Despite a strong economy - Why you don’t feel richer

June 17, 2006

Despite the upbeat economic forecast released by the government - unemployment at 4.7%, inflation at 3%, GDP growth at 3.6% - consumers are feeling worse about the economy, and they don’t expect it to get better.

The Consumer Confidence Index for May showed that only 28% of consumers thought the economy was good, while 15% thought it was bad; only 29% thought jobs were plentiful, while 20% thought they were hard to get. Looking ahead at the next six months, only 16% thought conditions would improve, while 13% thought they would worsen. Only 15% thought more jobs would become available, while 18% expected fewer jobs, and only 16% thought their income would increase anytime soon.

The difference in this sentiment, between the upbeat forecasts and how people are feeling, lies in how the data is reported.

For example, inflation at 3% means that, on average, prices are only 3% higher than last year. However, the Labor Department computes the Consumer Price Index based on a basket of goods and services - none of which include housing prices. Instead, the CPI uses a figure called Rental Equivalent, which is what the house could rent for. Obviously, housing prices have increased much faster over the past few years than have rental prices. Similarly, gasoline prices rose 36% in the past year, from $2.12 to $2.90 a gallon. These feel much more dramatic than the 3% average price increase in the basket of goods and services used to create the CPI.

Similarly, the government reported that average net worth per family rose 6.4% from 2001 to 2004. However, this is much higher than the median increase in net worth, which only rose 1.5%. The median is a better indicator, since it is essentially the midpoint, where half of households did better, and half did worse. The average totals gains for everyone, then divides by the number of households. In fact, net worth did not keep up with inflation, so in effect the average household feels poorer.

According to the Federal Reserve survey, this is because:

1. People got scared out of the stock market in 2001, and so fewer households owned stocks, and those that did held less stock. This means they missed out on the stock market gains of the last four years.
2. Although housing prices skyrocketed, so did the amount of equity lines of credit. As a result, net worth did not increase along with the equity in the home.
3. Overall debt, and debt servicing, took a larger percent of family income. In fact, the number of late payments (60+ days) increased, especially among the bottom 80% of the income distribution.

What It Means:
The economy has improved, but most of the improvement has gone to the top 20% of households.

Action Steps:
It is up to you to take the aggressive steps needed to make sure you are not in the lower half of the economy. There is plenty of information available, including this web site, to take charge and develop a financial plan that will assure you a comfortable retirement. Sit down today and do one thing - buy a book, look at your 401K investments, create a budget - to take responsibility for your financial future.

Source:

The Conference Board "Consumer Confidence Index Declines in May", May 30, 2006; Bureau of Labor Statistics, Consumer Price Index; U.S. Gasoline and Diesel Fuel Prices, EIA, DOE;
“Recent Changes in U.S. Family Finances: Evidence from the 2001 and 2004 Survey of Consumer Finances”, Federal Reserve Board of Governors.