Brought to you by Slicedbread and experts on monetary policy.
The state of the stock market and overall economy is creating a lot of questions about the future of commerce over the next year. The following article will help to address what is happening in the economy right now, how the Fed is countering it, and the downstream effects on small businesses. We will cite authoritative sources along the way and combine our insights based on what we are seeing within our own clientele to provide the clearest picture possible.
Inflation & Raising Rates
The world, and the US in particular, is coming off a period of unprecedented economic growth and lenient monetary policy aimed at fueling that growth during the COVID epidemic.
“Soon after Covid hit and the world stopped, the Fed jumped in to stabilize the foundation of our financial system (the bond market) with $4.5T of security purchases. It was followed by an additional $3.6T of US government money, first to businesses and then to the consumer directly through extra unemployment benefits, child-tax-credit payments, and checks in the mail.” - Robinhood
What we are feeling now are the effects of the stimulus unwinding as stimulus money has stopped. Per the LA Times:
“Too much money makes the money less valuable,” said Larry Harris, professor of finance at the USC Marshall School of Business and former chief economist at the U.S. Securities and Exchange Commission. “To control inflation, the Fed has to stop creating so much money. And when it stops creating money, interest rates tend to rise.” - LA Times
With the increase in interest rates comes increases in mortgages, lending, and credit card payments. However, we have just begun to see widespread effects of these increases on the average consumer.
Consumer Spending Trend
We have started to see some early softness in retail purchases in May of 2022, but we are still sitting at near peak levels of consumer spending. There has been a transition from spending on durable goods to spending on services, which is a general trend that we see during summer months. This summer decline pattern is more regular than abnormal, but is also the first time we have seen this trend since 2019 due to COVID.
“The softening only started in the last four to six weeks, but it was visible among both high- and low-income consumers, the strategists said, based on a sampling of Barclays credit card data. And it’s consistent with a report on Wednesday that showed retail purchases fell 0.3% in May from the month before, the first decline this year.” - Bloomberg
The following charts show both spending on durable goods and services. Notice that despite the decrease in May, we still have a long way to go before reaching pre-pandemic levels:
Retail trade sales grew 6.7% in April compared to a year earlier, but spending on food services, such as restaurants, and drinking places shot up 19.8%. - Truist Bank
Sitting on a Stockpile and What Comes Next:
The biggest question for small businesses for now is when will the effects of the cooling economy really begin to affect consumers and in turn affect my business?
This is by far the hardest question to answer, however the first place to look is at the savings stockpile that consumers have generated over the last two years:
"The stock of excess savings is still $2.2 [trillion], and the rundown over the past three months has averaged only $41B per month," Shepherdson noted. "This can continue for a long time yet, but that won’t be necessary as real incomes will start to rise again in the second half [of 2022].
Credit card data show that spending in May was just 10% higher from the same month last year, according to a Barclays report this week. For the rest of 2021, that monthly spending growth has averaged more like 20%.” - Bloomberg
To put this excess savings into perspective, take a look at the below household savings and cumulative savings over the past two years:
The rate at which consumers are eating into their savings is still relatively slow, but we should continue to see that rate pick up through the end of the year.
"The stock of excess savings is still $2.2 [trillion], and the rundown over the past three months has averaged only $41B per month," Shepherdson noted. "This can continue for a long time yet, but that won’t be necessary as real incomes will start to rise again in the second half [of 2022]." - Yahoo Finance
At Slicedbread, we estimate that consumer spending will remain stable or slightly decline through the end of the year. However, long term forecasts will be dictated by how quickly the Fed can reduce inflation and begin to grow the economy again.
Insulating Your Business During An Economic Downturn
The best thing that you can do in the short term is to trust your numbers. At Slicedbread, we advocate for establishing metrics around cost of goods, marketing, overhead, and overall profitability.
For marketing specifically, we look to set boundaries on Marketing Efficiency Ratios (MER). We want to determine what is an acceptable spend amount for advertising based on overall revenue. Once those boundaries are set, we flex marketing budgets up and down in order to match that MER Rate. This move provides us with the flexibility to in any direction the market takes us, both up and down.
We are always looking to push business growth based on Marketing Efficiency Ratio (MER) but we will be transparent about times at which businesses need to look to maintain rather than grow based on the economic climate. Nobody likes to see a pause in growth, but during economic downturns that could very well be the best recommendation for your brand for long term sustainability. Paid advertising revenue is generally a lead indicator on business growth, and we will make recommendations on business health based on what we are seeing both monthly and seasonally.
In general, we advocate for taking a deeper look at all costs, inventory levels, production levels, and can help allow us make recommendations in most areas based on trends we see across all clients. We look to share that broader knowledge among all of our clients in order to help elevate our entire portfolio.
We are cautiously optimistic about the upcoming year, and believe that there is still opportunity for growth. We look forward to being part of that success not only this year but for many years to come.