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Shoppers Get Pinched

Sales turn tepid as economic headwinds swirl.
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Holiday sales appear light so far, but investors on Wall Street are viewing the early disappointments as a sign that consumers are lying in wait for retailers to roll out their deepest price cuts.

Only time will tell if their faith in the U.S. consumer is well placed, but some economists are already saying it's not.

"At this point, I'm already assuming that this holiday will be a disappointment on Wall Street," says Joel Naroff, chief economist with Naroff Economic Advisors. "Some shoppers may be waiting for better deals, but we're also seeing the effects of macroeconomic headwinds taking a toll on spending habits."

According to research firm Retail Metrics, about 56% of major retail chains missed expectations for November sales results, which included the all-important Thanksgiving holiday weekend. Then sales dipped 2.6% for the week ended Dec. 2 from the previous week, according to a report from the International Council of Shopping Centers and UBS Securities.

"Given the clear softening in the weekly chain-store sales numbers, consumers are acting on how they feel," wrote Ian Shepherdson, chief U.S. economist with High Frequency Economics, in a recent note to clients.

In another indication that this year's holiday spending spirit is lacking, the University of Michigan said that its closely watched consumer-sentiment index dropped to 90.2 in a mid-December reading from November's final reading of 92.1. The report Friday missed economists' expectations, and it continued a trend in data showing consumers' concerns about the future.

A measure of consumers' assessment of current conditions improved to 108.2 from 106 at the end of November, but a gauge of expectations for the future fell to 78.6 from 83.2.

"The survey does not reveal the source of

consumers' collective angst, but we'd guess that a combination of falling home prices and worries about the wider economy are hurting," said Shepherdson.

The idea that consumer spending, the primary engine for U.S. economic growth, is facing headwinds is nothing new. Economists have been warning investors about an impending slowdown for years that has yet to materialize, but in the midst of a sudden and pronounced slowdown in the housing market, the naysayers are wondering if the time has come.

"The housing boom got a lot of people to refinance their homes and get some extra cash into their pockets in 2004 and 2005, and over that time and into 2006, they spent it," says Naroff. "That source of cash has now dissipated to a large extent. Equity borrowings are down dramatically, and people are feeling stretched."

Home sellers in real estate markets across the country are under particular stress. With monthly sales of new and existing homes in the U.S. dropping, the inventory of unsold homes on the market is growing, and prices are starting to come down.

Meanwhile, consumers who built up home equity during the boom and borrowed against that value to raise cash may be worried that in today's environment, their home is worth less than they had once thought. And home buyers with checkered credit histories who used exotic mortgage arrangements to buy homes they could not otherwise afford may be feeling squeezed.

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The last week, signs emerged in the bond market that defaults on subprime mortgages are on the rise, raising the prospect of tumult in the broader financial markets if things get worse.

Add that to high energy prices and an overall sense of fatigue in the American public over the unabated chaos in Iraq and the broader Middle East, and consumer optimism for the future is in short supply this holiday season.

"We may well be seeing a bifurcated Christmas," says Michael Strauss, chief economist with Commonfund. "High-end, wealthy consumers are going to do well in this process, but middle and lower-end consumers are going to have more of a challenge."

That could in part account for recent sales weakness at



(though much of the behemoth's woes can be blamed on its own missteps) and strength at upscale chains like




Friday's employment report buoyed the stock market as employers added 132,000 jobs to their payrolls in November, an improvement from the 79,000 generated in the month before and better than economists' expectations. But average hourly wages showed tepid growth, up 0.2%, and missed forecasts.

Strauss says the job market has been offsetting some of the economic headwinds working against the consumer, but it's showing signs of slowing along with the broader economy. Employers were adding an average 175,000 new jobs a month for the 18 months prior to March. Since then, the average pace has slowed to about 135,000 new jobs a month.

"People will find a way to buy their kids Christmas presents, even if it means taking on more debt," says Strauss. "At the end of the day, we may save Christmas, but what happens next? I'm particularly concerned about what will happen for the months of February, March and April when people get the Christmas bills. That could really be the wake-up call for consumers."