NY Fed Survey: End of Payroll Tax Cut Prompting Consumers to Scale Back Spending

Friday, 17 May 2013 08:08 AM

By Michael Kling

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The end of the payroll tax holiday is prompting consumers to cut spending, according to a new survey from Federal Reserve Bank of New York.

Of the 370 individuals surveyed, 79 percent said they plan to cut spending in response to the end of the tax cut, while nearly 20 percent said they will cut savings and 2 percent will increase debt (borrowing).

The payroll tax cut reduced Social Security and Medicare taxes withheld from paychecks by 2 percent in 2011 and 2012, impacting 155 million workers. It gave an extra $1,000 a year to the average household earning $50,000.

Editor's Note: How You Lost $85,000 During the Last Decade. See the Numbers.

The economists compared how people had used the extra money with what they say they're doing in response to the end of the tax.

"We see a disproportionate shift toward primarily reducing spending," New York Fed economists Basit Zafar, Max Livingston and Wilbert van der Kaauw write in their report. "Regardless of what consumers reported doing with the increase in take-home pay over the last two years, a majority report that they will cut back on spending."

For example, 86.2 percent of those who mostly spent the extra money said they now plan to mostly cut spending, and 80 percent of those who used the extra funds mostly to pay off debt also plan to mostly reduce spending.

On average consumers reported they had spent 38 percent of the additional income, what economists call the marginal propensity to consume. That amounted to an extra $380 of spending a year for a household making $50,000.

Lower-income people tend to plan to cut spending, while higher-income people are more likely reduce how much the save.

However, it's too early to say if consumers will follow through on their plans, the economists noted.

"Based on consumers’ responses to our recent survey, expiration of the tax cuts is likely to lead to a substantial reduction in spending as well as contribute to a slowdown or possibly a reversal in the paydown of consumer debt," the economists conclude.

The Deloitte Consumer Spending Index dipped in April, mostly in response to higher taxes, but has otherwise been stable. The index, which considers tax burdens, initial unemployment claims, real wages and real home prices, fell to 3.98 from 4.4 the previous month.

"Despite a minor backslide in April, the index has remained stable over the past six months, staying at a level that typically indicates sustained consumer spending in the near term," said Daniel Bachman, senior U.S. economist at Deloitte Services LP, in a press release.

"The employment picture continues to improve gradually," he added, noting that the retail sector — the largest private-sector employer — added 29,000 jobs in April, even as the effects of the sequester and tax increases continue to impact consumers.

Editor's Note:
How You Lost $85,000 During the Last Decade. See the Numbers.

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