Americans Take Payroll Tax Increase In Stride to Keep Spending

WASHINGTON (Bloomberg News) -

Consumers and businesses are treating higher payroll taxes and federal spending cuts as just a speed bump for a U.S. economy poised to accelerate later this year.

Americans are saving less and spending more for purchases such as new automobiles, as household net worth climbs with rising home values and stock indexes surging to record highs. Companies are ramping up hiring, adding 246,000 to private payrolls in February. They’re also expanding investment and rebuilding inventories as they put profits accumulated during the recovery to work.

“A lot of things are going the right way,” said Brian Jones, a senior U.S. economist at Societe Generale in New York, whose private employment forecast was closest to the February gain among economists surveyed by Bloomberg. “The labor market is picking up momentum. Businesses are seeing demand. More people working means more people will be spending money. To a certain extent, this neutralizes the effects” of higher taxes.

Growth will pick up in the second half of the year as the fallout from the budget cuts dissipates, paving the way for even stronger spending by businesses and consumers, projections from Barclays and JPMorgan Chase show. Gross domestic product will rise at a two percent annual average pace in the latter six months of 2013 after a 1.5 percent rate in the first two quarters, said Dean Maki, chief U.S. economist at Barclays.

“The economy is at a point where it can handle the fiscal tightening without screeching to a halt,” said New York-based Maki, who is also a former Federal Reserve board economist. “We’ll see some slowing, certainly, but the economy is not as fragile as it was.”

Even as Congress is forcing Brent Phipps’ employer, the U.S. government, to reduce spending by $85 billion this fiscal year, the 25-year-old paralegal is still going shopping.

Browsing through an aisle of neon green, pink and transparent plastic storage containers at a Target Corp. store in Washington, Phipps, who works for the Justice Department, said the payroll tax increase hasn’t altered his spending habits.

“I didn’t really pay any attention to it,” he said. “I can’t say I had any particular, ‘oh no, I’m not going to do X, Y and Z thing.'”

Americans are opening their wallets for bigger-ticket purchases too. General Motors and Ford predict automobile sales, on pace for their best year since 2007, will remain resilient. Cars and light trucks sold at a 15.3 million annual rate in February after 15.2 million a month earlier, according to Ward’s Automotive Group.

“Consumers appear to be taking higher payroll taxes in stride, at least when it comes to replacing older vehicles,” Kurt McNeil, vice president of U.S. sales operations for Detroit-based GM, said on a March 1 conference call.

Norris Home Furnishings, a Fort Myers, Fla.-based furniture retailer with three stores, exceeded its goal for 15 percent sales gains in January and February from a year earlier, company owner Larry Norris said. Rising home prices in the region have improved consumer attitudes even in the face of higher taxes, the 70-year-old business owner said.

“People are a lot more cautious with their money than they were at one time, but they are still spending,” he said. “Consumer attitudes are improving, no question.”

Retailers including Gap and Limited Brands reported that sales at stores open at least a year rose three percent in February, exceeding analysts’ forecasts. Costco Wholesale Corp., the largest U.S. warehouse-club chain, reported a six percent jump that also topped analyst estimates.

The improving outlook for sales is encouraging businesses to expand and add workers. Lowe’s Cos., the second-largest U.S. home-improvement retailer, is boosting spending on store upgrades and hiring. The Mooresville, N.C.-based company said it plans to open 10 stores in 2013.

Labor Department data released on March 8 showed overall hiring jumped by 236,000 last month after 119,000 in January, and the unemployment rate fell to 7.7 percent, a four-year low. Together with a gain in average hourly earnings and more hours worked, the latest figures bode well for consumer spending, which accounts for about 70 percent of the economy.

Americans are also benefiting from rising stock and home prices. Household wealth climbed in the fourth quarter to its highest level in five years, according to Fed data. At $66.1 trillion, net worth for households and non-profit groups is approaching its pre-recession peak of $67.4 trillion reached in 2007.

“It’s definitely a big plus for the economic outlook,” said Joe Carson, director of global economic research at AllianceBernstein in New York, who predicts net worth will climb to a record this quarter.

The Standard & Poor’s 500 index has advanced 8.8 percent since the beginning of 2013 to reach 1,551.18 on March 8, less than 1 percent from its record high reached in October 2007. Further gains are likely, and the stock gauge may climb to 1,600 later this year, said Allen Sinai, chief global economist at Decision Economics Inc. in New York.

The higher equity prices and improving job market are boosting consumer confidence. The Bloomberg Consumer Comfort Index, up for a fifth week, is at its highest level this year, and the share of Americans with a positive view of the economy held at its strongest reading since early 2008.

Ann B. Lally, an Atlanta digital marketing consultant, said she’ll spend a “few thousand dollars” on a weeklong ski vacation to Deer Valley, Utah, later this month with her sister and mother.

While taxes have been raised this year, “we have planned accordingly,” she said. “I have budgeted for it. I love to ski — and I am not a big spender.”

One reason purchases are likely to hold up in the face of higher taxes is that affluent consumers, who make up a disproportionately large share of spending, tend to trim savings rather than consumption when faced with such constraints, economists at UBS Securities said. They estimate the top one percent of income earners put 51 cents of each dollar toward savings, allowing plenty of leeway to keep spending.

Recent data show this is already happening. Consumer spending rose in January even as incomes dropped by the most in 20 years, pushing the saving rate to a five-year low.

Like households, companies are in better shape than they were a few years ago to ride out the drag from the $85 billion in across-the-board budget cuts, known as sequestration, that began this month. “Businesses have fortress balance sheets,” Sinai said.

Profits for corporations in the S&P 500 index climbed to a record $100.75 a share in 2012, and will exceed $120 a share next year, double the $60.43 seen in 2008, according to Wall Street estimates compiled by Bloomberg.

The cash is stoking investment as corporate confidence and demand improve. Orders for non-military capital goods excluding aircraft, a proxy for future business spending on equipment and software, climbed 7.2 percent in January from the prior month, the biggest gain since September 2004. They’re up 9.8 percent since November, the most for a three-month period since 1993.

“We will keep our foot to the floor and will almost certainly set still another record for capital expenditures in 2013,” Warren Buffett, chairman and chief executive officer of Berkshire Hathaway Inc., wrote in an annual letter to shareholders posted online March 1. “Opportunities abound in America.”

Buffett said his Omaha, Neb.-based company spent $9.8 billion last year, an increase of about 19 percent from 2011, on plants and equipment, as he bolstered railroad and utility units.

In another sign of growing confidence, manufacturers are trying to rebuild inventories and farm stockpiles will also catch up after the hit from last year’s drought, according to UBS. This would add about six-tenths of a percentage point to first-half economic growth, said Drew Matus, deputy U.S. chief economist at UBS in Stamford, Conn. While the economy faces some drags, “people are ignoring the positives,” he said.

“We’re holding up better than people thought,” said Matus, who is also a former Federal Reserve Bank of New York analyst. “Never count out the U.S. consumer. Households are doing what they do, which is to spend money.” He said that’s part of the reason why “the first half isn’t looking awful, and the second half should end better.”