US consumer sentiment drops to 51.0 in August as retail sales fall 0.6% in July

Consumer sentiment slumps

The University of Michigan's Consumer Sentiment Index fell to 51.0 in early August from 55.2 in July, a 7.6% decline that ended two consecutive months of improvement. Economists polled by Reuters had forecast a reading of 54.5. The index had previously reached an all-time low of 44.8 in May. The deterioration was broad-based across the political spectrum, with an especially large month-to-month drop among Republicans.

Sentiment among Republicans is now 19% below readings just prior to the Iran conflict and the lowest since the 2024 election.

Joanne Hsu, director of the Surveys of Consumers, said the early-month weakening was pervasive across demographic groups, with notably large reductions among older consumers, lower-income consumers, and those without a college degree.

Retail sales decline

Separate data from the Commerce Department's Census Bureau showed retail sales dropped 0.6% in July after an unrevised 0.2% gain in June. Economists had forecast a 0.1% increase, with estimates ranging from a 0.5% drop to a 0.7% gain. Core retail sales, which exclude automobiles, gasoline, building materials and food services and correspond most closely with the consumer spending component of GDP, fell 0.4% after a downwardly revised 0.4% increase in June.

The decline reflected the exhaustion of generous tax refunds that had boosted second-quarter spending, as well as payback after Amazon moved its Prime Day event to June from July. Falling gasoline prices also weighed on receipts at service stations, and auto manufacturers reported a decline in unit sales. Consumer spending, which accounts for more than two-thirds of the US economy, grew at a 3.2% annualized rate in the second quarter, while the economy expanded at a 1.5% pace.

Inflation expectations edge higher

The Michigan survey's one-year inflation expectations rose to 4.3% from 4.2% in July, while five-year expectations held at 3.3%. Annual inflation reached a three-year high of 4.2% in May before receding to 3.4% in July, according to data released earlier in the week. For many Americans, day-to-day costs remain elevated despite the recent cooling.

It's hard on less affluent Americans. The reality is that inflation is just the most regressive tax that exists.

Diane Swonk, chief US economist at KPMG, said the data showed that the so-called K-shaped economy, in which wealthier Americans prosper despite rising costs, has not ended. PNC Financial economists noted increasing evidence of upper-income and older households cashing in on wealth gains to support spending, but said it was difficult to envision a scenario where spending truly rolls over.

Fed at a crossroads

Federal Reserve Chair Kevin Warsh, who took over in May, faces a divided central bank. The 4.1% unemployment rate is historically low, but wages have declined over the last six months on an inflation-adjusted basis and job growth has been tepid. Inflation remains significantly above the Fed's 2% target, though it has eased in the last two months.

The more the headlines are 'inflation coming down,' I think that keeps expectations in check.

Richmond Fed President Thomas Barkin said on Thursday that the current level of interest rates appears restrictive enough to bring inflation down, noting that much of the acceleration stems from shocks including higher tariffs, elevated oil prices, and an AI investment boom. Traders have abandoned bets on a rate hike at the Fed's September 15-16 meeting after softer inflation data, though markets still price a more than 90% chance of a higher policy rate by year-end, per CME Group's FedWatch tool.

Markets react

US stocks fell on Friday after the weak retail sales data tempered enthusiasm about the AI boom that has driven indexes to record highs. The S&P 500 had closed at a record high on Thursday and is up 14% this year, with the index and the Nasdaq on track for a third straight week of gains. European shares were subdued, with the STOXX 600 rising 0.05% to 659.65, while oil futures climbed 1% to $87.93 a barrel after the US threatened an indefinite naval blockade of Iran. Ceasefire talks between Washington and Tehran remained deadlocked, with both sides hardening their rhetoric in recent days.