A much-anticipated US government report yesterday showed an increase in consumer spending and a rise in incomes, fuelling the optimism generated in the US and around the world by Friday's unexpected news that the US economy grew two per cent in the first quarter.
Consumer spending is the driving force in the US economy, accounting for two-thirds of all economic activity. The Commerce Department in Washington also reported that income growth outpaced spending for the second month in a row in March.
For now investors appear to believe that the prospect of recession - two successive quarters of negative growth - has receded. Fears of recession had been raised by Federal Reserve chairman Mr Alan Greenspan, who warned in January that growth was close to zero, and has lowered interest rates four times since the beginning of the year to stimulate growth.
The slowdown, however, is by no means over. Consumer confidence continues to fall and corporate earnings are expected to plummet throughout the year. The rate of increase in personal debt could spell trouble as the jobless rate increases.
Tech stocks did well yesterday on reports that inventory corrections were almost complete and that factory production could pick up again soon. Americans' spending grew by 0.3 per cent, slightly stronger than the 0.2 per cent rise expected, the US Commerce Department reported. The level of spending nevertheless remains modest and consumers cut back sharply on purchases of bigticket items such as cars.
Incomes, which include wages, interest and government benefits, went up even more quickly, rising 0.5 per cent last month, indicating that the personal savings rate rose to a negative 0.8 per cent in March from a negative 1 per cent in February.
Total consumer credit grew at a 10.5 per cent annual rate in February after growing at a 12.5 per cent rate in January, according to the US Federal Reserve. In the last five years, consumer debt grew at an average of 6.9 per year. "Normally, increased consumer credit is a sign of strong consumer confidence and strong spending," said economist Mr Brian Nottage at economy.com in Philadelphia. "But this is not the case now that confidence is on the wane and consumers are worried about employment trends. People are using their credit cards to tide themselves over."
Mr Richard McCabe, chief market strategist of Merrill Lynch, forecast that the market would go into a holding pattern and warned that it was still overpriced. "The market will be dependent on the outcome of the battle between consumer spending holding up and capital spending continuing slow," he said.
"The inverse of the 10-year bond yield of 5.19 per cent implies a fair market price/earnings ratio of 19.3. The current P/E is 22.3, implying the market is about 16 per cent overvalued if the analysts' current projections for the next four quarters hold," he said. "Given the risk that the E in the P/E might be significantly reduced, a 16 per cent premium does not make the market seem enticing at current levels."
"The market is getting less defensive, and people are investing in tech, believing that the bottom has been put in," said Mr Matthew Johnson, head of dollar cash trading at Lehman Brothers. History indicated that the US economy is at last heading for a rebound, according to Thompson Financial/First Call. A study of eight US recessions since 1947 shows that, on average, a market recovery occurred nine months after GDP started to decline. That is about now.
