Consumer Spending Could Be Out of Gas

Rising gas prices finally are prompting some to cut spending. Could too much thrift hurt the economy?

Wal-Mart worker Jean Sartore sees the effect of rising gas prices on the sales floor at work and when she gets in her 1996 Buick Park Avenue. With local gas prices at $3.27 on May 16, filling her car costs about $75—a day's pay at Sartore's Wal-Mart Supercenter (WMT) in Henderson, Ky. At work, Sartore says the gift and toy departments she oversees now get fewer shoppers.

Sartore used to take unpaid days off occasionally but can no longer afford to do that. "I can cut back on the little things, but I still have to fill up each week," she says. "That means no days off. It's a lot of hours for a tank of gas."

Lots of Cutting Back

In the face of stagnating wages, an ongoing housing market decline, and ballooning household debt, consumers have been the stalwarts of the U.S. economy. But as gas prices approach historic highs, lower-income consumers are finally slowing down, watching both their wallets and how much they drive.

Rising steadily for three months, gas prices hit a nationwide average of $3.10 per gallon on May 16—a historic record, and 2 cents shy of the inflation-adjusted high of $3.12 reached in 1981. With the Energy Dept. data showing that gasoline demand is starting to abate, and April retail sales more sluggish than expected, there's concern for the broader economy if U.S. consumers turn thriftier.

Consumer consulting firm BIGresearch reports that rising gas prices are causing consumers to cut back in a variety of ways. Nearly three-quarters of the 8,300 respondents said they have cut back spending in some way, with 40% saying they're taking fewer shopping trips, 31% saying they're eating out less, and 33% cutting back on travel, according to the study, which was released May 14.

Economic Ripple Effect?

"We're starting to see a more subdued consumer," says Gary Drenik, BIGresearch's president and CEO. "A lot of households have a fixed income and no savings, and rising gas prices are a shock to the system. It's wreaking havoc with their budgets, so they're hunting for ways to cut back."

Economic growth slowed to just 1.3% in the January-to-March quarter, the weakest showing in four years. The culprit? Housing's long slump, which caused some businesses to curb expenditures. During that period, consumers showed resilience and managed to keep on spending, preventing an even more sluggish performance.

But signs that consumers are no longer so exuberant emerged on May 11, when the government reported that retail sales dropped 0.2 percent in April, far weaker than economists' forecasts. The day before, large retailers also reported disappointing sales for April, interpreted by many analysts as a grave indicator of consumers' summer spending.

Uneven Impact

Of course, rising gas prices aren't affecting all consumers equally; for wealthier households, an extra 50 cents a gallon means little to the family budget. And even lower-income consumers like Sartore can't trim such essentials as driving to work. On the whole, Americans' habits and lifestyles require driving, and access to credit has made it easier for even poorer households to spend beyond their incomes. That's why gasoline demand did not abate until late April, and why demand remained strong last summer, even with price spikes.

All of which is why Scott Krugman, vice-president, public relations, of the National Retail Federation, pokes holes in doom-and-gloom scenarios built on gas prices and consumer spending. He says pump prices have only a marginal impact on consumer habits. "Gas prices cause consumers to make small sacrifices and to hold back on smaller, discretionary purposes," says Krugman. "Our research shows that they adapt quickly to higher gas prices and don't hold back on major purchases."

Still, lower-income consumers such as Sartore and the shoppers she serves at Wal-Mart are starting to scale back, as they did after Hurricanes Rita and Katrina boosted gas prices. National Retail Federation studies have found that low-income shoppers—which it terms "Wal-Mart" consumers—tend to cut back spending disproportionately compared to middle-class or "Macy's" consumers.

More than 42 million households have incomes of $30,000 or less, and median household debt for those with debt is $54,000, according to the Federal Reserve. Those budgets leave little cushion for surges in the price of gas.

The Parking Lot Indicator

Wal-Mart already may be feeling the effects of consumers' worries. Though the company reported on May 15 that first-quarter profits rose 8%, CEO H. Lee Scott voiced his concern for the future on a conference call, projecting lower-than-expected second-quarter earnings. "Quite honestly, we're not satisfied with our overall performance," Scott said on the call. First-quarter sales and profits were "not where we would have expected to be, nor where we believe we should be."

On May 10, the company reported a sharper-than-expected 3.5% decline in sales at U.S. stores open at least a year in April. On May 15, Home Depot (HD) also reported a steep 29.5% percent drop in first-quarter profits. Wal-Mart plans to focus its efforts on low prices, in a bid to retain its core shopper base.

Scott and Wal-Mart may have their work cut out for them. Sartore says that the parking lot at her Superstore is a third less full than usual, as shoppers are heading to dollar stores, or just staying home.

While Sartore may cut back at home, she's determined not to cancel her vacation to Oklahoma this summer. "I've been planning this one for a long time," she says. "But as for the trip we usually take in the fall, I might have to reconsider."

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