U.S. consumer spending increases by the most in almost two years, while inflation increases.

On February 24, the Commerce Department released a report revealing that U.S. consumer spending experienced its largest increase in almost two years in January, largely due to a significant rise in wages. However, the report also showed that inflation rates accelerated, which has caused concerns in the financial market that the Federal Reserve may decide to continue raising interest rates through the summer. Despite these fears, the report, along with earlier data showing strong job growth and record-low unemployment rates in January, suggest that the economy is not at risk of entering a recession.

“According to Jeffrey Roach, chief economist at LPL Financial in Charlotte, North Carolina, “clearly, tighter monetary policy has yet to fully impact consumers and shows that the Fed has more work to do in slowing down aggregate demand.” The Fed will likely continue raising rates for a lot longer than markets had previously predicted, according to this report.”

Last month, consumer spending in the United States, which comprises over two-thirds of the country’s economic activity, experienced a significant surge of 1.8%, marking the largest increase since March 2021. Additionally, revised data for December demonstrated that spending actually decreased by 0.1%, as opposed to the previously reported 0.2% drop. Economists who were surveyed by Reuters had predicted a rebound of 1.3% in consumer spending.

Consumer expenditure grew 1.1% when adjusted for inflation, which is also the highest growth since March 2021. In November and December, the so-called real consumer spending fell.

Purchases of durable manufactured products including motor cars, home furnishings and equipment, as well as leisure goods and automobiles, increased among consumers. They also purchased clothing. Outlays on goods increased 2.8%. Expenditure on services was also high, up 1.3% as more people visited pubs and restaurants. Spending on transportation, entertainment, and healthcare services all went up.

Spending overall increased as earnings and salaries increased by 0.9%. For more than 65 million recipients of Social Security, an 8.7% cost of living adjustment—the largest rise since 1981—offset a decline in government social payments. That was a reflection of the extended child tax credit’s expiry.

The inability to remove seasonal swings from the data at the beginning of the year probably also inflated spending. Several economists anticipate recoupment in February.

Yet, in the beginning of the first quarter, the excellent performance set consumer spending on a higher growth path. In the fourth quarter, consumer spending fell, with the final two months of 2022 seeing the most of the decline in momentum.

NEW RATE INCREASES

The release of January’s impressive employment report has put financial markets on edge. In the upcoming months, the Fed is anticipated to implement two rate hikes of 25 basis points in March and May. On Friday, traders increased their bets for another rate increase in June. Over the last year, the U.S. central bank has raised its policy rate from near zero to a range of 4.50% to 4.75%, which equates to an increase of 450 basis points since last March.

The personal consumption expenditures (PCE) price index shot up 0.6% last month, the largest increase since June 2022, after gaining 0.2% in December. In the 12 months through January, the PCE price index accelerated 5.4% after rising 5.3% in December.

In January, the PCE price index, which excludes volatile food and energy components, experienced a notable increase of 0.6%, marking the most significant gain since August 2022, following a 0.4% rise in December. Meanwhile, the core PCE price index, which is calculated by excluding food and energy prices, rose 4.7% on a year-on-year basis in January, up from 4.6% in December.

The Federal Reserve uses PCE price indexes to inform its monetary policy decisions. Economists’ calculations show that core services prices, excluding housing, which are closely monitored by policymakers, also increased by 0.6% after climbing 0.4% in December.

The inflation rise is attributed to consumer and producer price revisions published this month, along with businesses increasing prices at the start of the year. These recent inflation increases have left economists anticipating a slow and challenging path to disinflation, with a University of Michigan survey conducted in February revealing that consumers’ short-term inflation expectations have risen.

According to some observers, when the Bureau of Economic Analysis (BEA) of the Commerce Department releases its yearly revisions later this year, the year-over-year Personal Consumption Expenditures (PCE) pricing data may be revised lower. The yearly revision had no impact on the year-over-year statistics for the Producer Price Index (PPI) or the Consumer Price Index (CPI).

The PCE pricing data has only been revised upward recently based on the underlying source data, without compensating downward adjustments to prior months, according to economist Daniel Silver of JPMorgan in New York. Because of this, the BEA’s yearly adjustment this autumn is anticipated to lower the year-ago rates for the PCE pricing data in recent months that may be excessively high.

Personal income rose strongly by 0.6%, mostly as a result of rapid wage growth, while family disposable income soared by 1.4% after accounting for inflation, marking the biggest gain since March 2021. A 7.9% decrease in tax obligations also contributed to an increase in discretionary income.

Consumers have boosted their savings despite rising consumption. The saving rate increased from 4.5% in December to 4.7%, the highest in a year. Sal Guatieri, a senior economist at BMO Capital Markets in Toronto, claims that people are withdrawing from their surplus savings at a slower rate, possibly as a result of worries about the impending recession.

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