Surowiecki Gets Consumption Wrong

What hope is there when one of the top business journalists gets the facts wrong? In his latest New Yorker piece, James Surowiecki makes the classic mistake:

Personal consumption hasn’t shrunk as a share of the economy: in 2010, it accounted for more than seventy per cent of G.D.P., close to where it’s been for the past decade

Let’s break down what’s wrong with this statement. First, the statistical category “personal consumption expenditures” actually includes all sorts of government and nonprofit spending, including almost $1 trillion in Medicare and Medicaid spending, spending by nonprofit private educational institutions, and spending by political parties. None of this money is under the control of ‘consumers’, so there’s no possibility of individuals making the decision to cut back.

The other word that Surowiecki doesn’t mention is imports. When American consumers boost their spending on items such as clothing and electronics, much of that goes to create jobs overseas, not here. It’s devilishly tough to get the exact connection between consumer spending and imports, because the government does not actually track where imports are going in the economy. But the net result is that ‘pocketbook spending’–the amount of money that households control–accounts for much less than 70 percent of economic activity.

This is not just a semantic point. Every time somebody repeats “consumer spending is 70% of GDP’, it reinforces the false idea that U.S. growth is dependent on consumer spending returning. It’s not. I’m surprised that Surowiecki made this mistake, especially given the nature of his piece.

It’s time for me to put out a refresher policy brief from PPI on this.

Consumer Pullback Not So Scary

See my latest theAtlantic.com column here.

 

Where Americans Can Cut Back

Where can Americans cut back if the economy slips back into recession again?  After all the talk about the “new frugality” and the deepest recession in 75 years, it might seem like households have tightened their belts as much as possible.

Surprisingly, however,  the economic figures show several key areas where Americans have actually increased consumption compared to 2006, the year when housing prices peaked.  Judge for yourself whether we can cut back more or not.   (Note: all consumption changes are measured in inflation-adjusted 2005 dollars, comparing the 2nd quarter of 2011 with the second quarter of 2006)

1. Clothing                 Consumption: + 8.9% since 2006

Despite the economic weakness,  Americans spent on clothing at an almost $350 billon annual rate in the second quarter of 2011. Nothing seems to stop the waves of inexpensive shirts, dresses, and coats  coming from overseas.  Clothing imports from China, especially, are up 37% since 2006, and Americans are snapping them up.  Perhaps we could buy a a few less t-shirts with funny sayings on them?

2. Personal care products    Consumption: +14.4% since 2006

We like to look our best, even in a recession. Perfume, makeup, shampoo,  shaving cream and razors, body gels–Americans spend about $100 billion a year on these personal care items.  Not only that, we’re spending more on imported cosmetics,  which are up 26% since 2006.  Are all those goos and gels  really necessary?

3. Televisions    Consumption: +287.4% since 2006

No, that’s not a misprint.  The government adjusts for the size of the television, among other things, and the average size screen has soared since 2006.   If we don’t adjust for size and other variables,  Americans are spending 12.7% more on televisions today compared to 2006.  Total personal consumption outlays on televisions, according to the BEA: About $40 billion, pretty much all imported.  Do you really need an even bigger TV?

4. Alcoholic Beverages (off-premises)    Consumption: +10.7% since 2006

Perhaps it’s not surprising that Americans need an extra drink these days. Still, the total home spending on alcoholic beverages is about $110 billion, at annual rates, according to the Bureau of Economic Analysis. A few less glasses might put a few extra dollars in the pocket.

Remember, all these figures apply to Americans in the aggregate. Those people who have been out of work for months or years don’t have room to cut back at all.

And remember–when journalists write that “consumer spending is 70% of economic activity,”  they are completely wrong. What the U.S. economy needs is more production, not more consumption–and in a globalized economy, the two are not synonymous at all. And that, my friends, will be the subject of tomorrow’s post.

Vampire Meme: Consumer Spending is 70% of Economic Activity–NOT!

With the holiday shopping season, we’ve seen a revival of the confident but completely wrong assertion:  “Consumer spending is 70% of U.S. economic activity.”  No matter how many times I stab this vampire meme in the heart, it just keeps getting back up again. There are two reasons why it’s simply not true that consumer spending is 70% of economic activity:

* Consumer spending, especially this time of year,  includes a lot of imported goods. So when you buy a toy, a shirt or a big screen TV, just flip it over and look at the label– your money flows out of the country to stimulate economic activity in China, or Korea, or Mexico.

* The government’s definition of consumer spending includes Medicare, Medicaid,  and money spent by nonprofits such as political parties and religious groups.

So when you see  pictures of Americans buying toys, clothing, and consumer electronics, think about happy workers around the world. U.S. consumers drive global economic activity.

For some of my other posts on the subject, see here and here.

Hall of Shame–news organizations who got it wrong.

For at least 15 years, 70 percent of economic activity in the U.S. has come from consumer spending. Atlanta Journal Constitution

The surge pushed stocks to a new two-year high, as retailers, economists and investors, while cautious, were encouraged that consumers—who account for 70% of the U.S. economy—are again opening their wallets. Wall Street Journal

Consumer spending accounts for 70 percent of economic activity. Associated Press

Retail sales are closely watched as a measure of consumer spending, which accounts for about 70 per cent of economic activity. Financial Times

Where Americans Are Spending More..

Since the recession started in the fourth quarter of 2007, the common theme has been about Americans cutting back on their spending. But the latest numbers from the BEA show aggregate personal consumption expenditures are up 2.9%, or $285 billion.  So we must be spending more on something!

So here is a table of winners: Some goods and services which have shown an increase in spending since 2007IV.

Right there up at the top is America’s love affair with mobile devices, where spending has soared almost 17% since the recession started.  Also supporting my thesis of a communications boom–spending on wired, wireless, and cable services have risen by 5%.

In addition, Americans still care about their pets, their children, their hair, and their guns.

Of course, the data also shows a big gain in spending on education, healthcare, and housing, but it’s impossible to know how much of that increase is actually coming out of the pockets of households. Education spending includes government tuition aid and spending by private nonprofits out of their endowments and contributions; healthcare spending including Medicare, Medicaid, and employer-paid insurance; and housing includes a huge imputation for owner-occupied housing, which may or may not correspond to an actual increase or decrease in out-of-pocket spending.

Once we take those three huge categories out of the data, the remaining PCE has actually gone down by 0.6% since the recession started.  So now let’s look at a table of losers: Selected categories of spending that have gone down.

Americans are spending a little bit less on clothing and hotels; a lot less on foreign travel, video and audio equipment (think televisions), and furniture. The big drop, though, has come in motor vehicles and associated goods and services, like gasoline.

No, It’s Not 70% of Economic Activity

I might as well turn this into a monthly feature. In response to today’s personal income report, Martin Crutsinger of AP writes:

Consumer spending is closely watched because it accounts for 70 percent of total economic activity.

No, it doesn’t, Martin. Every time a journalist says that consumer spending accounts for 70 percent of total economic activity, he or she is misleading readers into believing that the U.S. economy cannot grow without the consumer taking the main role (see my earlier posts here and here). 

In fact, the meme “consumer spending accounts for 70 percent of economic activity” pretty much obscures all the major problems with today’s economy.

1) The ’70 percent’ meme blurs the distinction between domestic production and imports, since  a big chunk of imported goods are counted in PCE ; 

2) The ’70 percent’ meme blurs the distinction between household and government spending, since PCE  includes Medicare and other entitlement spending.

3) The ’70 percent’ meme blurs the distinction between household and institutional spending, since personal consumption expenditures includes money spent by nonprofits (best example: Political parties, which are heavily funded by corporations, fall into personal consumption expenditures) 

To finish off this rather post,  I did some calculations on the sources of growth in real PCE since December 2009.

This table shows that 47% of consumption growth since December comes from spending on import-intensive goods.  In particular,  the two biggest increases in spending came for ‘clothing and footwear’ and ‘consumer electronics and IT equipment’, two categories dominated by imported goods.  You can be sure that when Americans step up their spending on clothing, they are creating very few manufacturing jobs in this country.   

Another 13% of consumption growth came in categories where third-party expenditures are important, such as healthcare and nonprofits.

P.S. I’m getting some traction in my fight against the 70 percent meme. See Donald Marron’s post, for example.

Giving Credit Where Credit is Due: Consumer Spending is *Not* 70% of the Economy

I’m sounding like a broken record, but economic journalists are doing the U.S. a grave disservice by repeatedly overstating the  importance of consumer spending to domestic economic production (which, after all, is what generates jobs).  By persisting in this fallacy,  journalists also understate the importance of investment, exports, and government spending.

Consider this:  In today’s NYT, Catherine Rampell writes:

Consumer spending makes up more than 70 percent of the economy, and it usually drives growth during economic recoveries

 Wrong.  That’s just so wrong. The number, 70 percent, comes from an apparently simple calculation of consumer spending as a share of gross domestic product (GDP). 

But it’s a wrong  calculation. Much of what consumers buy is imported–just step into your local store, friends, and take a look at where it was made. 

In fact, any economic reporter who writes the sentence “consumer spending is 70% of  the U.S. economy’ should be required to calculate how much of their household spending goes for foreign-made goods (hint–take a look at your computer,  your dishes, your phone, your clothes, your kids’ toys).   

Higher consumer spending need not be accompanied by higher domestic production, or by increased domestic jobs,  since the higher demand can be filled by imports.   In the first quarter of 2010,  imports of goods and services rose much faster than domestic production, in real terms.  

So if consumer spending is not 70% of the economy, how big is it really? I’ve estimated that ‘pocketbook spending’ really makes up 40-45% of economic activity. I’ve written about that here  and here.

There’s another point as well.  Much of consumer spending is ‘induced’  by other changes in the economy–for example,  a company gets a new order from overseas, and in response expands its factory and hires more workers. These newly-employed workers go out and spend which shows up as consumption. Should we say that this economic growth is being driven by PCE, or by exports?

Or the government steps up its spending on highways, which results in the hiring of more construction workers and more consumer spending. Should we say that consumer spending is driving the economy, or is it the increased government spending?  

In a  paper they presented at the 2009 Federal Forecasters Conference,  BLS economists Carl Chentrens and Arthur Andreassen (retired) analyzed the impact of imports and what they call ‘induced consumption’.   They point out that the way GDP is reported,  the personal consumption category is being given some of the credit for growth that should actually go to government, investment, and exports. 

The chart below shows what they found.
 

By their calculations, personal consumer expenditures should properly be given credit for 46% of economic activity,  rather than 70%. The government share goes up from 20% to 25%.

These are not abstract calculations. Everytime a journalist says that consumer spending is 70% of the economy, he or she perpetuates the falsehood that the U.S. cannot grow without increased consumer spending.  It’s far more accurate to say that the U.S. needs to grow as much as possible without increased consumer spending  if we are to prosper in the future.

Bad News from Personal Income Report

In today’s personal income report from the BEA,  real personal consumption was up by 0.3%, which according to many commentators was a sign that the economy was improving. Bloomberg had a short piece with the headline:  

U.S. Stocks Rise as Consumer Spending Boosts Economic Optimism

But I look at the numbers and say something very different. I see that real personal income, leaving out transfer payments, fell in February for the second straight month.  So I would have written the headline a different way:

Consumers Keep Spending Because the Government is Giving Them Money

 The private sector shows no sign yet  organically generating growth.  That is to say, the real personal income generated by jobs and private businesses and investments is falling, once we omit the effect of government transfer payments, such as  unemployment insurance, Social Security, Medicare, and Medicaid. Here’s a little graph:

Not a good sign, by my lights.

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