While most have been conveniently blaming the tepid first quarter -2.9% GDP growth figure on the weather, we believe that it is just another symptom of a much deeper malaise. As we have argued many times before (see, for example, the March 2014 Markets at a Glance report), the U.S. economy has been on life support, graciously provided by central planners. However hard they try, they will soon realize that no amount of money printing can cleanse the rot of the U.S. economy.
Most tellingly, in a recent interview with Reuters, Bill Simon, Wal-Mart's Chief Executive Officer for the U.S., said “We've reached a point where it's not getting any better but it's not getting any worse — at least for the middle (class) and down.”
Indeed, if one looks past headline figures, things are not really getting better. Real disposable income per capita in the U.S. has increased only modestly since the Great Recession. However, all of this increase is due to government transfers, not from an improvement in the real economy. If we exclude those transfers from the numbers, disposable income per capita is actually lower than it was at the end of 2005 and has been painfully flat since 2011. Also, those numbers assume that the headline consumer price index (CPI) accurately represents people's purchasing power.
For a large portion of the population, things are not anywhere close to being better and in fact they are worse than before the recession.
First of all, there is income inequality.
Those in the top 20% have seen their incomes increase while those in the bottom 40% have stagnated or even decreased. In 2012 for the lowest 20% (Quintile 1) of U.S. households, the average annual after-tax income was $10,171 (up from $9,220 in 2005). Similarly, the next 20% is not much better off, with incomes averaging $27,743 (up from $25,200 in 2005). By contrast, during the same period, the average household income for the top earning quintile (Quintile 5) increased 14% to $158,024. From our calculations, the bottom 40% of the U.S. population receives approximately 12% of the nation's after-tax income, while the highest 20% receives more than 50%. So, because of the wide disparity between U.S. households, it is grossly misleading to consider aggregate measures to assess the health of the U.S. consumer.
In light of these disparities and to facilitate the analysis, we have combined the two bottom quintiles' (bottom 40% of households) incomes and expenditures for 2005 (pre-crisis) and 2012 (most recent data from the Bureau of Labor Statistics).
Not too surprisingly, average after-tax annual household income increased by a meagre 8%, from $17,463 to $18,844. Wages and salaries, which represent about half of income, increased only 4%. Most of the increase has been in the form of government transfers; social security increased 14%, unemployment and veteran benefits 102% and other forms of public assistance 40%. In fact, of the $1,380 increase in average after-tax income, 93% comes from increases in government transfers.
Forty percent of U.S. households spend about 40% more than they make (138% and 145% in 2005 and 2012, respectively)! In case you wonder how a household can spend more than it earns, there are many ways such as borrowing, selling assets, assistance from family, etc. While incomes increased only 8%, total expenses increased 14%, driven by very large increases in shelter (22%) and health care (18%) spending.
Additionally, an ever-increasing proportion of people's after tax income goes toward what we call “non-discretionary spending.”
Five years into this so-called economic recovery, on average 40% of the poorest U.S. households still spend more than they earn (including government transfers) for basic necessities.
We believe that there are two main reasons for this. The first one has to do with income inequality; as we have shown, incomes have been almost constant since 2005, with most of the increase driven by unsustainable governmental assistance. Furthermore, prices for basic necessities, which constitute the entirety of these households' budgets, have been increasing at a steady pace.
Over the past seven years, overall price levels, as measured by the CPI, went up 22% (versus 8% for after tax incomes). However, for the same period, rent, energy and food prices increased 26%, 54% and 115%, respectively. No wonder those same households spend 33% of their income on shelter, 21% on food and 14% on utilities and fuels.
How can we have an economic recovery when there is barely any discretionary disposable income for 40% of the population? As we have shown above, those that have seen their incomes grow and not the ones most likely to spend, while the bottom 40% of households still rely heavily on government assistance, have had stagnant incomes and have been faced with increasing inflation for “non-discretionary” goods that constitute a very large share of their incomes.
There is clearly no recovery…
Eric Sprott is founder and senior portfolio manager of Sprott Asset Management