Market Insider

Consumers are shopping, showing economy may be stronger than expected

Key Points
  • July's retail sales report, the best gain in seven months, relieves some concern that a weak consumer was behind the repeated disappointments in inflation data.
  • Economists were raising GDP targets as result of the stronger sales growth.
  • The consumer spent across a variety of categories, and the number would have been even better if gasoline prices were not falling.
Shoppers in Coral Springs, Florida.
Henry Romero | Reuters

July's surprisingly strong retail sales relieved some of the fears that the real cause of sluggish inflation this year is a weakness in the U.S. consumer.

The 0.6 percent jump in July retail sales was the best in seven months and is expected to bump economists' GDP targets for the third quarter. June headline retail sales were revised from a decline of 0.2 percent to an increase of 0.3 percent.

Third quarter GDP has been tracking around 2.8 percent, according to CNBC/Moody Analytic's rapid update. Barclays economists on Tuesday bumped up their tracking estimate for both second and third quarter GDP by 0.1 point following the data, and now expect 2.6 percent growth in each.

"The bottom line on this data release is that consumer spending has perked up," said Ward McCarthy, chief financial economist at Jefferies.

McCarthy said the broad strength in retail sales offset a decline in gasoline station sales, due to falling gasoline prices.

"This looks like it could boost GDP a little bit, especially with the weak inflation numbers we saw. The weakness in inflation is not a reflection of weakness in consumer spending," said Diane Swonk, CEO of DS Economics. "Consumers are taking advantage of discounts and buying."

Inflation, however, has been stubbornly low. CPI for July was 0.1 percent, weaker than expected and the fifth-consecutive disappointing reading for the consumer inflation data. The slowdown in inflation has caused some concerns that there is some underlying problem that could slow the whole economy.

The weakness has been a puzzle to Federal Reserve officials, who have said they ultimately expect it to rise toward their 2 percent target. At the same time, the job market has been strong, encouraging the central bank to look toward raising interest rates.

In the retail sales report, online sales were positive, up 1.3 percent, or 11.4 percent annually, about in line with recent months despite an expected kick from Amazon's Prime Day in July, Swonk said. Department stores however did better than expected, up 1 percent but still down for the year. Amazon's self proclaimed shopping holiday in July was met by in store and online promotions by many other retailers.

Bespoke Investment Group points out the online trend could be what's causing trouble for Dick's Sporting Goods, which saw meager sales growth and said Tuesday it would use promotions to protect its market share. Sales in the sporting goods category were up 0.3 percent in July but are down 4.2 percent for the year.

"Over the past year, retail sales have been boosted most by auto-related sales as well as sales of furniture, nonstore retailers and building materials, but there have also been solid increases in food and beverage sales, health and personal care, products and gasoline station sales," McCarthy wrote in a note to investors. "Clothing sales have been close to flat, while electronics and department store sales have declined in nominal terms."

Treasury yields rose Tuesday, with the 10-year reaching 2.28 percent briefly, after retail sales and other strong data. Stock futures were slightly higher after the data, but the market was lower in morning trading as strong economic reports on retails sales, housing and New York manufacturing raised the odds above 50/50 for a Fed rate hike.

"Bottom line, after the slowest [year-over-year] core sales gain since March 2016 in June of 2.5 percent, they rose by 3.6 percent [year over year] in July which is about in line with the 5-year average of 3.3 percent. This pace though still remains well below the 5 percent plus growth rates in the two prior recoveries," said Peter Boockvar, chief market analyst at Lindsey Group.

Boockvar blamed the retail sales trend in part on spotty wage gains, high consumer debt and rising health-care and rent costs.