America’s consumers, aided by tax cuts that left them with extra cash, ratcheted up their spending in July by the largest amount in four months, a strong signal the economy is gaining momentum.
The Commerce Department reported Friday that consumer spending increased by 0.8% in July, on top of a brisk 0.6% rise the month before.
Consumers’ behavior is a major factor shaping the economy’s recovery because their spending accounts for about two-thirds of all economic activity.
Their hearty appetite to spend in July along with economists’ expectations for solid spending increases in August reinforced the belief that the economy will stage a material rebound by the end of the year.
In remarks Friday at a monetary policy conference in Wyoming, Federal Reserve Chairman Alan Greenspan didn’t discuss the economy’s outlook, but he defended the Fed’s recent worries about deflation, which have rattled financial markets and confused some Wall Street investors.
Although the odds of deflation, an economically dangerous and widespread price decline, are remote, Greenspan said policymakers nevertheless must be on guard because of its potential to wreck the economy.
Greenspan also fired back at critics who have said the Fed should adopt policy prescriptions used by many central banks, including the European Central Bank, to keep inflation within set boundaries. He said flexible policy was better for the complex U.S. economy than rigid rules such as specific targets for consumer price increases.
Rules are “by their nature simple” and a poor substitute for discretion on the part of policymakers, Greenspan told the Kansas City Fed’s annual conference, a venue he used last year to defend his handling of the 1990s stock market bubble.
Friday’s consumer spending report made economists even more bullish about the economy’s growth prospects in the current quarter. Some estimated that the economy in the July-September quarter could grow at close to a 6% annual rate, nearly double the 3.1% pace in the second quarter.
Americans’ disposable incomes, or what’s left after taxes, jumped by 1.5% in July, the largest increase since January 2002 and up sharply from a 0.4% gain in June. The government attributed much of July’s increase to the president’s tax cut.
Excluding the tax effect, disposable incomes increased by a more modest 0.2% in July, the government said. The spending and income figures are not adjusted for price changes.
Consumers increased spending in July on big-ticket durable goods such as cars and appliances by 2.1%, up from a 1% gain in June.
For nondurables such as food and clothes, consumer spending rose by 0.8% in July for the second month in a row.
Lynn Reaser, chief economist at Banc of America Capital Management, estimated that consumer spending in the current quarter could clock in at a brisk annual rate of about 5.7%, a pickup from the second quarter’s 3.8% pace. The economy, as measured by gross domestic product, could grow at close to a 6% rate, she said.
“Consumers are setting the economy on an accelerating path,” she said.