Consumers can't save economy alone

With personal income declining, consumers are going to be hard-pressed to make the purchases necessary to pull the economy out of recession and keep it from falling back into decline.

The figures released by the Commerce Department on Tuesday showed personal income fell more than economists were expecting, or 1.3 percent, compared with the median forecast of a 1 percent decline.

Personal spending also remains sluggish. It climbed 0.4 percent in June, the second consecutive increase, but economists attributed the growth to spending on higher-priced gasoline, not carefree shopping.

If gasoline prices continue to increase, the extra burden will make it difficult for heavily indebted and unemployed consumers to shop.

Because consumer spending makes up 70 percent of the economy, analysts are watching the data closely.

"There were no green shoots (optimistic signs) at all in these data," said economist Ian Shepherdson of High Frequency Economics. "Wages and salaries are dropping steadily every month."

Although Shepherdson said he expects a boost in spending in the third quarter from the cash-for-clunkers program, "the fourth quarter will be down again."

Recently, investors have looked past the 9.5 percent unemployment rate, furloughs and pay cuts and focused instead on second-quarter corporate earnings reports, which have been stronger than expected. Although earnings are on course to be down about 30 percent year over year for the quarter, a worse decline had been anticipated. Optimism carried the Standard & Poor's 500 index up 7.4 percent in July, the best July since 1997.

But skeptics have pointed out that while 75 percent of companies have beaten second-quarter earnings expectations, cost cutting, including layoffs, has been a major reason behind earnings surprises. And layoffs can cut two ways: strengthening corporate profits in the short term, but impairing the ability of consumers to buy from companies and generate growth in the economy in the long term.

Goldman Sachs economist Jan Hatzius is among those expecting a stronger economy in the near term, but he is concerned about 2010. He expects the recovery to be sluggish next year and the economy to remain vulnerable to a relapse back into recession.

"Consumption is apt to be constrained by weakness in labor income and ongoing efforts to boost saving," Hatzius said.

Although some consumers are being enticed to dump clunkers and buy new cars, some economists think consumers will remain frugal and save because they have lost about $14 trillion on housing and stocks, are still having trouble borrowing money and can't be certain about their jobs.