Don't Count Out Consumers

Even the sluggish GDP data show that Americans keep on spending, housing slowdown or not.
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Consumers to Wall Street: We're not dead yet.

Case in point: Although fourth-quarter GDP growth took a swan dive, personal consumption rose in line with the headline figure, up 1.1.%, and was stronger than Wall Street forecasts for a 0.5% gain. But business investment, touted as this year's economic hero, posted a below-estimate gain of 2.8%, and defense spending plunged by 13%.

So for just a moment, put aside gloom-and-doom phrases like "negative household savings rate," "housing bust" and "soaring energy prices." Now, replace them with "improved consumer confidence" and, most importantly, "dropping unemployment."

"The heart and soul of consumer spending and robustness is fueled by people having jobs," says George Whalin, president and chief executive of Retail Management Consultants. "Predictions that the consumer is dead are overdone."

Underscoring the point, last Friday the University of Michigan reported its consumer sentiment index rose for a third straight month to 93.4, in large part because the job outlook improved.

On Thursday, the Labor Department reported that initial claims for unemployment benefits rose by 11,000 to 283,000 in the week ending Jan. 21, below expectations for a rise to 300,000. This left the four-week moving average at 289,000, its lowest level since July 2000.

"The labor market is the tightest it's been seen since the 1960s, when we saw an extraordinary increase in low-end wages," says Michael Darda, chief economist at MKM Partners.

Income also may be growing along with employment. Figures from the Treasury Department show that salaried employees' income tax-withholdings have been growing at an "unusually robust" rate, says Madeline Schnapp, director of macroeconomic research at TrimTabs. Schnapp adds that this points to a corresponding boost in after-tax income.

December after-tax income jumped by 14% year on year, according to TrimTabs, because of strong job growth and high Wall Street bonuses vs. expectations that the figure would rise by 10%.

Refis Down ... Consumers Aren't Out

Job growth aside, most of the handwringing about consumer spending has been due to evidence that the housing market is cooling. That's a big deal, given that

Federal Reserve

chief Alan Greenspan says that borrowing against housing added $600 billion to consumer spending in 2004, about 7% of all disposable income.

But consumers used debt to fuel spending long before housing boomed, and real estate isn't the only place to get a loan.

Despite talk of maxed-out credit cards, Equifax, one of the nation's three major credit bureaus, says that debt actually declined 14% in the fourth quarter of 2005 to $638 billion, down from the record $756 billion hit in the third quarter of 2003.

The Fed also reports that consumer credit fell in the fourth quarter for the first time since the early 1990s, and that credit availability jumped 14% to $3.2 trillion by the end of 2005, from the first half of 2004. All this means that consumers have paid down debt and have "room" to borrow again if they feel the need.

Even personal bankruptcy filings, which spiked just before the new bankruptcy legislation took effect in October, don't alarm Schnapp, who says that in absolute terms the level is still historically low.

Soft Landing

And what about the cooling housing market? Consumer or no consumer, economists are saying it could tank the U.S. economy; but Chan says that's just not true.

"To produce the train wreck that many observers are expecting for the housing market ... we need to have seen abnormally fast growth in the housing sector

and a sharp run-up in long-term rates to ensure the cessation of activity within the sector," he says.

Growth in new-home sales during the current expansion is in line with that observed in prior periods of sector acceleration. On Friday, new-home sales for December were reported at a 2.9% gain to 1.269 million, higher than consensus forecasts for a rise to 1.225 million.

Meanwhile, long-term interest rates -- the key for growth in this sector -- remain conducive to housing growth.

Underscoring the point: Mortgage rates crept higher last week. But at 6.12%, the average 30-year fixed-rate mortgage is below the 11.01% it averaged during the prior four economic expansions, according to Chan, and at a level that

Freddie Mac

(FRE)

vice president and chief economist Frank Nothaft says will "continue to fuel the housing market."

Moreover, yield on the benchmark 10-year Treasury, the basis for fixed-rate mortgages, is expected to remain low because of continued demand from pension funds and overseas investors, says David Ader, bond strategist at RBS Greenwich Capital.

Finally, Greenspan has long espoused the view that housing market "froth" needs to be scraped from the sector so that it can move from an inflationary to a sustainable level. But slower housing growth doesn't mean market contraction.

"There are some categories that have flourished under the housing situation, like furnishings and remodeling, and they will slow a little. But consumers will spend consistently on the things that drive spending numbers like groceries, apparel, shoes and consumer electronics," says Whalin.