TSCO Tractor Supply Company

In March, Personal Income rose 0.4%, matching from the 0.4% rise in both February and March, but only after the March numbers were revised down from a rise of 0.5%. The increase was in line with the consensus expectation of a 0.4% increase.

Meanwhile, Personal Consumption Expenditures (PCE) rose by 0.4%, lower than the consensus expectation of a 0.5% rise. That is a deceleration from the 0.5% rise in March and the 0.8% increase in February.

Of course, if spending is rising at the same rate as income, it means that the savings rate is unchanged. The savings rate remained at 4.9%, it was as high as 5.8% in September. The savings rate is well above the dangerously low levels that prevailed from 2004 to 2008.

The graph below shows the long-term history of the savings rate using a three-month moving average (from this source):



Over the long run, a higher savings rate is good for the country, and is desperately needed as the savings rate has been in more or less a constant secular decline for the last 30 years. Without domestic savings, we have to borrow from abroad to invest in the economy.

Capital imports are the flip side of the trade deficit. If we sell less abroad than we buy, then we go into debt abroad. That is the same thing as importing capital. The chronically low savings rate has left the country trillions of dollars in debt to the rest of the world.

Note that in the 1960’s and 1970’s the savings rate was normally around 9 or 10%, and started a long secular decline after the 1982-83 recession. Prior to the 1980’s the U.S was the world’s largest creditor nation by a large margin. Now we are by far the world’s largest debtor.

The fall in the savings rate and the increase in our indebtedness is not a coincidence -- it is a causal relationship. The extraordinarily low savings rates in the five or six years leading up to the Great Recession were a disaster for the country, even though it made things seem good at the time.

A falling savings rate can give a very powerful boost to the economy, but only as long as it continues to fall. A low savings rate undermines the long term economic strength of a country. In effect, it is a country having a feast on its seed corn. We are paying the price for that party now.

In the short run, on the other hand, a rising savings rate slows economic growth, and vice versa. If someone gets a raise, but does not spend more, then that raise does not stimulate other economic activity.

If the raise is not spent, then there is no increase in aggregate demand. It either increases future potential demand, or pays for demand that occurred in the past (i.e. debt is paid down). On the other hand, if people are socking away less than they were for a rainy day, it increases current demand. If people go out to eat rather than stay home, it means that there is more work for waiters and cooks.

Will the Savings Rate Stabilize?

The question is, will the savings rate stabilize here? The desire of consumers to sit on their wallets and not spend increases in income is very understandable. The collapse of housing prices destroyed trillions of dollars of wealth. That wealth people had been planning on using to finance their retirements or put the kids through college.

Housing wealth is (or at least was when the country still had it) far more “democratic” than stock market wealth. Personal housing wealth does not form the basis for large plutocratic fortunes. It is the stuff of which modest middle class nest eggs are made. Now that money has to be replenished the hard way, by spending less than you earn.

Note how the savings rate tends to rise during recessions. That might seem counter intuitive, since it is very hard to save when you are unemployed, but it really isn’t. The very fact that more people decide to save is one of the reasons recessions are, well, recessionary.

"The Paradox of Thrift"

While on an individual basis, being thrifty is a good thing, and so is paying down your debt. However, if everyone decides to do it at the same time, it is a very bad thing. This is what Lord Keynes called “The Paradox of Thrift." It is the change in the savings rate, not the level that causes the pain. We need more domestically formed capital rather than relying on importing capital from abroad. Importing capital is the flip side of running a trade deficit.

The rise in the savings rate during the Great Recession was very rapid, and was one of the key reasons the recession was so severe. We are still a long way from the sort of savings rate we had back in the 1960’s and 1970’s, but we are a lot closer than we were a few years ago.

Slowly people are making progress on repairing their balance sheets, but the damaged caused by the Financial meltdown of 2008 -- and the resulting Great Recession -- was catastrophic. The process is being undermined by the resumed decline in housing prices. That decline in wealth does not show up in the savings statistics, but savings have to compensate for it.

Components of Personal Income

The components of Personal Income are as important as is the total number. In total, personal income rose by $46.1 billion, down from an increase of $54.6 (revised down from $67.0) billion in March (seasonally adjusted annual rates, as are all the subsequent numbers on the components of personal income).

In April, private sector wages rose by $18.0 billion, up from a $20.6 billion increase in March. However, there was an upward revision to the March number, they were originally reported as an increase of $18.0 billion. Wages in the goods-producing sector rose by $6.3 billion in April, down from a $7.5 billion increase in March. March was revised up from a rise of $6.0 billion.

Wages in the private service sector were up $20.9 billion versus an increase of $13.1 billion in March (revised up from $11.8 billion). Overall government wages, rose by $0.3 billion after rising $1.3 billion in March. Private wages and salaries are the most important -- and highest quality -- form of personal income.

Government wages have to be paid out of either taxes or government deficits. Government workers do, however, spend their money in the private sector, just like private sector workers do. To keep the numbers in perspective, total private sector wages are 4.53x larger than total government wages.

Proprietors' Income

Another important source of personal income is proprietors’ income. In other words, what the self employed and small businesses were earning. That increased by $4.4 billion in April, down from a $5.4 billion rise in March (revised up from an increase of $4.4 billion). Farm proprietors incomes fell by $2.1 billion, after rising $0.2 billion in March (revised down from a $1.6 billion increase).

Strong commodities prices have led to a stunning increase in farm incomes. The overall strength down on the farm helps explain why the Great Plains states like the Dakotas and Nebraska are weathering the downturn so much better than the rest of the country. It is also a good sign for firms that are tied to the farm economy, such as Deere (DE), Tractor Supply (TSCO) and Potash (POT).

Since September, farm incomes are up 5.1%. It also suggests that perhaps Willie Nelson needs to find a different recipient for his charity concerts. Also, at a time of massive deficits, one has to ask why the taxpayers continue to subsidize the farmers? The answer, of course, is that 15% of the U.S. population gets to elect 50% of the Senators, and farmers are concentrated in the least populous states.

Non-farm proprietors income rose by $4.4 billion, down from a $5.4 (revised up from a gain of $2.9 billion) billion rise in February. In other words, what we normally think of as small business income is showing signs of getting back on track, but is hardly booming the way farm income is. Farm proprietors' income is tiny relative to non-farm at just $55.3 billion versus $1.0524 trillion.

Since September, non-farm proprietors income is up a nice, but hardly exciting 1.7%. Non-farm proprietors income actually peaked back in December of 2006 at $1.1129 trillion, so small business income is still 5.4% below peak levels. On they other hand, it bottomed out in May 2009 at $971.6 billion, so we are now 8.3% above the valley floor.

Other Forms of Income

Rental income rose by $3.1 billion in April, down from an $8.4 billion (revised from $8.7 billion) increase in February. Rental income has increased every month since November 2009. Given the still-weak condition of the real estate market, this is somewhat surprising, but a sign that it is slowly on the mend. Since September, rental income is up 9.7%.

Capital income, or income from dividends and interest, rose by $5.0 billion after it fell by $2.1 billion in March. There was a massive downward revision to this category for March. It was originally reported as an increase of $8.9 billion.

This income is particularly important to retirees. Most of the increase was due to the dividend side, not interest. Interest income rose by $0.8 billion. Dividend income rose by $4.3 billion.

Government Transfer Payments

The final big component of personal income is government transfer payments. Like government salaries, this source of income has to come from either taxes or increased deficits, and so it is a less desirable source of personal income from the point of view of the economy as a whole.

However, it is still income that gets spent in the economy. Wal-Mart (WMT) really doesn’t care if the money spent in its stores is from the elderly using their Social Security checks or the dividends they get from their investments -- or even if it is retirees shopping there or people still in their working years spending their wages or their unemployment benefits. Transfer payments rose this month by $5.5 billion, down very sharply from a $20.1 billion in March (revised down from a $24.1 billion increase).

Over the long-term though, the economy cannot simply grow through ever-increasing amounts of money being handed out by the government. Those payments are very useful in the short run to help hold up overall consumer spending when the economy has turned soft.

In the long run, the economy needs income from wages and salaries, and from small businesses earning profits. It is those earnings and profits that pay the taxes that support the transfer payments. It is then worth looking at personal income excluding transfer payments, as shown in the second graph.

Since it is a long-term graph, inflation plays a much bigger role over time, and the graph is based on real personal income rather than nominal (which the rest of the numbers in this post are based on). Not that during most recessions (and the immediate aftermath) incomes excluding transfer payments flatten out, but do not fall significantly.

The blue line (left scale) shows we have not yet surpassed the level of total personal income ex-transfer payments we were at before the Great Recession. The red line shows that the year-over-year decline in such income was by far the steepest in modern history during the Great Recession. (Unfortunately, the chart is not updated with the April data).



Somewhat Disappointing Report

Overall, I would have to rate this report as a bit of a disappointment. Income was up as expected, but last month was revised down. The quality of the income growth we got was pretty solid. The declining support from transfer payments is fairly significant if one takes a step back. For all of 2010, total personal income rose by $371.8 billion, of which $163.8 billion, or 44.0% came from increases in transfer payments.

Since December, though, total personal income is up $238.6 billion, of which only $13.9 billion, or 5.8% was due to higher transfer payments. The quality of the income growth has improved significantly. In April alone, transfer payments were responsible for 11.9% of the increase.

Aside from the payroll tax effect in January, the increase in personal income so far this year is coming from sustainable sources like higher wages and salaries, most notably from the private sector, and from higher proprietors incomes. In other words, small businesses are starting to do better, even non-farm small businesses.

Growth in dividend income is likely to continue as firms share their strong earnings growth with their shareholders. It should get a big boost in the next few months due to the increased dividends that the recently bailed-out banks are going to be paying. The fall in the savings rate is bad over the long term, but is helpful right now in getting the economy back up closer to potential.

On the spending side the report was also disappointing, rising just 0.4% when a 0.5% increase was expected. Also, both March and February were revised down. March was originally reported as a 0.6% increase, but now it is seen as up 0.5%, while February was also revised down a tick to a 0.8% increase. That is not an encouraging trend, either.

Spending Increases Getting Smaller

In total, spending rose by $41.5 billion in April, down from a $54.8 billion increase in March. March was revised down from a $60.7 billion increase in spending. Most of that downward revision was in spending on durable goods, which actually fell by $7.7 billion instead of rising $1.1 billion. In April, durable goods spending rebounded by $3.8 billion.

Spending on non-durable goods, such as food and gasoline, rose by $21.1 billion, down from a $23.1 billion increase in March (revised up from an increase of $21.1 billion). Spending on services really slowed down, rising just $16.8 billion, or less than half the $39.5 billion increase in March (revised from $38.5 billion. Spending on non-durable goods, such as food and gasoline, was up by $21.1 billion.

The report was not awful, but it was a bit on the soft side, especially considering the revisions. This is more evidence that the recovery is losing steam. This is not the time to be tightening up on either monetary or fiscal policy. Unfortunately, it looks like the powers that be are intent on doing both. Washington DC seems determined to repeat the mistake of 1937.
 
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