According to data from the U.S. Department of Commerce, Americans earned approximately $3.7 trillion in interest and dividends in the first quarter of the year, up by about $770 billion from four years ago. In the last quarter of 2023, wealth held in stocks, real estate, retirement accounts, and other assets reached the highest level ever observed by the Federal Reserve.
The Wall Street Journal reported on Wednesday (June 5) that the growing investment income and household wealth, coupled with near full employment and rising wages, have enabled millions of Americans to continue spending amidst inflation. The impact of higher interest rates is channeling unprecedented funds into the hands of consumers, boosting asset values to historic highs in the U.S., and helping many high-income earners avoid the shrinking effects of inflation.
However, the historic gains are not without potential negative consequences. James Marple, senior economist at TD Bank, says that the ability of Americans to spend more on goods and services “will make it even harder for the Federal Reserve to achieve its inflation target.”
Federal data shows that in recent years, wage and wealth growth in the U.S. has spanned across all income levels. Through ownership of assets such as homes (often locked in with low-interest mortgages) and stocks, white individuals, the wealthy, those with university education, and the baby boomer generation have experienced disproportionate wealth growth.
Many investors anticipate that rising interest rates will weaken Wall Street’s present value assessments of future corporate earnings, dragging down stock prices.
Contrary to this, speculation around artificial intelligence has propelled major stock indices to near-historic levels, driving up the stock prices of technology companies, chip manufacturers, and even utility companies. While the S&P 500 index saw a slight decrease in the past week, Wall Street is still betting on a Federal Reserve rate cut this year, which could potentially fuel the next round of market growth.
Marple says, “This makes things complicated.”
Economists have differing views on the extent to which the so-called wealth effect from rising asset prices encourages consumer spending and how long this effect may drive the economy. However, in an era of rising bond yields, many Americans are seeing cash flow from their investments, which can circulate back into the economy through restaurants, hotels, and stores.
Victor Hernandez, a technology sales specialist in Southern California, has been buying U.S. government and corporate bonds in recent months to secure safe returns on investments. Fixed income now makes up about a third of his investment portfolio.
Rising prices have led the 55-year-old and his wife to postpone buying a new car and improving their backyard patio and garden projects. Nevertheless, they recently bought a new set of tires for one of their sons and are planning trips around the U.S. and to Spain.
Hernandez says that recent stock gains and bond income have enabled him to better achieve his goals: early retirement and helping his two sons buy homes.
The income flowing to Americans like Hernandez has sparked debates among analysts on whether rising interest rates will indeed stimulate the economy.
Washington has pumped trillions of dollars into pandemic relief, clean energy projects, and other expenditures, selling government bonds to fund ballooning budget deficits. According to first-quarter data from the Commerce Department, the snowballing government debt, coupled with the highest interest rates in over two decades, has pushed government interest payments to an annualized rate of nearly $1.1 trillion.
Andy Constan, CEO of investment advisory firm Damped Spring Advisors, says that the increase in government bond spending could raise overall expenditures for Americans. However, with the Federal Reserve signaling a reluctance to further raise interest rates, revenue growth is expected to significantly slow down.
Meanwhile, higher borrowing costs are impacting more small businesses in need of loans, home buyers seeking mortgages, and low-income individuals with credit card debt.
Constan says, “At this stage, a further increase in interest rates would harm the economy.”