Fatter Paychecks Set to Perk Up U.S. Growth as Consumer Rebounds

Weak consumer spending slowed the U.S. expansion to a crawl in the first quarter, a setback economists view as temporary as wage gains buttress household confidence.

Americans spent at the slowest pace since 2009, while a pickup in inflation ate into their income growth, the Commerce Department’s gross domestic product data showed Friday. But a separate report offered a sign that compensation could be perking up amid healthier overall demand, with wages and salaries rising at the fastest pace in almost nine years.

Depressed utility costs amid warmer-than-usual weather, a sudden drop in automobile purchases, and delayed tax refunds all weighed on consumers’ first-quarter expenditures that make up the biggest part of the economy. Household balance sheets, which are in relatively solid shape almost eight years since the recession ended, are slated to help consumers carry the load, putting growth on a similar track as previous years: sluggish at the year’s start, followed by a moderate pace.

Wage gains will play a bigger role in helping boost sentiment and offset the negative effects on consumer spending from higher inflation, said Tom Simons, an economist at Jefferies LLC in New York.

Confidence Surveys

“The responses to the recent consumer confidence surveys have reflected that there’s a pretty general level of comfort on that front,” he said. “We have come a long way on inflation, but I don’t see a lot of near-term continued upward pressure. I think the consumer is going to be in pretty decent shape in Q2.”

Indeed, consumers were still upbeat about their personal finances, according to the University of Michigan survey released Friday. The current conditions index in April was at its second-highest since 2005, and consumer expectations for inflation in the year ahead, and in five to 10 years, were unchanged from the prior month.

The employment cost index, released Friday by the Labor Department, showed a 2.4 percent annual rise -- the fastest pace in two years -- and climbed 0.8 percent from the prior quarter for the strongest rate since the end of 2007. The wages and salaries component also increased 0.8 percent in the first three months of the year, the most since the second quarter of 2008.

At the same time, there are reasons to be cautious about signs of wage growth: The employment cost index isn’t adjusted for inflation, meaning the real gains to the consumer have been more tepid. And other indicators of compensation haven’t been quite as rosy -- average hourly earnings in the Labor Department’s employment report, for instance, were up 2.7 percent year-over-year in March, little changed from the average over the previous year.

Federal Reserve policy makers have remained buoyant about wage growth picking up as part of a broader trend in faster inflation. They have penciled in two more interest-rate hikes this year and seek to wean the economy off its $4.5 trillion balance sheet.

The Fed’s recent Beige Book -- an accounting of business anecdotes across the bank’s 12 districts -- revealed more solid evidence of tightness in the labor market that was translating into higher labor costs.

“There’s clear signs that wages and salaries are gaining some traction and we think that will continue with the labor market continues to tighten and slack diminishes,” said Russell Price, senior economist at Ameriprise Financial Inc. in Detroit. “We believe strongly we will see a rebound in consumer activity.”

While the rejuvenated consumer spending would be important in carrying the rebound for the rest of 2017, the economy also should see some gains from other GDP components.

Business investment, which added 0.69 percentage point to growth in the first quarter, is slated to remain steady, especially if firms stay heartened about the prospects for looser regulation and tax reform under the Trump administration. A replenishing of now-depleted inventories in the months ahead also will help.

Net exports, however, are unlikely to be a bigger contributor to GDP, as a stronger dollar continues to apply downward pressure on overseas sales.

Even as first-quarter growth was only slightly gloomier than expected, economists already have been eyeing 2.2 percent growth for the full year, according to Bloomberg survey data.

That broadening-out of demand across the U.S. economy should create a solid picture for the consumer in the second quarter, said Sam Bullard, senior economist at Wells Fargo Securities LLC in Charlotte, North Carolina.

“While we had weakness in the first two months of the quarter, things seem to be turning around,” he said. “With a little more ammunition in savings and the housing market continuing to take off, the fundamentals for the consumer are still constructive towards growth.”