The drawdown threatens to slow the economy’s growth if it continues.
Economists have marveled this year at how resilient the American consumer has been, maintaining spending even as prices rise for necessities from gasoline to groceries.
In April personal spending was flat after a 0.5% increase a month earlier. But dig deeper into the numbers and it turns out this spending is being supported by consumers drawing down their savings – a trend that could put a dent in spending if prices continue their ascent.
The flat spending in April was accompanied by a decline in disposable income, while the savings rate (personal savings as a percentage of disposable income) fell to 2.6% – its lowest level since 2022. That was during the recovery from COVID-19.
“With inflation eating into income growth, consumers are increasingly drawing down savings to sustain spending,” Richard de Chazal, macro analyst at William Blair, wrote after the personal income and outlays report was released by the Bureau of Economic Analysis on Thursday.
Tax Cut Bump Has Faded
Americans generally have two ways to pay for their spending: income in the form of wages and other payments, and assets they hold that can be sold to raise cash. Many of those in the lower and middle income groups have to rely on wage growth, now averaging an annual rate of 3.6%, while upper income consumers have enjoyed a rising stock market that they can tap if need be.
“Consumers had been getting a lift from last year’s tax cuts, but that tailwind is fading as higher gasoline prices and war-related uncertainty offset some of the expected gains from larger refunds,” de Chazal added.
In 2021, pandemic-era labor shortages lifted wages by 8.9% on average, but that moderated to 4.84% by 2024. This year, it is running 3.6% – just a hair under consumer prices that are increasing by 3.8 as of June.
A slowing economy and rising inflation is a situation that economists refer to as “stagflation” – a condition where lower rates don’t work well as a stimulant because of stubborn inflation. The rate of annual growth in gross domestic product was reduced to 1.6% last week from an initial estimate of 2%. Further contraction in growth coupled with sticky inflation will challenge a Federal Reserve not currently disposed toward lower interest rates.
As a result, consumers may be forced to dip further into their savings or reach for their credit cards. But credit card debt is now $1.25 trillion as of the first quarter, slightly lower than in late 2024, but still $325 billion more than it was in the last quarter of 2019, a year in which inflation was 1.8%. And the average interest rate on credit debt for those who maintain a balance is 21%.
“We expect this stress on consumers to continue in the coming months until we see a meaningful drop in inflation,” says David Royal, chief financial officer at Thrivent.
That won’t happen for a while, even if a ceasefire between the U.S. and Iran is agreed to. Disruptions in supply chains and damages to key oil infrastructure throughout the Middle East could mean oil prices remain elevated for months.
Oil prices did lose around 20% a barrel on Friday after President Donald Trump said he would review the latest proposal from Iran over the weekend. But a top executive at Exxon Mobil also warned Friday that global inventories of oil were reaching a critical low point that could see the price of the liquid gold spike in the coming weeks.
There was little movement Monday as a ceasefire remains elusive and oil hovers around $94 a barrel. Both sides reported limited attacks on each other over the weekend.
The most recent inflation forecast from the Fed has prices rising at an average of 2.7% this year, with the Organization for Economic Cooperation and Development coming in with a 4.2% estimate for the U.S.
Whoever is right may not matter to everyday American consumers, who likely will find it a struggle to meet their expenses without dipping further into their savings.
Experts note that in prior times when the savings rate dipped, consumers had cushions in the home equity built up in their homes as well as pandemic payments that helped cash flow.
“Today, there is little room to keep spending by saving less,” Felix Vezina-Poirier, chief strategist at BCA Research, said in an email on Friday. “If the Strait of Hormuz remains closed, the risk of a further domestic demand slowdown is clear.”
