On the subject of consumer spending

Personal Consumption Expenditures (PCE) do indeed make up about 70% of US GDP, making total US PCE or household spending about 15% of the global economy and bigger than the entire Chinese economy. How then can the US economy and the rest of the world grow with the US consumer in retrenchment? To answer that, we take a closer look at the composition of PCE.

Only 25% of personal consumption is discretionary spending

What many investors fail to realize is that the majority of PCE is not made up of iPods, handbags and dinners at the local Outback Steakhouse. Instead, about 75% of household spending is non-discretionary in nature, such as housing, healthcare, energy, food eaten at home and other household staples. We think it is worth noting that most of these non-discretionary items are made in the US.

While there is certainly room to reduce non-discretionary spending, the areas of consumer spending feeling the brunt of higher household saving rates are cars, travel, apparel, restaurants and other discretionary items that make up about 25% of PCE, equivalent to 20% of US GDP (Chart 3) or less as many of these nondiscretionary items are imported. 20% of US GDP is still significant, but far less than the 70% figure that makes the headlines. Another figure sure to make the headlines this time of year is retail sales. The contribution to US GDP from retail sales has actually been declining for over ten years. Excluding supermarkets, retail sales are under 40% of total consumption, or about 25% of GDP.