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Wednesday, March 19, 2008 1:51 AM

Attitudes Lead, The CPI Lags

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Here's an interesting article called Households face the unthinkable: budgeting.

"For many years people on Wall Street have refused to believe that American consumers could ever change their spending habits," said David Rosenberg, North American economist at Merrill Lynch. "But it's happening."

"Frugality is in, extravagance is out," he added.

Consumer spending accounts for 70 percent of the U.S. economy and, according to Rosenberg, 30 percent of that is discretionary spending -- that is, buying stuff you can live without. There are already signs that American consumers are "trading down" in the search for bargains, with February same-store retail sales showing customers favoring discounters like Wal-Mart Stores Inc over higher-end retailers.

Merrill Lynch's Rosenberg said that in the fourth quarter of 2007, Americans' household debt almost equaled 140 percent of their after-tax income and that they were spending 14.3 percent of their after-tax income paying down that debt.

"Simply put, that means Americans are spending more on servicing their debt than they do on food," Rosenberg said. "This is not just affecting stressed-out or soon-to-be-foreclosed home owners. This hurts everybody."

Rosenberg predicted Americans will start saving more, which he said will shave 1 percentage point off annual U.S. consumer spending growth for years to come. "It is hard to say how bad things will get," Rosenberg added. "We're in unchartered territory at this point."
Attitudes Lead

We have talked about this before but this attitude is picking up steam. It's no longer cool to spend. Attitude changes are a key reason why Fiscal "Stimulus" Doomed To Fail.

People will just going to use most of that money to pay down debt. Perhaps it adds a half point to the GDP in third quarter. Perhaps. If that brings the US out of recession (doubtful but it may be reported that way for political reasons), then look for a fast double-dip recession to commence.

CPI Lags

Consumer Price Index All Items

click on chart for sharper image
Above chart thanks to St. Louis Fed

Some are debating Now Presenting: Deflation! however increasing frugality strikes at the heart of most rebuttals. Saving for a rainy day, budgeting, and postponing major purchases sure have nothing remotely in common with hyperinflation, or even simple inflation for that matter.

Furthermore, notice how consumer attitudes are changing even though the US dollar is still falling like a rock.

Now think about what might happen should the dollar strengthen or even the CPI to start to fall. The former is likely on a selective basis (the Euro is fundamentally overvalued) while the latter is highly likely simply because price inflation is a lagging phenomenon, typically peaking several months after recession starts.

Mike "Mish" Shedlock
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