Consumer Sentiment Crashes and the Stock Market Soars
Welcome back to Friday! This is…well, you probably know by now that on Fridays we assemble the news from the previous seven days into our weekly wrap. But we wrote it down again anyway so that our new subscribers do not feel left out.
This week saw the 30-year Treasury bond auction clear at the highest yield in 25 years while the stock market hit a new record high. Retail sales were worse than expected but also stronger than they looked. Consumer sentiment tanked—largely because Republicans are less optimistic about the economy. Inflation came in soft for the second straight month, humiliating the critics of Fed Chair Kevin Warsh.
Let’s go!
The Sad Old Party: GOP Consumer Sentiment Drops Sharply
The University of Michigan’s consumer sentiment index plunged eight percent in the opening weeks of August.
“While views of personal finances saw only minor declines, expected business conditions sank 11% for the short run and 17% for the long run. Decreases in sentiment were seen across the political spectrum, with Republicans exhibiting the strongest month-to-month decline in August. Sentiment among Republicans is now 19% below readings just prior to the Iran conflict and the lowest since the 2024 election,” Joanne Hsu, the director of the survey, said in a statement.
The numbers bear out the idea that Republicans led the decline. The sentiment reading among Democrats inched down 3.7 points. Among independents it ticked down just 0.8 of a point. But among Republicans, sentiment fell 9.5 points. The current situation index among Republicans fell 6.1 percent. The expectations index plunged 11.8 points.
We wrote about this earlier this week through the lens of the Economist/YouGov poll that showed the vibecession had come for MAGA. The persistence of the war with Iran— and the return of rising oil and gas prices—are no doubt playing a role here. Even if you were a supporter of the war in its earliest days, you probably did not think it would stretch on for this long. Several times we’ve been led to believe the war was just about over and the Strait of Hormuz was just about to reopen, only to have fighting break out and the strait stay at least partially closed.
The looming midterms may also be playing a role. The GOP does not have a clear message going into this election. What’s the one thing that they’ll do if they keep their majorities in the House and Senate? Your guess is as good as anyone’s. High gasoline prices have sent concerns over inflation soaring, according to public opinion polls. Republicans looking a year out into the future know there’s a very good chance that the Trump economic program will be weighed down by an emergent Democrat majority in the House and a possibility of a Democratic Senate. No wonder expectations are down so much.
People Are Shopping to Cope with Their Economic Misery
Shopping therapy is the act of buying things to make yourself feel better when you are stressed, worried, or sad. If the consumer sentiment numbers are right—and we’re not sure they are—something like that may explain why people keep spending money despite having extremely pessimistic views of the economy.
Take a look at the retail sales numbers for July. The headline decline of 0.6 percent would appear consistent with the miserable consumer sentiment numbers. But peak underneath and things stop making sense. Spending at “food services and drinking places”—the ultimate discretionary category—jumped 0.5 percent. Spending was up at furniture stores, home improvement stores, department stores, the “general merchandise” category that includes retail giants like Walmart, and health and personal care stores. Clothing shops saw a 1.9 percent increase in just the month of July.
Spending fell at gas stations. But that’s just a reflection of the fact that gas was cheaper in July than it was in June. Spending online fell because Amazon held Prime Day in June instead of the usual July date. Appliance store sales fell but by less than the prices of major appliances. The only area of genuine weakness appears to be auto dealership.
Apart from therapeutic purchasing, a plausible explanation is that the University of Michigan survey just no longer reflects consumer behavior. We’re not saying the survey is wrong—although it does have problems, including over-sampling Democrats. We’re saying that the negativity it is picking up does not translate into lower levels of economic activity. And that’s a big problem because the traditional reason to watch consumer sentiment was to predict consumer behavior. Without that connection, it’s just gossip.
Stocks Hit New Records in Third Straight Winning Week, While 30-Year Bond Yields Hit 25-Year High
The S&P 500 closed at a record high on Thursday, the same day that the auction of 30-year Treasuries saw cleared at the highest yield in 25 years. These things are not necessarily contradictory. Bond prices are supposed to fall (which means yields rise) when stocks go up—and vice versa. This is normally considered a positive signal for the economy because it means investors are taking on more risk and demanding higher yields to compensate for surrendering the upside potential in equities.
So why was the 30-year auction treated by many pundits and analysts as foreshadowing something bad? Part of the answer is just Trump Derangement Syndrome. Whatever happens while Trump is around gets treated as if it is going to end democracy, civilization, or gravity-as-we-know it. There’s also the idea that the federal government’s deficits and debt are now so large that they are becoming hard to finance.
The trouble with the doomer view is that the 30-year yield, now around 5.26 percent, simply is not high enough to indicate distress. It traded above this level as recently as 2007, reaching 5.35 percent that June. Because the United States suspended issuance of the 30-year between 2001 and 2006, however, there were no auctions during most of that period. But during that period, yields were regularly above the current level in secondary market trading. Go further back and today’s yield looks even less extraordinary. The 30-year reached 8.16 percent in 1994 and nearly 14 percent in 1984.
The auction itself certainly did not look like a Treasury buyer strike. It cleared at 5.216 percent against a when-issued yield of 5.212 percent, a microscopic 0.4-basis-point tail. The bid-to-cover ratio was 2.39 versus a recent average of 2.43, and indirect bidder participation was 66.8 percent versus a 67 percent average. That is a mildly soft auction, not a frightening one.
The composition of the rise in yields also cuts against the doomer interpretation. Since the end of 2024, the nominal 30-year yield has risen by roughly half a percentage point. The inflation-adjusted 30-year TIPS yield has risen by slightly more. Meanwhile, the 10-year breakeven inflation rate has fallen from 2.34 percent to around 2.24 percent. Inflation panic would send breakevens upward. Instead, investors are demanding higher real returns in an economy experiencing enormous demand for capital, much of it generated by the artificial intelligence buildout.
What’s more, if the rising yield were somehow portending doom, stocks would not be hitting record highs. The best reading of the 30-year yield is bullish.
Inflation Refuses to Cooperate With Kevin Warsh’s Critics
The critics of Fed Chairman Kevin Warsh found themselves with a credibility problem of their own this week. They had gnashed their teeth over Warsh’s new communications strategy and whined that the dissenters were right to urge a hike at the last meeting. The mere one percent rise in the consumer price index for July of not issuing guidance, not contributing to the Fed’s projection, and (along with the majority of the Federal Open Market Committee) keeping rates steady was prudent. Underlying inflation is moderating. The clamor of higher rates is mostly a monetary version of Trump Derangement Syndrome, a conviction that the correct policy must be the opposite of whatever President Trump wants.
Happy Birthday to the Floating Dollar
On Sunday night, August 15, 1971, President Richard Nixon severed the dollar’s last remaining link to gold.
Under the Bretton Woods system, foreign governments could exchange dollars for American gold at $35 an ounce. But the United States had issued far more dollars than it could redeem. Inflation was rising, the trade balance had deteriorated, and foreign governments were increasingly asking for gold. Britain had just requested the conversion of $3 billion.
President Richard Nixon and Secretary of the Treasury John Connally discuss the president’s new economic programs at Camp David, Maryland, in August 1971. (PhotoQuest/Getty Images)
At Camp David, Nixon asked for advice from Treasury Secretary John Connally, Federal Reserve Chairman Arthur Burns, and Treasury official Paul Volcker. They told Nixon that he needed to close the gold window.
The closing of the gold window was supposed to be temporary. But the act effectively destroyed Bretton Woods. Attempts to patch the system together failed, and by 1973 the major currencies were floating. The modern monetary world had arrived: dollars backed by the credit of the United States, with no promise to redeem them for anything else.
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