Have COVID Savings Delayed the Impact of Higher Interest Rates?

Many of the world’s leading economists are scratching their head as to why the North American economy has been as resilient as it has in the face of the largest increase in interest rates since the 1980’s. Economists will highlight the lagged impact of monetary policy – it typically takes 12-18 months for the impact of a change of interest rates to be felt by the economy. 

We’re now at the stage where the impact of significantly higher interest rates should begin to slow the economy. Recall the US Federal Reserve began their current rate hiking cycle in March of 2022 (18 months ago). The Bank of Canada started raising rates a few weeks before the Federal Reserve (also in March of 2022).

As depicted in the supplied chart, a unique feature of the current economic cycle is the impact of excess savings accumulated during the COVID pandemic. In the US, a staggering $2.1 trillion in excess savings was accumulated by consumers during the pandemic as they couldn’t spend on

dining, travel or entertainment. As you can see from the chart (shown in green), these were additional savings above the long-term trend. What I find extremely interesting is the trend which has developed since restrictions were lifted post COVID (shown in red). As you can see, the massive increase in the savings rate observed during the pandemic completely reversed post pandemic. Furthermore, the $2.1 trillion of excess accumulated savings has been almost fully spent. Excess savings accumulated during the pandemic created additional spending capacity which helped insulate consumers from the impact of inflation. Stated another way, as inflation has increased the cost of almost everything, consumers chose to spend savings to maintain their standard of living rather than reduce spending. This is logical behavior given spending excess savings is less painful than deciding not to dine out or go on vacation. The question is what happens to consumer spending now that excess savings have been depleted? Does the substantial increase in mortgage costs, utility costs, food costs, etc. mean the average consumer is running out of money to spend on vacations, restaurants, and other discretionary items? Time will tell, however, it seems logical that spending will be increasingly challenged as consumers have exhausted excess savings and the increase in the basic cost of living takes a larger percentage of their take-home pay. Finally, it’s important to remember that the US remains a consumer driven economy, any weakness in consumer spending will quickly be reflected in the largest economy in the world.

National Bank Financial - Wealth Management (NBFWM) is a division of National Bank Financial Inc. (NBF), as well as a trademark owned by National Bank of Canada (NBC) that is used under license by NBF. NBF is a member of the Canadian Investment Regulatory Organization (CIRO) and the Canadian Investor Protection Fund (CIPF), and is a wholly owned subsidiary of NBC, a public company listed on the Toronto Stock Exchange (TSX: NA). The information contained herein has been prepared by Eric Van Enk, Associate Portfolio Manager and Wealth Advisor at NBF. I have prepared this article to the best of my judgment and professional experience to give you my thoughts on various financial aspects and considerations. The opinions expressed herein, which represent my informed opinions rather than research analyses, may not reflect the views of NBF. The opinions expressed are based on my analysis and interpretation of historical data. Values and returns will fluctuate, and past performance is not necessarily a guarantee of future performance. The particulars contained herein were obtained from sources I believe to be reliable but are not guaranteed by me and may be incomplete. The opinions expressed are based upon my analysis and interpretation of these particulars and are not to be construed as a solicitation or offer to buy or sell the securities mentioned herein. The securities or sectors mentioned herein are not suitable for all types of investors. Please consult your wealth advisor to verify whether the securities or sectors suit your investor's profile as well as to obtain complete information, including the main risk factors, regarding those securities or sectors.

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