Is It OK to Spend Again?

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NEW YORK (MainStreet) —  The holiday season may be over, but shopping season has only just begun.

Consumer spending increased in each of the final three months of last year, due in part to retailers ramping up their end-of-year sales, but many economists expect shoppers to continue splurging a bit more throughout 2011 and finally abandon some of the frugality they learned during the recession.

“The fall of 2010 marked a change in consumer spending habits,” said Bernard Baumohl, chief global economist at the Economic Outlook Group and author of The Secrets of Economic Indicators. “Americans have been remarkably frugal in the last two years, and have made real progress in improving their household balance sheets. Now, this allows them to feel more comfortable about spending and borrowing again.”

And spend they will. A recent survey from MasterCard found that the majority of consumers (61%) have no intention of cutting back spending in the new year even in the aftermath of their holiday shopping.  Likewise, an American Express survey found that 54% of consumers plan to spend at least as much as they did last year, with 14% saying they will likely spend more.  But perhaps the more startling statistic in the American Express study is the fact that consumers have drastically reduced their annual savings goals for the year, and now plan to put aside an average of $2,600 in 2011 compared to $14,000 the year before.

“We’re really starting to see consumers curtail their savings goals,” said Mona Hamouly, a spokesperson for American Express. “Our hunch is that consumers have been super focused on savings in the past, and have hopefully accomplished their goals and now have given themselves the leniency to spend a little more on the things that really matter to them.”

However, there are several factors at play here for consumers besides the simple desire to spend again after a long period of pinching pennies. Not only have many Americans worked to save more money in recent years, but they also have a larger amount of disposable income to start with these days, as the average salary in the U.S. after taxes increased by 0.3% in both October and November.

Moreover, even as the economy remains sluggish, there are an increasing number of signs telling average Americans to be hopeful. Specifically, the job market is seeing an improved employment rate, fewer people are collecting unemployment benefits for the first time and more companies planning to hire in 2011.

“There’s a sense that the worst is over and we can feel a bit more secure about our jobs and livelihoods now,” Baumohl said.

Even those who are less optimistic about the current state of consumer spending  admit that it will probably pick up noticeably by the second half of 2011 as the economy continues to improve.

“People certainly have more money to spend now, but spending is not booming quite yet,” said Schwark Satyavolu, co-founder and CEO of BillShrink.com, an online service that helps users analyze and reduce their spending. “By the middle of this year, there will likely be enough visibility of a rebounding economy for consumers to loosen their purse strings more.”

What We’ll Start Buying

According to Hamouly, the most common things consumers plan to splurge on this year are pampering purchases like manicures, pedicures, new clothes and gym memberships. Meanwhile, Baumohl expects that Americans will start buying more big-ticket items like cars and appliances, which they may have put off purchasing in recent years.

In fact, recent data hint that many consumers have already begun to make these purchases. Automobile sales were up significantly in November and December compared to the same time the year before, and are expected to boom in 2011. Sales of durable goods, which include items like appliances, increased by 0.2% in November, the most recent month on record.

Even pricey luxury goods have made a strong comeback in recent months, and were expected to have a year-over-year sales increase of 10% by the end of 2010, making it one of the big success stories of the year.

But if Americans are really on the verge of splurging more this year, it raises an obvious question: Are we ready to be a nation of big spenders again?

Old Habits Die Hard

Much of the reason we entered a recession in the first place is that many Americans were goaded into living beyond their means, most notably by signing up for huge mortgages on homes that were well above their pay grade, or by overspending and racking up an excess amount of credit card debt.

Once the economy began to take a nosedive in late 2007, consumers made a concerted effort to bring their spending back in line, slowing the increase in credit card debt in 2008 to just 1.5% after several consecutive years of 4% to 5% increases. Americans ultimately reduced that debt by 4.4% in 2009. Many consumers recognized the need to shed their debts but were unable to pay it down properly, which left them with little choice but to simply default on paying it altogether. This is reflected by the steep increase in the number of charge-offs, which only occur when creditors determine the credit card debt is uncollectible.

To some extent, this has created an inflated sense of how much progress consumers have made toward improving their finances.

“Consumers have much less debt in their wallets than they used to, but the reason they do is not because they paid it down, but rather because they charged it off,” said Odysseas Papadimitriou, the CEO and founder of CardHub.com, which tracks credit card data.  The reality, according to Papadimitriou, is that consumer credit card debt today is “the same or more” than it was in the lead up to the recession.

However, this hasn’t stopped consumers from reverting back to old habits. Credit card applications have climbed fairly consistently since the beginning of 2009, after dropping significantly in 2008, and the total credit card debt began to increase again in the fourth quarter of 2010 as consumers started to spend once more.

As Papadimitriou notes, this increase in spending and borrowing is particularly problematic for those who defaulted on their credit debts already, as they will now be subject to higher interest rates from lenders for several years due to their poor credit.

But even for those who have adequately paid down their debt, this may still not be the right time to spend as freely as they did before the recession hit.

“Millions of consumers had their pre-recession income tied directly to the housing bubble, perhaps because they worked in that industry as real estate agents and mortgage brokers, or were simply refinancing their home and using that line of credit to fuel their spending,” Papadimitrou said. However, because the housing industry remains weaker than it was pre-recession and lenders have been forced to tighten their mortgage policies, Papadimitrou says it’s unreasonable for these consumers to expect their lifestyle to revert back to what it once was.

Who’s Entitled to Splurge?

The only group of people who may safely be able to open up their wallets again are those who never truly lived beyond their means in the first place.

“There is certainly a category of consumers that did not have their spending fueled by the housing bubble, and who never missed a single payment during the Great Recession, but who decided to bring down their lifestyle and cut their spending to minimize their risks during the tough economy,” Papadimitrou said. These frugal families and small business owners, he says, make up about half the country, and are really the only group of Americans who should “expect their spending to gradually go up to pre-recession levels.”

For those consumers who fall into this category and are wondering whether to open up their wallets again, there is essentially one golden rule for deciding when is the right time to spend.

“You need to ask yourself if you have enough in savings to weather another storm,” said Satyavolu, the BillShrink CEO. “Typically, that means you need to have between three to six months of living expenses in savings.”

Beyond this, consumers should simply focus on trying to apply many of the same shopping tactics they used during the economic downturn in order to avoid spending beyond their limits.

According to Julia Scott, a shopping expert who runs the popular deals site BargainBabe.com, it’s still important as ever to think through your purchases and determine whether it’s something you really need, if it’s being sold for a good price and how it fits into your overall budget.

After all, just because you can afford to spend again, doesn’t mean you should spend more than you can afford. Ultimately, this may prove to be the lasting lesson from the recession for a new generation of consumers.

Young people ages 18-34 are far more likely than their elders to say they will focus on saving and budgeting this year, according to one recent study by Chase Card Services.

“This generation has learned a lesson from the big bust and wants to be more careful with their spending going forward,” Satyavolu said.

So though this year may see many consumers return to their old spending ways, frugality will likely live on in the decades to come.

—For a comprehensive credit report, visit the BankingMyWay.com Credit Center.

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