The Economy Cares About Your Feelings

One of the most closely watched economic indicator is consumer sentiment and confidence (which are often referenced interchangeably).

The indicator gauges how people plan on spending their income, which during times of economic stress, this insight could be valuable in predicting whether a recession may be coming or how a major event, such as a presidential election, could impact the economy.

The Consumer Sentiment Index is computed from responses to a monthly survey which provides insight into how people feel about their personal financial position, the current economic condition, and their expectations of the future economic state.

How are Americans feeling now?

Indices showed Americans feeling quite positive at the end of 2023.

The University of Michigan’s (UMich) Index of Consumer Sentiment soared nearly 14% in December (month over month) to 69.7 – the strongest reading since August after four months of decline. Survey respondents felt more positive about the downward trajectory of inflation, driving their optimism for the broader economy.

Similarly, The Conference Board’s Consumer Confidence Index (CCI) surged to 110.7 in December, up from a downwardly revised 101.0 in November. Survey respondents are more positive about current business conditions and job availability; the likelihood of a US recession during 2024 is perceived at the lowest level since August 2022 – although, two-thirds of the respondents still expect a downturn.

What does that all mean? For one, retail sales were up 3.1% over the holiday season (Nov 1 to Dec 24) compared to the previous year, according to preliminary data from MasterCard SpendingPulse. The idea is the better you feel about the economy, the more likely you’re going to spend.

Now where do these numbers come from? Let’s take a dive into how your feelings could give us clues about the economy.

Monthly consumer sentiment surveys

Close to the end of every month, two measures of US consumer sentiment – UMich Index of Consumer Sentiment and the Conference Board’s CCI – are published with final readings.

UMich’s Index of Consumer Sentiment

For the UMich Index, at least 600 households are interviewed by phone and surveyed on approximately 50 detailed questions. It covers three areas of consumer sentiment: personal finances, business conditions, and buying conditions.

Information such as expected changes to nominal family income and real income are collected. Specific questions are asked on expectations around inflation, unemployment, interest rates, as well as confidence in government economic policies.

Finally, several questions probe the survey respondent’s feelings about buying large household durables such as TV and fridges, motor vehicles, and houses in the current market.

Respondents can also provide spontaneous comments on anything that is on their mind. For instance, Goldman Sachs Research noted from the December survey that a growing share of consumers have commented that they expect the 2024 US presidential election would likely yield results favorable to the economy.

The Conference Board Consumer Confidence Index

The CCI started in 1967 as a mail survey and has now ballooned to 3,000 households surveyed online, a much larger sample size compared to UMich’s survey. Respondents span across nine US regions where they are divided by age and income.

Another difference is that it collects perception of what could happen over the next six-month period regarding the respondent’s thoughts on the current and future business conditions, current and future employment, and total family income. It also details buying intentions, vacation plans, and expectations for inflation, stock prices, and interest rates.

To calculate the index, the average relative value for the calendar year 1985 for each question is used as a benchmark to yield the index value. The baseline is 100, therefore anything above this number means surging confidence, and anything below is declining.

What’s the difference between the two indices?

The Conference Board survey may be better considered for picking up on indicators related to the job market and job security, while the UMich survey could have a better measure of pocketbook issues like the price of gasoline.

Regardless, market watchers would likely read both indices the same way: If the number is higher than the previous month, consumers are willing to spend more money. If the number is lower, then consumers are holding back on their spending.

How much do my feelings influence the economy?

The short answer is your feelings alone could have a modest effect on economic data. However, research has shown that the link grows stronger in times of weakness in the economy.

For instance, consider a scenario where a consumer’s wealth and income haven’t changed, but they feel pessimistic about the state of the economy. They may worry about getting laid off within the next six months or feel inflation has made everything more expensive, and they don’t think they will get pay rises to match it. In response, they may choose to tighten their budgets, splurge less, wait for deals before buying or postpone travel plans.

This behavior could lead to sudden drops in spending. As consumer spending consistently make up nearly 70% of US GDP, any big moves would sway the economy.

Consumer sentiment and confidence indicators alone are not considered to be super-forecasters, but it can give meaningful information when read with other data.