U.S. consumer spending rose more than expected in March amid strong demand for services, while monthly inflation surged by the most in 16-1/2 years, giving the Federal Reserve ammunition to hike interest rates by a hefty 50 basis points next week.
The case for an aggressive monetary policy stance from the U.S. central bank was also strengthened by other data on Friday showing compensation for American workers recording its largest increase in at least 21 years in the first quarter. Companies are boosting wages in a desperate bid to attract scarce workers.
The strength in consumer spending heading into the second quarter allayed fears of a recession after the economy unexpectedly contracted in the first three months of year.
“There’s nothing about to go wrong with the economy with the consumer still cheerleading the way forward to prosperity,” said Christopher Rupkey, chief economist. “No recession on the horizon yet.”
Consumer spending, which accounts for more than two-thirds of U.S. economic activity, surged 1.1% last month, the Commerce Department said. Data for February was revised higher to show outlays advancing 0.6% instead of 0.2% as previously reported.
Spending was boosted by demand for international travel, dining out at restaurants as well as hotel stays. There were also increases in healthcare spending and outlays on recreation and transportation services. Spending on goods increased, but mostly reflected gasoline and other energy products, as well as food, whose prices have risen sharply.
Economists had forecast consumer spending increasing 0.7%.
The data was included in the advance first-quarter gross domestic product report on Thursday, which showed the economy contracting at a 1.4% annualized rate because of a wider trade deficit. This was due to surging imports, and a slower pace of inventory accumulation relative to the fourth quarter’s robust rate. Consumer spending picked up last quarter, combining with business investment to boost domestic demand.
Even with inflation sky-rocketing, consumer spending eked out gains last month, highlighting the economy’s underlying strength.
The personal consumption expenditures (PCE) price index shot up 0.9% in March, the largest increase since September 2005, after climbing 0.5% in February. In the 12 months through March, the PCE price index jumped 6.6%. That was the largest annual gain since January 1982 and followed a 6.3% year-on-year increase in February.
March, however, likely marked the peak in that price index. Economists expect the increase in the annual PCE price index to start slowing in the coming months as last year’s large gains drop out of the calculation.
In addition, the shift in spending back to services from goods is seen easing pressure on supply chains.
Excluding the volatile food and energy components, the PCE price index rose 0.3% after a similar gain in February. The so-called core PCE price index increased 5.2% year-on-year in March. The core PCE price index accelerated 5.3% in the 12 months through February.
Annual inflation by all measures has overshot the Fed’s 2% target and the central bank is expected to hike interest rates by 50 basis points next Wednesday. The Fed raised its policy interest rate by 25 basis points in March, and is soon likely to start trimming its asset holdings.
Even if inflation has peaked, it could remain uncomfortably high for a while. A separate report from the Labor Department on Friday showed its Employment Cost Index, the broadest measure of labor costs, jumped 1.4% in the first quarter after advancing 1.0% in the October-December period. Last quarter’s increase was the largest since the current series started in 2001.
Labor costs soared 4.5% on a year-on-year basis after increasing 4.0% in the fourth quarter. That was also the biggest rise since 2001.
The ECI is widely viewed by policymakers and economists as one of the better measures of labor market slack and a predictor of core inflation as it adjusts for composition and job quality changes. Economists polled by Reuters had forecast the ECI climbing 1.1% in the first quarter.
The labor market is seen as being at or near maximum employment. There were a near record 11.3 million job openings at the end of February, forcing companies to boost compensation to attract scarce workers.
Wages and salaries increased 1.2% last quarter after rising 1.0% in the fourth quarter. They were up 4.7% year-on-year. But high inflation eroded the gains for employees. Inflation-adjusted wages fell 3.6% year-on-year. Benefits jumped 1.8% after increasing 0.9% in the October-December quarter.