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Popular Economics Weekly

We discussed in past weeks about the possibility that consumers—who account for 40-70 percent of U.S. domestic economic activity (depending on who you ask)—will become healthy enough to shop again this year. More evidence of that possibility is out.

The Federal Reserve just announced that American households were $2 trillion richer on June 30 than they were three months earlier, the first time in two years that household net worth has increased, said the Fed in its quarterly flow of funds report.

Household wealth rose in Q2 at a 17 percent annual rate, or $2 trillion to $53.1 trillion, more than replacing the 13 percent rate decline in the first quarter. The rally on Wall Street was the main reason for the increase in household wealth, but rising home prices contributed as well, as was reported by the latest Case-Shiller home price index.

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Consumers also continue to pay down debts or have their debts written off at a record pace, with revolving and installment debt levels falling back to 2005 levels. In the second quarter alone, household debt fell at a 1.75 percent annual rate to $13.7 trillion, matching the record percentage decline in the fourth quarter.

Mortgage debt fell 1.5 percent and consumer credit usage decreased a huge 6.5 percent in Q2, as well.

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A further indication of consumers recovering was the August surge in retail sales along with a big jump on consumer confidence, which behavioral economists argue guides 50 percent of consumers’ spending decisions. Retail sales surged 2.7 percent, the largest increase in 3 years, in part because of increased auto sales. Excluding car sales it was up 1.1 percent.

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Both the Michigan and Conference Board confidence surveys jumped in August. The Conference Board’s Expectations Index surged 10 points, while the U. of Michigan’s sentiment survey jumped 5 points, continuing its rise from the January low.

Lynn Franco, the Conference Board’s research director, said, “The Expectations Index improved considerably and is now at its highest level since December 2007 (Index, 75.8). Consumers were more upbeat in their short-term outlook for both the economy and the job market in August, but only slightly more upbeat in their income expectations. And, as long as earnings continue to weigh heavily on consumers’ minds, spending is likely to remain constrained.”

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Will consumers continue their thrifty ways? The Fed’s quarterly flow of funds report highlighted why consumers are spending more, in spite of their thrifty ways. Consumers’ confidence levels are being boosted by the so-called wealth effect, the feeling that their financial situation is finally beginning to improve after 21 months of the Greatest Recession on record.

Harlan Green © 2009