Remember, after spending fell by much more than it needed to for purely budgetary reasons in 2020 (as consumers avoided face-to-face services), it then failed to increase by as much as would have been expected from the extraordinary income growth in 2021. Consumers thus were able to avoid cutting back amid the recent rapid declines in income. It is anyone’s guess whether this smoothing behavior will continue; but I expect that it will, at least by enough to keep consumer spending growing at a roughly 2% annualized rate in the second half of the year.
Consumer spending represents about two-thirds of the US economy. If it stays strong, that will prevent overall growth from turning negative and the economy from slipping into recession. Most of the postwar recessions were preceded by at least one quarter of slow consumption growth – with consumer spending slowing further or even turning negative during the recession itself.
Moreover, other elements of the economy are also pushing against recession. For example, fixed investment is increasing, because businesses still have access to relatively cheap capital with which to rebuild their lean inventories.
The sharp rise in mortgage interest rates this year, however, should curtail residential investment. And since the US is still importing a lot of its consumption, high oil prices and global supply-chain issues will remain a concern. Many financial signals are flashing red, including a stock market nearing bear territory and a yield curve that is almost inverted (long-term interest rates are nearly lower than short-term interest rates, signaling investor concerns about the future). Anything could happen in the coming months, and next year will be even more difficult to navigate if the US Federal Reserve keeps raising rates in the face of persistent inflation.
Unfortunately, even if real consumer spending slows, it would not necessarily be enough to bring down inflation. Real spending growth could slow dramatically even while nominal spending continues to rise rapidly if prices and wages are both growing robustly in nominal terms. A slowdown or even a recession would likely put downward pressure on inflation, but not necessarily by more than a half or full percentage point. That means bringing inflation down may prove even more difficult than keeping growth up.
Jason Furman, a former chair of President Barack Obama’s Council of Economic Advisers, is professor of the Practice of Economic Policy at Harvard University’s John F. Kennedy School of Government and senior fellow at the Peterson Institute for International Economics.