Taking the Temperature of Consumers

by: Richard A. Anderson

As we highlighted in our post “Anatomy of the U.S. Economy,” consumer spending accounts for nearly 70% of U.S. gross domestic product (GDP). Current consumer spending, as well as future spending, is highly influenced by consumer expectations for the economy.

For example, if consumers are optimistic about the prospects for the economy, they are more likely to forgo saving now and continue to spend. However, if they are pessimistic, they will be more likely to cut back current and future spending. When this happens, consumer spending declines and GDP slows, which can spur a recession.

Two of the longest running and most cited measures of overall consumer confidence are the University of Michigan Index of Consumer Sentiment and the Conference Board’s Consumer Confidence Index.

The University of Michigan Index of Consumer Sentiment is a monthly survey aimed at gauging the confidence of U.S. consumers. Each month, at least 500 phone surveys are conducted to gather the information on consumer expectations of the overall economy. The monthly phone surveys ask 50 core questions designed to capture how consumers view their financial situation, the short-term economy, and the long-term economy. A few examples of survey questions are listed below.

· Do you think that a year from now you (and your family living there) will be better off financially, or
worse off, or just about the same as now?

· About a year from now, do you expect that in the country as a whole business conditions will be
better, or worse than they are at present, or just about the same?

· During the next 12 months, do you think that prices in general will go up, or go down, or stay where
they are now?

When preliminary results for May were released, the Index of Consumer Sentiment jumped to its highest level in 15 years. The gain was driven by consumer expectations, with consumers viewing prospects for the overall economy for the near and longer terms much more favorably than prior months. However, the preliminary survey results were recorded mostly before trade negotiations between the U.S. and China soured.

When the University of Michigan released the final results for May, the Index of Consumer Sentiment was 100, up from 97.2 in April, but below the preliminary estimate of 102.4. Consumer sentiment dropped on fears increased tariffs on imported goods would lead to higher prices. As a result, respondents said they would delay making major purchases.

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Like the Index of Consumer Sentiment, the Conference Board’s Consumer Confidence Survey is a monthly phone survey to gauge how people are feeling about the economy. In this case, the survey consists of only 5 questions designed to capture consumers’ perceptions of the current business and employment conditions, as well as their expectations regarding business conditions, employment, and income for the next six months. 5,000 people around the country are surveyed each month. Those 5 survey questions are listed below.

· How would you rate present general business conditions in your area – good, normal, or bad?

· What would you say about available jobs in your area right now – plentiful, not so many, hard to get?

· Six months from now, do you think business conditions in your area will be better, same, or worse?

· Six months from now, do you think there will be more, same, or fewer jobs available in your area?

· How would you guess your total family income to be six months from now – higher, same, or lower?

When the Conference Board released its report on the Consumer Confidence Index for May, it showed a slight improvement from April. Consumers’ assessment of current business and labor market conditions increased, as did consumers’ short-term outlook for income, business, and labor market conditions. Right now, the Consumer Confidence Index stands at 134.1, up from 129.2 in April. Generally speaking, a reading of 90 or above is a good sign. So, this indicates consumers are still confident in the future of the economy.

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The University of Michigan’s Consumer Sentiment Index and Conference Board’s Consumer Confidence Index are ways of measuring how people feel about the outlook for the general economy. As you can see by the survey questions, these measures are not an exact science. Confidence is highly subjective and survey respondents can base their answers on recent news or personal experiences. But if you take a large enough sample, it tends to be a fairly accurate representation. The index level will change month-to-month, but it’s the overall trend that is most important. And the trend right now remains positive, which is a positive sign for the economy going forward.