Watch What Consumers Do, Not How They Feel

Over the past few years, even as they have been gritting their teeth and complaining about higher prices, consumers have been fueling US economic growth. Now their pandemic savings are gone and the labor market is cooling off, raising the question: How much will the economy slow down?

First, two points: One, economic growth has shocked repeatedly on the upside, beating expectations for growth quarter after quarter since the pandemic recovery began in 2020. The economy is bigger today than forecasters such as the Congressional Budget Office predicted even prior to the pandemic. Two, households entered this year with more consumer purchasing power than they had prior to the pandemic.

And yet frustration with inflation over the past few years soured Americans’ views of the economy, even as their real consumption and economic well-being grew. The result was lowered consumer sentiment and false predictions of recession.

This history of pessimism presents a new risk for the US economy. Have we been crying wolf for so long that we will fail to see the actual wolf at the door?

The first step is to realize that consumer sentiment has simply become a less reliable predictor of consumers’ behavior. So while sentiment has been improving, this doesn’t necessarily mean that spending will stay strong throughout 2024.

Instead, the focus should be on consumers’ ability to spend.

Consumer spending has been partially driven over the past three years by excess savings accumulated during the pandemic, which reached a peak of $8,000 per adult in August 2021. Similarly, broader measures of net worth also surged in 2021. These savings are fully depleted, as are the gains in net wealth.