What if the only thing we had to fear really was fear itself?<\/p>\n
That\u2019s the optimist\u2019s view of the US economy in a nutshell: that businesses and consumers battened down the hatches amid tariff-induced uncertainty, and are now ready to return to regularly scheduled programming.<\/p>\n
This point of view implicitly assumes that the response to tariffs that might have gone into effect was worse for the economy than dealing with the tariffs we actually have. Or in other words, preparing for hell and ending up in purgatory seems downright heavenly.<\/p>\n
\u201cThe US economy is reaccelerating, and US economic data is surprising to the strong side, much as it often starts to do around this time of year,\u201d wrote Brent Donnelly, president of Spectra Markets ahead of the jobs report, which he warned could be a huge wildcard. \u201cThe soft patch triggered by US policy uncertainty is over\u2014and it was not dramatic.\u201d<\/p>\n
Even as US job growth has slowed meaningfully and various measures of the strength of the labor market have softened<\/a>, consumer spending appears to be holding up reasonably well. <\/p>\n The most recent nowcast from the Atlanta Fed suggests consumer spending will add nearly 1.5 percentage points to economic growth (quarter-on-quarter, annualized) in Q3, which would be its strongest contribution this year. New York Fed President John Williams recently said he hadn\u2019t really seen signs of a shaky consumer in the hard data.<\/p>\n The trajectory of real consumer spending in 2025 could loosely be described as: a deceleration after a very strong end to 2024, a surge to beat potential tariffs, a retrenchment thereafter, and signs of a pick-up since.<\/p>\n Bank of America aggregated credit and debit card data showed nominal US spending up 2.8% year-on-year for the week ending August 30. From mid-May through the end of June, this was running close to flat.<\/p>\n US consumption is top-heavy. The top 40% of earners drive more than 60% of spending, as of the most recent BLS data available.\u00a0 In July, my old boss Tracy Alloway discussed a recent Federal Reserve paper showing that the resilience of the US consumer since 2021 is thanks to those earning over $100,000<\/a>.<\/p>\n Which brings us to one big swing factor seemingly buoying the US consumer \u2014 which makes up about 70% of the economy \u2014 the stock market, and who has gotten to enjoy its renewed return to all-time highs after its trough in April: everyone, but in particular, retail traders who bought the dip<\/a>.<\/p>\n This speaks to the importance of the wealth effect, or a tendency for consumers to be willing to spend more if their net worth is higher. This means that in the short term, the stock market is both a reflection of the economic outlook and a driver of economic outcomes. (The legendary investor George Soros discussed this dynamic of \u201creflexivity\u201d \u2014 in short, how the actions guided by our perceptions shape our reality \u2014 in depth in an essay<\/a>.)<\/p>\n And beyond simply looking at retail traders, the stock market is nearly as important as it\u2019s ever been to American households\u2019 net worth.<\/p>\n So if we run with the following set of facts and assumptions\u2026<\/p>\n US consumption is disproportionally driven by higher earners;<\/p>\n Higher earners are more likely to own stocks than lower earners;<\/p>\n Retail traders also aggressively bought the dip in the US stock market;<\/p>\n Tariffs hurt the purchasing power of lower-income Americans more than higher-income earners;<\/p>\n The stock market is pretty much near all-time highs;<\/p>\n \u2026then we had a good reason to intuitively suspect that this wealth effect might be a pretty potent countervailing force to tariffs, which the Budget Lab at Yale estimated to be a $2,300 hit in after-tax terms to the average American household. This is a wealth effect with more breadth than a hypothetical scenario in which households headed to the sidelines while hedge funds bought the bottom, at least.<\/p>\n Back in April 2012, Paul Krugman eulogized the death of the “confidence fairy,\u201d detailing how arguments that proponents of fiscal austerity used to justify their stances \u2014 that lower government would be more than offset by positive side effects from more optimistic consumers and businesses \u2014\u00a0 had fallen flat.<\/p>\n Fast forward to April 2025. It took confidence to buy the dip. That confidence was rewarded, as walk-backs on some trade levies and robust corporate earnings (in large part thanks to the AI boom) helped return the S&P 500 to all-time highs by June. That retail traders \u2014 also known as US consumers \u2014 were intense buyers of the downside in US equities<\/a> relative to hedge funds means they disproportionately benefited from this recovery.<\/p>\n If the side effects from the market rally \u2014 more consumers feeling wealthier and more willing to spend than after your typical market rally \u2014 is enough outweigh the loss of purchasing power due to tariffs, well, we may be able to say that the US economy has a new, different confidence fairy godmother on its shoulders.<\/p>\n","protected":false},"excerpt":{"rendered":"What if the only thing we had to fear really was fear itself? 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