The Mule trips up

In my last post, I fell into a common trap when dealing with financial time-series data: I did not adjust for inflation. The post examined recent trends in US personal consumption and concluded with the following chart showing a long history of year-on-year consumption growth.

Chart showing the year-on-year growth of US personal consumption

Year-on-year Growth of US Personal Consumption (1959-2010)

What stands out in the chart is the high rate of growth in the 1970s and 80s, a phenomenon that was picked up in comments on the blog post. Of course, the problem is that inflation was high in the 1970s and 80s and so at least some of that growth can be attributed to rising prices rather than increased consumption of “stuff”.

What I should have done is adjust the personal consumption expenditure (PCE) data for the effect of inflation. This is made easier by the fact that the Bureau of Economic Analysis publishes a companion to the PCE which serves exactly that purpose. The PCE price index (PCEPI) provides a measure of inflation very much like the consumer price index (CPI), but it is based on the particular basket of goods used in the PCE index. Using this index to scale consumption to 2010-equivalent dollars and then looking at the annual growth in this measure of “real” consumption results in a rather different picture.

A chart showing real growth in US personal consumption

Year-on-year Growth of US Personal Consumption (1959-2010)

As is often the case with inflation-adjusted data, this chart is noisier than the previous one, and real consumption exhibits bigger swings than the original “nominal” consumption figures. While there is still a declining trend in consumption over time, it is a more modest decline and the 1970s and 80s no longer appear to be a particularly unusual period. Futhermore, the contraction of consumption seen in the wake of the recent economic crisis no longer stands out so dramatically. The falls in real consumption in 1974, 1980 and 1991 were all of a similar size. In fact, the biggest fall was in the 12 months to November 1974. (Note that the github code repository has been updated to include this new chart).

I can be quick to criticize the charts in other publications, so it is only fair that I correct my own mistakes too.

UPDATE: a regular reader has suggested that for a series like the PCE, looking at the original series in nominal (not inflation-adjusted) terms actually is the most appropriate way to look at the data, so that the original post was actually fine. I’m still thinking this through….stay tuned, but it sounds like I will have to correct the correction!

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15 thoughts on “The Mule trips up

  1. Marco

    Thanks for the correction, Stubborn.

    This tells a wholly different story!

    But there’s still something bugging me in both charts (mostly in the new and right, actually, but also in the old and wrong one): although the smoothed curve is positive (thus, consumption is increasing), the long-term tendency seems to be towards a smaller increase: from over 4% in 1960, to a little under 2% in 2010).

    How does this fit with all the talk about consumerism?

  2. Stubborn Mule Post author

    Marco: the long-term gradual trend downwards is interesting. I don’t have a good explanation, but two possibilities are (1) the talk of increased consumerism is misguided or (2) people are spending more on things not included in the PCE index….property perhaps?

  3. JamesGlover

    Thank you but I distrust everything everyone says, not just you.

    I’d like to see (inflation adjusted) PCE as a % of household income. This would reflect the extent PCE was driven by the increase in real wages as well as “consumerism” or the “overwhelming desire to own stuff” driving the growth in credit.

  4. Marco

    Let’s see if I understand this.

    In your chart above we can see that the rate of change of personal consumption, although positive, has been decreasing. In other words: consumption keeps increasing, but at slower rates.

    In the chart PCE/income (I assume you used personal income, as we are talking of personal consumption):

    We see that the quotient PCE/income is positive and increasing. In other words: an increasing proportion of income goes to consumption.

    But, as consumption increase is slowing, does this mean that income increase is also slowing?

    If so, how does this fit with the talk that everybody is getting richer?

    This can only mean that income, although increasing, has to increase at a lower rate than consumption. Am I right on this?

  5. JamesGlover

    Thanks. Is that PI before Tax? Even though on the rise it doesn’t seem much higher than the 60s. Where are the original numbers you are using?

  6. JamesGlover

    Thanks – I had a look at the data – there is a corresponding dip in Disposable Personal Income (DPI which I used instead of PI but about the same in the end) so this explains some of the change in PCE due (presumably) to increase in unemployment. Interestingly if you look at ratio PCE/DPI it sits at about 94-96% for most of the 00’s and there is a sudden plummet to 90% in May 2008. This could also be due partly to unemployment as people spend a higher proportion of lower income on basics. It may also be due to a plummet in consumer confidence causing people to spend less on non-essentials. Interestingly it soars to 93% by March 2009 then plummets again to 90% by June 2009 and has risen steadily since to be about 94%.

    (Muleo: Is it possible to embed excel graphs in comments?)

  7. Stubborn Mule Post author

    James: unfortunately you cannot embed images in comments. However, you can attach images on the Mule Stable (click on the little paperclip icon next to the notice text box to upload a file) and then you can put a link here to your Stable post.

  8. JamesGlover

    Thanks – after much work here is the graph of US PCE/PDI for 2005 to 2010 which shows the plunge in 2008 and subsequent recovery. I am using PCE/PDI as a definition of “consumerism” or the desire to spend as much (or more) than we have.

  9. Lefty

    I had noticed that first chart was not adjusted for inflation thanks to reading your articles on how to be careful when reading charts. It does tell a somewhat different story. Consumption is growing but has a ways to go before reaching average rates.

    I would be quite intruiged if it could get back to previous levels any time soon. Who would be doing the consuming? Around 10% of their workforce is officially unemployed and around 5% more than that actually unemployed but not counted in the most commony presented statistics – would it be fair to say that these people are not participating in any great increased consumption but are more likely subtracting from it?

    That would leave those still employed having to increase their consumption even further than normal in order to make up for the loss of the now-unemployed, were consumption growth to return swiftly to pre-GFC levels.

  10. Lefty

    It has just occurred to me that while surfing through the econo-blogs, I have been seeing the odd article here and there excitedly proclaiming “the US consumer is back!”.

    I wonder if these bloggers have adjusted for inflation or simply taken the figures on face value?

  11. Bruce

    A point about the increase in US consumption expenditure half way through 2008. It’s possible the trend was confounded by the USD being in a hole mar-jul08. It then recovered strongly as the world fleed to its relative safety.

    The Jul-Dec08 collapse in personal expenditure correlates strongly with the USD recovery, as measured by the USD index.

    A stronger USD buys more imported goods at Walmart.
    Obviously the yuan is pegged more or less, but Japan, Europe, and Sth Korea and SE Asia export bulk stuff to US.

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