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Spending rises despite flat incomes

By Richard Barrington

The latest personal consumption data from the Bureau of Economic Analysis (BEA) suggests that U.S. consumers are spending more in 2012 in spite of relatively flat incomes.

After increasing by about 0.4 percent for the entire fourth quarter of 2011, last week's BEA report revealed that personal consumption expenditures increased by that much in January alone, and then by 0.8 percent in February.

But the BEA figures indicated that personal income isn't growing nearly as quickly. While personal income growth exceeded spending growth in the fourth quarter of last year, it has increased by just 0.2 percent in each of the first two months of 2012, which doesn't come close to keeping up with the aforementioned increases in spending.

The conflict between spending and incomes

Changes in spending can temporarily outstrip changes in income without doing any harm, but over the long run this implies an increase in debt and/or a decrease in savings rates. Unfortunately, this has already been the trend.

According to the Federal Reserve, overall consumer debt outstanding increased last year for the first time since 2008, and this trend has continued in early 2012. Meanwhile, personal savings rates reported by the BEA have declined for five consecutive quarters -- a feat made even more remarkable by the fact that they were starting from historically low levels to begin with.

Implications for the economy

In some ways, this trend is by design. Low loan rates encourage spending, while low interest rates on savings accounts discourage savings. The immediate result is increased spending, and this has given the impression that economic growth is gaining momentum.

Unfortunately, this kind of growth is essentially borrowed from the future and therefore is not sustainable. After all, savings rates have been low for years, so it's not as if Americans had huge reserves of savings to draw from. Similarly, though Americans chipped away at debt levels a little in recent years, it has been a long-building problem that is now threatening to get worse than ever.

Possible outcomes

The relationships between debt, spending and saving are complex. Debt can help support spending, but only temporarily. Saving should ideally be strong enough to support spending, but cannot do so after years of neglect.

The key to reducing the tension in this triangle may be income. Rising income levels could help sustain spending, ease debt levels and restore savings rates back to health, but the recent levels of growth in income don't come close to achieving these aims.

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