a lot of fun,” she said.
At the Woodfield Shopping Center in Schaumburg, Illinois, Michelle Rodriguez, 39, a part-time cafeteria worker at a local high school, said she cut back considerably after losing her old full-time job two years ago as a receptionist at Kraft Foods Inc.
“I think the economy has a ways to go,” she said. “I don’t make nearly as much as I used to make.”
Yet she said she bought a 46-inch flat-screen Sony TV in the last year. And now she was waiting for help in the Genius Bar line at the Apple Store.
One way of understanding Apple’s recent success -- the company announced “all-time record” revenue of $15.7 billion for its quarter ending on June 26 -- is that the iPad is positioned as a compromise product for people who crave the kick of a new Apple gadget and don’t want to spring for a Mac.
“I was talking to someone recently who said to me, ‘I bought the iPad because I can’t afford a new iMac,’” says Carla Serrano, chief strategist for TBWA/Chiat/Day, Apple’s advertising agency. “O.K., fine. But the iPad does hardly anything that an iMac can do.”
The recession is making people think they need to come up with that she describes as “post-rational” justifications for their extravagant purchases, she says.
The performance of Seattle-based Starbucks suggests that everyday luxuries have also not been wiped out. On July 21, the coffee chain announced a “record” quarter with same-store sales growth of 9 percent, the biggest increase since the second quarter of 2006, the peak of the old normal.
CEO Howard Schultz highlighted Starbucks’ new products, like the “customizable Frappuccino campaign,” as well as Via, the new instant coffee, which is pitched as a budget item, though not exactly priced like one when compared with other instant competitors. A 12-packet box of Via goes for $9.95.
Starbucks is the lower-end corollary to Apple, a purveyor of expensive treats. Stephanie Redmond, the Miami electronics worker, may not buy the new car she needs, but give up Starbucks? Never. She says she has to have it “every day!”
Mass marketers have a tougher time seducing consumers with psychological value. Burt Flickinger, a retail consultant based in New York, says Procter & Gamble Co. is struggling to keep people from abandoning its Ivory soap and Crest toothpaste for generic brands. According to Flickinger, better-educated shoppers understand how little difference there is in quality on many household items.
They may also be sneaking into discount retailers for these deals.
“The dollar store is the new Target,” says Al Moffatt, CEO of Worldwide Partners, a Denver-based advertising company. “You go in there to buy shampoo for a buck so you can go to Starbucks and justify spending $3 for a coffee.”
Moffatt says that he and his wife recently did their own variation on this recessionary theme. On a trip to Oregon, they bought cheap towels at a discount store before hitting a pricey spa.
Ran Kivetz, a professor of marketing at Columbia Business School, has done research on consumer psychology. He says that consumers’ brains lack a line that separates spending from saving. We practice a certain amount of thrift so that we can justify blowing a large sum frivolously, he says.
Kivetz says the recent recession has made consumer thinking even more conflicted. In the short run, we feel good when we save. In the long run, we tend to regret the denial of a spending outlet.
“We feel guilty” about spending, Kivetz says, which can lead to more irrational purchasing.
Need to Spend
That’s is exactly what’s happening now, according to Kivetz. Consumers were quick to reduce spending when the recession arrived. Then the recession lasted longer than expected, and the new abnormal set in. The economy started to improve. Then it appeared to worsen. There is only so long we can suppress our need to spend, Kivetz says.
“It’s just been a slow walk out of the woods,” he says. “And it’s so complicated. The things going on in Europe are frightening. There are problems with China, with our government debt, and bank debt. At the end of the day, people are saying, ‘There is still risk. I gotta cut back.’ But this is not a typical one-year recession. Life has to have some normalcy. I have to have some luxuries.”
There was little evidence of the recession at a recent lunchtime in the Mall of America in Bloomington, Minnesota. The nation’s largest mall was full of shoppers drinking expensive coffee and toting bags of electronics and expensive shoes. Some of them were there on vacation. Why not? The Mall of America doesn’t just have 520-plus shops, it has an enormous amusement park and a 1.2 million gallon aquarium. Sales are up 9 percent so far this year.
Mellissa Williams, a 30-year-old teacher from Laredo, Missouri, was looking for sneakers with her two children at a sporting goods store.
“We’ll be looking at price tags a little more than we normally would,” she said.
And yet she had come a long way to look for deals. What was her biggest splurge in the last six months?
“Probably this trip,” Williams said.