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The recovery in consumer spending





The top chart shows the level of real personal consumption expenditures over the past 40 years, while the bottom chart shows the year-over-year change in real spending. In inflation-adjusted terms, spending has increased about 150% since 1970, with the apparent trend (green line) being about 3.3% per year annualized. Real spending over the 12 months ended November '10 rose 2.8%, half a percentage point below its long-term average growth rate.

The level of real spending now exceeds the peak of late 2007, so we've already had what might be called a "recovery" of sorts. But to get back to our 3.3% long-term growth path (we're about 8% below that path currently), real spending would need to increase by more than 3.3% per year. A 5% annual increase in real spending would get us there in just over 5 years. That sounds almost impossible in today's climate, but it would be consistent with the economy's demonstrated ability to bounce back from adversity over and over again, and it would give us growth approaching that of the heydays of the Reagan boom in the 1980s. And although nobody seems to be giving the consumer much credit these days, real consumer spending is already up at 4.3% annualized rate over the past three months.

What would a full recovery to trend growth look like? Well, if Congress can slow the growth of federal spending, broaden the tax base by eliminating deductions, and reduce and flatten tax rates, I'd be willing to bet we would enjoy a handsome recovery in the years to come, and it's not impossible at all.

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