Why is Consumer Sentiment Low, When the Indicators are Good?

Why do Americans remain guarded about the economy's prospects when all signs point to a robust financial landscape? Together with Dr. David Axelrod from the Feliciano School of Business, we unravel this enigma. The economy is booming on paper—GDP is up, and joblessness is down—yet there's a palpable sense of unease about what lies ahead. We dissect the impact of inflation and higher interest rates, the weight of credit card debt, and why the inflationary burden isn't shared equally.  Beyond the numbers, today's economic sentiment is colored by the long shadows of climate change and global unrest, factors that balance sheets have yet to fully account for. 

Strap in for a thought-provoking ride as we probe the challenges of future economic planning amid present-day success stories. In our conversation with Dr. Axelrod, we confront the paradox of a future that's growing murkier even as our present metrics shine bright. Interest rates creep up, the divide between the haves and have-nots widens, and the cost of borrowing from tomorrow's promise increases—these are but a few of the complexities we navigate. Join us for a deep analysis that goes beyond the headlines, offering a sobering look at the fragility of consumer confidence and the seismic shifts that could redefine our economic landscape.

Dr. Axelrod received his Ph.D. in Economics from Rutgers University in 1990, with the dissertation Three Essays on Latency in Economics and Decision Making. He has taught at Montclair State University as an adjunct professor since 2013. Previously, he worked in finance for twenty years as an economist, consultant and actuarial analyst, including positions with Falcon Management, Volvo Finance, and Crum & Forster. He has also produced research in health economics, and the nature of choice and well-being. Dr. Axelrod provides holonomic consultation and workshops. He plays electric bass and has released over a dozen albums of original music. 

Episode Transcript

Speaker 1 (00:00):
Why is consumer sentiment low when the
indicators are good?
Dr David Axelrod at theFeliciano School of Business.
Four years ago, the COVIDpandemic hit the US.
Our economy experienced apartial shutdown that led to a
very rapid rise in unemploymentand drop in production and drop

(00:27):
in production.
Various policies to stimulatethe economy, including increased
federal spending and easingmonetary policy, kept us from
falling into a depression andenabling a fairly quick recovery
.
However, the amount of stimulus, along with disrupted supply
chains, led to an inflationspike in 2022.
The Federal Reserve respondedby raising interest rates in a

(00:51):
mostly successful attempt toreduce inflation.
Today we have a growing economy, low unemployment and
moderating inflation andmoderating inflation.
Yet consumer sentiment isanomalously low and many

(01:16):
Americans still feel it is onthe wrong track.
Let's explore how this could be.
One of the challenges of settingmacroeconomic policy is which
indicators to use.
The three most prominent areGDP, inflation and unemployment

(01:39):
rate.
Gdp indicates how much aneconomy produces, inflation
indicates how quickly prices arechanging and unemployment rate
indicates the prevalence ofpeople who want paid work but do
not have any Of these.
Households most directlyexperience unemployment and
inflation.
Another indicator, consumersentiment, attempts to capture

(02:02):
how optimistic consumers feel,as this says something about
whether households are likely tobuy more or buy less in the
near future.
For decades, movements in theunemployment rate and inflation
could be used to explainmovements in consumer sentiment.

(02:24):
However, recently there hasbeen a bit of a decoupling.
In particular, unemploymentrates are historically low, gdp
continues to grow and whileinflation is above the target
set by the Federal Reserve, theUS's central bank, it has

(02:46):
declined sharply over the lastyear and a half.
Yet consumer sentiment has notrecovered much and is similar to
that of the Great Recession inthe late aughts.
So why is it so low?
But those other indicators aregood.
It relates to another importantfactor the price of borrowing.

(03:11):
In a recent NBER working papertitled, the Cost of Money is
Part of the Cost of Living.
This anomaly is associated withanother part of the consumer's
decision-making the interestrate at which they can borrow.

(03:32):
One of the ways the Fed attemptsto quench inflation is by
raising interest rates.
The reasoning is that wheninterest rates go up, households
tend to consume less andbusinesses tend to invest less.
This implies the demand forgoods contracts, and while that

(03:53):
can lead to shrinking theeconomy and higher unemployment,
it often leads to diminishedinflation, as long as consumers
reduce their spending quicklyenough, they can diminish the
impact of the increased interestrates on the amount they owe,
for example, on credit cards.

(04:15):
The amount they owe, forexample, on credit cards.
However, households andbusinesses had adapted to a
world of very low interest rates.
From early 2009 until early 2022, the US economy experienced
historically low borrowing costs.

(04:36):
While this had made it easierfor people to buy homes due to
low mortgage rates, it also madeit easier for people to carry
large credit card debt as well.
When inflation started toaccelerate and yet wage growth
lagged, people borrowed more tomaintain their lifestyle, while

(05:01):
manageable at low rates.
When interest rates jumpedquickly in 2022 to deal with
inflation, there was little roomto adapt.
Households spent more toservice their debts.
To adapt, households spent moreto service their debts.
This became a vicious cyclebetween the amount of debt

(05:22):
increased and the amount ofinterest owed.
One implication is that theestimate of the cost of the
standard market basket of goodsused to estimate the CPI fails
to capture the increased expensedue to that borrowing.
This leads to another contrastthe experience in the change of

(05:47):
the cost of living by wealth andincome levels, based on another
study by the Bureau of LaborStatistics, over the last 20
years, the CPI for the lowestincome quartile has increased
faster than for the highestincome, even before increased

(06:10):
borrowing costs are included,the only exception being the
first year of the pandemic.
For those that do not need toborrow, increasing interest
rates has a positive impact ontheir well-being from higher
return on their savings.
For the poorest, the extragovernmental aid received after

(06:36):
the pandemic helped lump some ofthe harshest short-term impacts
from the increased cost ofborrowing.
This can be seen in measures ofincome inequality in the first
couple of years of the pandemic,where pre-tax income had become
less equitable, but post-taxincome became more equitable,

(07:07):
but post-tax income became moreequitable.
As those benefits stopped, thetrend toward increasing
inequality has resumed.
Based on the University ofMichigan Consumer Sentiment
Index, we can see thathistorically, before the
pandemic, the index showeddifferences correlated with
income class.
However, from mid-2021 throughthe end of 2022, the sentiment

(07:32):
index ceased to vary by incomeclass.
It then starts to spread outagain through 2023 and 2024.
One way to understand this isthat, as prices grew faster than
wages, households increasedtheir borrowing to make up the

(07:53):
shortfall.
This would be done by heatingup credit cards and steeper
mortgage payments, and we do seea significant increase in the
amount of credit card debt.
However, the average interestrate on the debt saw a large
jump, nearly doubling.
The combination of more debtand much higher interest rates

(08:17):
means households are spendingmuch more just to finance the
life to which they areaccustomed.
This leads to another aspect toconsider that consumer
sentiment is not affected onlyby what is happening now, but
also expectations for the future.

(08:39):
Even after accounting forunemployment rate, inflation and
changes in interest rate, thereis a statistically significant
negative impact associated withtime.
It is as if the various futureissues like climate change,
sustainability, populationstressors and overall conflict

(09:02):
between countries keep gettingcloser and increasingly
difficult to ignore.
This impacts our sense ofwell-being, even as what is
occurring in the moment seemsfine.
The crises that were once sofar in the future we could
ignore them were no longerbeyond the horizon.

(09:24):
In finance and economics, weuse the concept of present value
the value today of net incomein the future to aggregate the
perceived value of the futureout to the time horizon of the

(09:45):
future out to the time horizon.
The time horizon is the pointin the future after which we
ignore its impact on presentvalue, often because it becomes
too uncertain what it will looklike.
Thus, back in 1980, thechallenges to be faced in 2030
tended to be ignored by mostpeople as too far in the future.
However, in 2024, they aregetting close enough to have

(10:10):
crossed from beyond to withinthose horizons.
The implication is that all theconsequences of past decisions
and choices have become closeenough to impact the totality of
our sense of well-being, notunlike currently being able to
drive the speed limit on ahighway and then seeing, a mile

(10:33):
down the road, a traffic jam.
You are not in it yet, but youknow you will be not in it yet,
but you know you will be.
So our capacity to savor thepresent by delaying costs into
the future is reaching itslimits.
One way this shows up would bein decreased sentiment.
Another is having to pay moreto borrow against a dwindling

(10:58):
supply of feasible futures.
A dwindling supply of feasiblefutures.
We see, then, that the overlayof increasing interest rates,
greater income inequality anddarkening clouds on the horizon
over otherwise good indicatorsfor economic growth,
unemployment and moderatinginflation helps us to understand

(11:21):
why consumer sentiment isdepressed, even if the economy
as a whole is not.
It is also suggesting a shiftin awareness, if not
consciousness from the momentarynow toward an impending future.
Hopefully, recognizing theseanomalies can lead us to create,

(11:44):
and not just imagine, bettereconomic experiences.