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Incomes plunged in July as spending slowed

Consumer spending in the U.S. slowed to a crawl and personal incomes plunged in July, reflecting the waning impact of $93 billion in economic stimulus payments.
/ Source: The Associated Press

Consumer spending in the U.S. slowed to a crawl and personal incomes plunged in July, reflecting the waning impact of $93 billion in economic stimulus payments.

The Commerce Department report Friday showed that consumer activity got off to a shaky start in the third quarter, raising new worries that the economy could falter in coming months due to rising unemployment, a continuing credit crisis and the deepest housing slump in decades.

Personal incomes fell by a bigger-than-expected 0.7 percent in July, the biggest drop in nearly three years, while consumer spending edged up a modest 0.2 percent, just one-third the 0.6 percent gain in June.

The report showed that the June and July spending figures were skewed by a huge jump in inflation during the period. An inflation gauge tied to consumer spending rose over the past 12 months by 4.5 percent, the biggest price jump in 17 years, led by higher costs for energy and food. Without the big jump in prices, consumer spending would have actually fallen by 0.4 percent last month after dropping 0.1 percent in June, underscoring just how weak current activity is.

"Consumers pulled back on real spending in both June and July in the face of weak employment conditions, higher energy prices and further declines in household net worth," said Brian Bethune, chief U.S. economist at Global Insight, a Lexington, Massachusetts, forecasting firm.

The government reported Thursday that the overall economy, as measured by the gross domestic product, rose by 3.3 percent in the April-June quarter, a significant rebound from growth of just 0.9 percent in the first quarter, and an actual decline of 0.2 percent in the final three months of last year.

The second-quarter rebound reflected strong growth in exports and the impact of the stimulus payments, which the Treasury Department reported Friday now total $93.4 billion through the end of August. However, the mass mailings of the payments ended in mid-July with only small batches expected to be sent out over the next few months.

Economists worry that with the stimulus payments fading quickly, consumer spending, which accounts for two-thirds of economic activity, also will falter in coming months.

Bethune said he expected overall GDP would slow to just a 1 percent growth rate in the current July-September quarter and will actually turn negative in the fourth quarter.

Even that 1 percent GDP forecast could be too high if automakers' efforts to boost lagging sales by offering attractive rebates in coming weeks are unsuccessful because of all the headwinds facing consumers, including higher tighter lending standards by banks struggling with billions of dollars of losses on bad mortgage loans, he said.

"We think the worst is yet to come for consumers," said Ian Shepherdson, chief U.S. economist at High Frequency Economics, another forecasting firm in Valhalla, New York. He predicted that consumer spending will decline in the current quarter. The last time that happened was during the 1991 recession.

But other economists were not as pessimistic, saying that if gasoline prices continue to fall, consumers could spend more on other items. The price drop that has occurred since gas hit a record at $4.11 per gallon ($1.08 a liter) in mid-July has helped to lift spirts. The Reuters/University of Michigan consumer sentiment survey showed confidence posted a better-than-expected reading of 63 in late August, up from a reading of 61.7 earlier in the month.

The Federal Reserve, which cut interest rates aggressively from September to April in an effort to keep the economy from falling into a deep recession, has been on hold since that time. The central bank is caught between concerns over a weak economy and worries about rising inflation pressures.

The 4.5 percent year-over-year rise in the price gauge closely watched by the Fed is likely to heighten its inflation concerns. Even excluding food and energy, this price gauge showed an increase of 2.4 percent over the past 12 months, well above the Fed's 1 percent to 2 percent comfort zone.

The 0.7 percent drop in personal incomes in July followed a 0.1 percent rise in June and a 1.8 percent surge in May. After-tax incomes dropped by an even bigger 1.1 percent in July, following a 1.9 percent decline in June and a 5.7 percent surge in May. All the income figures were heavily influenced by the rebate checks.

Democrats, including presidential nominee Barack Obama, are calling for the government to pass a second stimulus package to guard against the economy slumping into a deep recession.

But President George W. Bush, concerned about the impact the stimulus payments will have on the budget deficit, has resisted those calls, insisting that the rebate payments will continue to support the economy in coming months. The administration is already forecasting that the federal budget deficit for the budget year that begins on Oct. 1 will soar to an all-time high in dollar terms of $482 billion.

The report on consumer spending showed that personal savings totaled 1.2 percent of after-tax incomes in July, down from a rate of 2.5 percent in June and 4.9 percent in May, two months when the savings rate was elevated by the stimulus payments.