Why Holiday Shoppers May Be Overspending

Do consumers have a new doomsday mentality?


There are Grinches everywhere this year.

In Washington, Congress has basically said that fixing the huge debt problem it created over the last decade is somebody else's job, inviting additional downgrades of the U.S. credit rating or worse. In Europe, the outlook is even gloomier, as politicians try desperately to forestall a financial crisis that could doom the 17-nation euro zone and send the financial sector into a tailspin. Employers don't have much cheer to spread, either, since hiring remains weak. Even on Wall Street, year-end bonuses seem likely to plummet.

[See 12 ways to thrive in a stagnant economy.]

Consumers, however, have been shaking off the blahs and spending as if they're all part of the 1 percent. Spending during the first several days of the critical holiday season rose by double-digits over 2010 levels, a big boost for retailers and a surprising sign of robust consumption. Since economists have been expecting a more modest rise in total holiday sales of 4 percent or so, shoppers are clearly off to a blazing start. Meanwhile, confidence readings took a surprising leap in the latest release, as if consumers are dismissing worries of another recession.

It's gratifying to see beleaguered consumers showing some fighting spirit. There's only one problem: Financial fundamentals suggest a big pullback is coming, either later in the holiday season or early in 2012. [Check out Black Friday photo gallery.]

The biggest shortfall is income. The latest government data shows that real income, after accounting for inflation, hasn't risen at all over the last year. On a per-person basis, it's actually down by nearly 1 percent. But real spending is up by 2 percent over the last year—and could rise by more than that, if the early increase in holiday sales holds up.

That means consumers are borrowing more, or saving less, or both. Credit-card debt has been falling since 2008, and through September, it was nearly 20 percent below the peak levels of 2008. But with banks loosening up, we may have hit an inflection point, with consumers charging more of their purchases this holiday season. In fact, data from the Federal Reserve shows that consumer applications for credit have picked up, so forthcoming data could show a fresh rise in credit-card balances.

[See how the Congress is unwittingly raising your taxes.]

Americans have clearly been saving less. The savings rate--which dipped to a record low of nearly 1 percent in 2005—rose to a recent peak of 6.2 percent in 2009, as panicked consumers rebuilt their finances. But since then, it's fallen back to 3.8 percent, which many economists feel is too low to pay off considerable debt loads that remain.

Ordinarily, a temporary gap between income and spending growth wouldn't be worrisome. It might even be good for the economy, since spending tends to generate economic activity that makes companies more willing to hire. But, as you've no doubt heard before, these aren't ordinary times, and consumers who overreach now might soon regret it.

For one thing, Congress may decide not to renew a temporary tax break that expires at the end of this year and puts about $75 of extra spending money in the average worker's pocket each month. That might sound like small change--until the money suddenly disappears. Congress may also decide not to renew federal jobless benefits that have helped sustain several million unemployed people over the last couple of years. Combined, the loss of those two subsidies could hurt growth enough to threaten another recession.

[See why new bank fees are coming.]

Even if Washington does renew those tax breaks, the problems in Europe are profound and likely to hit a boiling point before long, perhaps in early 2012. That won't necessarily mean a collapse of the U.S. economy, but it's a good bet that hiring won't pick up until companies feel sure that there won't be another recession Meanwhile, oil and gasoline prices have been rising again, even though they usually fall when the economy weakens, especially in the winter. And home prices continue to tumble, eroding middle-class wealth, with a renewed surge of foreclosures likely in 2012.

Yeah, it's a depressing list of woes that Scrooge would be hard-pressed to top. But consumers have been aware of these trends all year, and behaved with predictable frugality. So why are they suddenly spending like it's, well, 2005? Here are three possible explanations:

Holiday spending patterns are changing. It seems quite plausible that consumers are spending more money earlier, which means they might spend less as Christmas gets closer. Retailers have been more aggressive than ever with post-Thanksgiving discounts, plus the hype of Thanksgiving-night store openings seems to have worked, and drawn a surge of shoppers.

[See why you should beware the upbeat economic news.]

It's also clear that more shoppers are shifting to online purchases, which might boost early spending numbers if people unwilling to brave the mayhem at the mall went online instead of waiting to hit the stores later in the season. The test will come in mid-December. If sales tail off more than usual, retailers seem ready to tempt reluctant shoppers with even deeper discounts. Still, if holiday sales remain strong throughout the season, spending might collapse during the first months of 2012.

See a sideshow on Black Friday shopping.Consumers can't resist reckless spending. It's also possible that shoppers are simply fed up with frugal living and are splurging for a few weeks, while they can. Data from Gallup, for example, shows that consumers spent more in the three days after Thanksgiving this year than they have over the same period since 2007. At the same time, however, their economic confidence was far below levels of 2009 and 2010, and just a bit higher than it was during the meltdown year of 2008. That suggests an unusual new optimism gap, characterized by consumers who are spending more than usual even though they're deeply worried about their financial future. And while other confidence measures have improved, they still show that consumers' outlook for the future is very pessimistic. So if recent spending patterns hold, it might signal a new kind of doomsday mentality, in which consumers are willing to spend even though they know tough times lie ahead.

Consumer optimism is reigniting the economy. Could it be? The U.S. economy is still dominated by consumer spending, which accounts for two thirds of GDP. Prior to the 2008 recession, the irrepressible American shopper showed a determination to spend and keep the economy humming, paying no heed to signs warning that they should rein it in. Economists have viewed the last few years as a kind of reckoning, when past debts finally came due and familiar shopping habits became unsustainable.

[See what would happen if we all acted like Congress.]

The math behind that view seems irrefutable, since people can't spend money they don't have, and banks, burned by millions of defaults, have become extremely stingy with loans. But it's possible that beneath the gloom, consumers are flexing their muscles in a way that could pump up demand for goods and services and give the whole economy a boost. If so, shoppers might be giving themselves a holiday gift. Or at least rationalizing their spending that way.

Twitter: @rickjnewman

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