Rising Rates Pinch Consumers

So far, the Greenspan crowd has been right. Now long-term rates are moving up again, prompting some observers to conclude that, rather than heading for a slowdown, the economy is heating up and the increase in long-term rates is only the beginning.

"The low-interest rate cycle that really began in 1982 but has gone to extremes in the last four years may be coming to an end here," says Paul Mendelsohn, chief investment officer with Windham Financial Services. "Gold is telling us that. Commodity prices are telling us that. It looks like the dollar may be getting ready to tell us that. You have a developing set of circumstances that could send interest rates up quite a bit."

If the economy is strengthening and capital is getting ready to start flowing out of the bond and commodity markets, stock market investors hope they will benefit. That might explain why the Nasdaq Composite perked up roughly 2.2% over the last two weeks while the 10-year jumped 25 basis points. Meanwhile, some sectors, including retail, moved to the downside as uncertainty about higher rates moved some investors to seek cover.

Since March 21, the S&P Retail Index has slipped 2%, with major stocks like Wal-Mart (WMT Quote - Cramer on WMT - Stock Picks) and Target (TGT Quote - Cramer on TGT - Stock Picks) shedding 3.3% and 4.1%, respectively.

McGranahan points to government data on wage growth and consumption, which suggest that consumers are continuing to spend more than they earn at historically high levels. In January, the most recent month for which data is available, wages grew by $284 billion on an annualized basis. Spending jumped by $580 billion, suggesting that $296 billion came from sources like savings, capital gains, borrowings and home-equity extractions.

Over the past 20 years, consumption has outpaced wage growth in the U.S. economy by 0.5 percentage points, on average. From early 2001 to late 2004 the margin grew to 2.5 percentage points. Last year, the margin normalized, but data from recent months show the gap is widening again.

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