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How Does Age Affect Spending Habits and Perception of the Health of the Economy? Department of Economics The University of Akron Fall 2009 Jessica Collins & Emma Shinko 21 October 2009 Age is a large factor in one's view of the economy and their resulting actions as a consumer within it. Using the models of consumer confidence and perception of the economy, individuals were surveyed in respect to age to develop an understanding of their respective habits in regards to their view of the current and future economy. Collins & Shinko 1 IntroductionThe “perception versus reality” argument exists in economics for a number of reasons. One, being that economics itself is not a “hard science” (such as traditional subjects like physics or chemistry), there is a lot of subjective psychological analysis that marries data to results, especially in economic analysis pertaining to large populations. Because many economic indicators, such as consumer confidence, are based upon consumer behaviors, it is sometimes significant to pay heed to the intentions that motivate consumers to spend or save (otherwise known as the underlying “why” behind such results). In addition, economists themselves are often in disagreement over values and scientific judgment. For example, in the Economics1 text written by Mankiw and Taylor, it was noted that 80% of surveyed economists believe that the existence of a minimum wage leads to an increase in unemployment among unskilled and young workers. This, however, does not mean that most economists are against minimum wage, or that most economists believe that having a minimum wage only produces negative outcomes. The reality stands that many nations, including the US and the UK, have an imposed minimum wage. Again, it is important to recognize the discrepancies between reality and perception in economics because these differences can drive results. For the purposes of this report, both the perception and the reality of consumer spending habits and the health of the economy are studied. Sometimes, these perceptions can be compared directly to quantitative data. For instance, the perception of the health of the current economy can be compared directly to current GDP to reveal whether an economic boom, recession, or depression is being felt. In other cases, the analysis is less direct. For example, historical data on consumer spending habits can be compared with GDP to reveal trends between how spending is affected by good or hard economic times. These trends can then be compared to data from this report to show how consistently this study’s survey respondents mimic past findings. Moving further still towards qualitative analysis, survey responses regarding the future of the economy can be compared with current forecasts that make informed conjectures as to what the state of the economy will be in the following year. For the purposes of this study, another variable will be thrown in the mix to show to what degree age affects both spending habits and perception of the health of the economy (e.g. are younger individuals more pessimistic about the state of the economy, do older individuals have a higher propensity to save, etc). Theoretical OverviewA possible explanation regarding consumers and their optimism or pessimism towards the current state of the economy lies within the consumer confidence index (CCI) that is 1 Mankiw, N.G., & Taylor, M.P. (2006). Economics. London: Thomson Learning. Collins & Shinko 2 measured monthly in the United States. The survey, conducted by The Conference Board, consists of five questions that respondents comment upon as either “positive,” “negative,” or “neutral” – current business conditions, business conditions in the next six months, current employment conditions, employment conditions for the next six months, and total family income for the next six months. These results are tabulated in their absolute values and held against the “control” year of 1985 where CCI is designated a value of 100. Why are such questions significant? As a true example of the “perception versus reality” conundrum, retailers and manufacturers are able to use this information to make decisions about sales volumes and inventories. For example, a low CCI may reflect a consensus belief among consumers that employment and incomes will contract. This by and large increases consumers’ propensity to save, which translates to lower sales volumes for retailers and manufacturers. These companies may in turn decide to lessen production to meet the anticipated drop in demand, or to lay off workers and cut back on overhead costs in favor of stabilizing future capital investments. However, it is significant to note that the CCI reflects the beliefs of consumers regarding the current and future states of the economy. Simply stating a fluctuation in CCI lends no insight into how the factors that affect CCI will move absolutely; that is, a low CCI or a high CCI may not necessarily coincide with periods of economic recession or boom. Basic macro identities regarding the business cycle show that the economy of the United States follows a long-term growth trend. Fluctuations in the business cycle are typically measured using real GDP because it reflects an accurate picture of economic expansion and contraction. While these cycles may be unpredictable and economists often argue over policies regarding how to manage these cycles, it has been shown that when reduced to its most basic form the business cycle follows a step-like growth trend. Collins & Shinko 3 When the log function of real GDP is taken, graphs show that GDP tends to oscillate around the zero mark (identifiable with a constant rate of growth). In an extremely basic sense, this graph of GDP can be likened to scalar transformations of a sine curve, where every period of increase (expansion) is followed by a period of decrease (contraction), yet never strays in the long term from the origin. Collins & Shinko 4 Rational expectation theory can be used to justify this movement, which states that no part of the business cycle can persist perpetually because it would continue to create arbitrage opportunities. This thought defies basic economic theory, which states that the economy is always naturally converging to a point of equilibrium. While it is acceptable to assume that individual measurements may be extreme (note the large peaks and troughs in the graph above), rational expectation theory shows that the aggregate of all points of observation is typically in agreement with long-term trends. Literature OverviewConsumer spending habits vary with age due to a large number of factors. As recently as 2000, the US Department of Labor released a study2 about current consumer spending habits, stating that those aged 35-64 account for the largest chunk of overall consumer spending; nearly 64%. A summary of the study’s findings is displayed below. In ranking, those aged 35-64, under 35, and 65 and over share the largest to the smallest chunks of consumer spending respectively. The study found that those individuals under the age of 35 typically do not own homes, and thus their primary expenditures consist of rents, educational expenses, apparel, food, alcohol, and transportation costs. Those 65 and over reserve a great deal of spending towards health care costs and cash contributions (such as those made to individuals 2 U.S. Department of Labor, Bureau of Labor Statistics. (2000). Spending habits by age (Summary 00-16). Washington, DC: Government Printing Office. Retrieved from http://www.docstoc.com/docs/3391996/spendinghabits-by-age Collins & Shinko 5 or churches), as well as costs associated with utilities, public services, and fuel. The 35-64 age group contributed the largest amount to consumer spending, citing costs such as mortgage payments, personal insurance, and pensions. While this group spends more on average than the other two age groups, they tend to spread their income more evenly over expenditures. These findings are consistent with previous notions on consumer spending in the US. One of the issues that this survey attempts to answer is whether or not consumers surveyed would spend more, less, or the same amount in the coming months (Christmas included). For surveys regarding spending, the Christmas holiday is often used as a benchmark by which to measure because 1) it is an annual event, and 2) people – secular and non-secular reasoning included – will spend more money on average during this time of year than at any other time period during the year. A recent 2009 Gallup poll3 indicated that, compared to last year, it is forecasted that most Americans will be spending less money for Christmas than they did last year. The graph shown above displays a numerical result for about how much on average an individual will spend on Christmas this year. While the numbers are not necessarily important for the purposes of this paper, the trends are. Gallup polls indicated that this year’s outlook for Christmas spending is the lowest expected since 1991, the first Christmas season to follow the recession of 1990-1991. Economists cite the financial crisis of late 2008 as a major contributing factor as to why consumers may be hesitant to buy this year. 3 Saad, L. (2009, October 12). Christmas spending down from a year ago [Web log message]. Retrieved from http://www.gallup.com/poll/123608/christmas-spending-forecast-down-year-ago.aspx Collins & Shinko 6 However, one interesting finding of the Gallup poll showed an interesting trend. Survey respondents were asked to compare their anticipated Christmas spending this year to the year previous using statements such as “more” or “less.” The result is shown below. As shown in the graph, the percentage of those willing to spend less on Christmas this year is anticipated to climb significantly – almost twofold of last year’s numbers. This year marks the largest spread between those willing to spend more or less at Christmas than last year in the 18year span shown by Gallup. The relation between consumer spending habits and consumer confidence is clear; when consumer confidence is high (or low), consumers have a higher propensity to spend (or save). A recent report released by Rasmussen Reports4 has reflected a significant drop this year in consumer confidence related to the financial crisis. In the survey, respondents were asked to share some of their views about the current state of the economy, and the results are summarized below. • Today, eight percent (8%) of adults rate the economy as good or excellent. That’s down from 18% a year ago. Fifty-‐two percent (52%) rate the economy as poor, a figure that is similar to 12 months ago. 4 (2009, September 14). Consumer, investor confidence lower than year ago when lehman brothers collapsed. Retrieved from http://www.rasmussenreports.com/public_content/business/indexes/rasmussen_consumer_index2/consumer_investo r_confidence_lower_than_year_ago_when_lehman_brothers_collapsed Collins & Shinko 7 Among investors, just six percent (6%) rate the economy as good or excellent, down from 23% a year ago. • As for the overall economy, 31% say it’s getting better, but 46% say the opposite. That’s a big improvement from a year ago when just 17% said the economy was getting better and 64% said worse. • Thirty-‐one percent (31%) of adults rate their own finances as good or excellent. That’s down 11 points from a year ago. Forty-‐six percent (46%) of investors rate their finances as good or excellent, down 12 from September 14, 2008. What is significant to take away from these results is to note how consumers feel about the state of the economy. While the numbers show improvement from last year’s, people still in general feel that the economy is both performing poorly and not improving. MethodologyA survey consisting of forty economically related questions was administered to fiftynine anonymous survey respondents without regard to age, sex, political affiliation, location, employment status, or economic experience. A copy of the actual survey used can be found at the end of this report. Each respondent was contacted either by phone or in person to complete the survey and was asked to answer honestly and without having conducted prior research on economic related questions. All survey respondents were also asked about their spending habits and to comment on the current and future states of the US economy. These responses were collected into an Excel spreadsheet to be manipulated through statistical methods using SAS software. In addition, the same survey was administered to all students of Dr. Myers’ Fall 2009 Computer Skills for Economic Analysis class to complete on their own. All responses were collected into a separate Excel spreadsheet and combined with the data from the previous survey respondents to be manipulated through statistical methods using SAS software, with the augmentation of the “class” variable to identify which responses belonged to students of the class. The additional sixteen students combined to create a total of seventy-five survey respondents. Once compiled, the data was imported to SAS to compute the frequency of respondents that compared age to spending habits and perception of the health of the economy. These results can be found in the data section that follows. Data- Collins & Shinko 8 Data was compiled with excel and manipulated through SAS; these are the findings, noting both the frequency and percentage of total survey respondents for each response. Table 1: Age versus Perception of How the Economy Is Currently Performing 18-‐24 25-‐30 36-‐40 41-‐50 50-‐65 Total Not In a In a Slowly Growing Growing Contracting Recession Depression Total 20 6 11 8 3 48 26.27 8.00 14.67 10.67 4.00 64.00 5 2 5 3 1 16 6.67 2.67 6.67 4.00 1.33 21.33 1 0 0 0 0 1 1.33 0.00 0.00 0.00 0.00 1.33 0 0 0 0 1 1 0.00 0.00 0.00 0.00 1.33 1.33 1 0 0 7 1 9 1.33 0.00 0.00 9.33 1.33 12.00 27 8 16 18 6 75 36.00 10.67 21.33 24.00 8.00 100.00 Age groups were compared to the respondents' perception of the economy as it is right now. Those surveyed were asked to comment on the current state of the economy, answering with: growing, slowly growing, not growing, contracting, in a recession or in a depression. The plurality of respondents (27) answered that the economy is slowly growing, with the response in a recession coming in at 18, with contracting at a close 16. While the majority of 18-24 year olds and 25-30 year olds responded either slowly growing or contracting, those in the 50-65 age group responded heavily to the economy currently being in a recession. Table 2: Age versus Perception of How the Economy Will Perform in the Coming Year 18-‐24 25-‐30 36-‐40 41-‐50 Grow at a High Pace 6 8.00 2 2.67 0 0.00 0 0.00 Slowly Grow 30 40.00 5 6.67 1 1.33 0 0.00 No Growth 9 12.00 1 1.33 0 0.00 0 0.00 Contract In a Recession Total 2 1 48 2.67 1.33 64.00 6 2 16 8.00 2.67 21.33 0 0 1 0.00 0.00 1.33 0 1 1 0.00 1.33 1.33 Collins & Shinko 9 50-‐65 Total 0 0.00 8 10.67 2 2.67 38 50.67 2 2.67 12 16.00 1 1.33 9 12.00 4 5.33 8 10.67 9 12.00 75 100.00 To further understand the perception of the state of the economy, responders were asked to comment upon how they feel the economy will do in the next year. While an overwhelming majority of 18-24 year olds said the economy would slowly grow, the 25-30 year old group had a wider spread of data. While five responders still believed the economy would slowly grow, the plurality said the economy would contract. The 41-50 and 50-65 year old groups responded that the economy would still be in a recession. Table 3: Age versus Predictions about Spending Habits This Year in Comparison to Last Year 18-‐24 25-‐30 36-‐40 41-‐50 50-‐65 Total About the More Less Same Total 19 12 17 48 25.33 16.00 22.67 64.00 6 7 3 16 8.00 9.33 4.00 21.33 0 0 1 1 0.00 0.00 1.33 1.33 0 0 1 1 0.00 0.00 1.33 1.33 4 4 1 9 5.33 5.33 1.33 12.00 29 23 23 75 38.67 30.67 30.67 100.00 When age groups were tabulated in comparison to spending plans for the coming months, those surveyed who belonged to the extreme age groups were willing to spend more than those in the mid-age groupings. Those surveyed who fell in the 18-24, 25-30 and the 50-65 age group had many responders commenting that they planned to spend more than they had at this time last year. However, responders in the 36-40 and 41-50 had no respondents planning to spend more. Table 4: Age versus Plans on How to Spend Hypothetical $1,000 Given by Government 18-‐24 Save or Spend Invest 10 Pay Down Debt 24 Total 14 48 Collins & Shinko 10 25-‐30 36-‐40 41-‐50 50-‐65 Total 13.33 5 6.67 0 0.00 0 0.00 2 2.67 17 22.67 32.00 6 8.00 1 1.33 1 1.33 4 5.33 36 48.00 18.67 5 6.67 0 0.00 0 0.00 3 4.00 22 29.33 64.00 16 21.33 1 1.33 1 1.33 9 12.00 75 100.00 When age was compared to the survey responses given for "If the government gave you $1,000.00 would you: save it, spend it or pay down debt?" the plurality of each group responded that they would save or invest it. For most age groups, spending the money was the least popular response. ResultsAll of the data collected and shown in the tables in the previous section was manipulated with Excel to create bar graphs that show the frequency of each response in accordance with age. In the first graph, it is clear to see that a greater number of younger respondents (40 and under) believe that the economy is currently in a state of growth. However, in comparison to older respondents (41 and over), the responses show that there is a far greater percentage of individuals who believe that the economy is in a depression. Collins & Shinko 11 Which response is correct? According to the most current release of GDP at the time this survey was taken, GDP was contracting at a 0.7% annual rate. Since GDP is the most common indicator used to determine the state of the economy, it can be said that the state of the economy at this time was a period of contracting. In this resultant graph, a large discrepancy between highly negative and highly positive responses exists. While a multitude of reasons can be speculated upon (e.g., does political leaning affect this perception?), one must remember that the study of economics tends to combine elements from other sciences to reinforce certain concepts. For an explanation to this phenomenon, we turn to the study of psychology, which lends discussions on development; the adage that “along with age, comes experience” is universally true. If the 18-24 age group is considered, their year of birth can be traced back to between 1985 and 1991. These individuals spent the greater percentage of their childhood growing up during the “Clinton years,” when the economy experienced a long period of sustained growth. In addition, according to the previously discussed government report on spending habits, these are the people who often lack equity, have high quantities of debt, earn a lesser average income, and have a lower propensity to save in comparison with other age groups. This age group lacks not only experience with intrapersonal economic issues, but also with the economy as a whole. In contrast, those individuals in older age groups may feel less optimistic about the current state of the economy not only because they have lived through one or more recessions, but because their financial obligations are more so hinged on the activities of the economy (e.g., pensions being cut or dropped if a company goes under). When age and the perception of how the economy will perform were considered, the results show that the greater majority of persons under the age of 40 believe that the economy will grow at a high pace. However, among those over 40, the responses show a more varied Collins & Shinko 12 consensus that is not as optimistic; “slowly grow” and “in a recession” were popular responses. At the time that this survey was administered, the newest GDP report had not yet been released. However, this report can now be used to analyze the “future” state of the economy as referenced in context by the survey. According to the BEA, GDP grew at an annual rate of 3.5% during Q3 this year. While economists may differ on their opinions as whether to call this “high paced” or “slow” growth, for all intensive purposes of this report, a growth rate of 3.5% annually will be described as a moderate growth rate, or “slow” growth (i.e., a growth rate of 8.5% annually, for instance, would have been called for certain “high paced” growth). The individual perceptions in this case are not necessarily more optimistic than the reality, except among those aged 50-65 (where “in a recession” was the most common response). Again, referencing the government publication on spending habits from before, it can be assumed that the financial obligations of people in the age group – the closest to retirement, and those who are preparing to incur the highest health care costs of their lives – might be naturally pessimistic about the economy regardless of its absolute movement. When spending habits of this year in comparison to last year was considered as a survey question, it was important to remind respondents that the Christmas holiday would need to be included in their personal assessment. The most current Gallup poll indicates that a great majority of people will be spending significantly less on this year’s Christmas season than last year - this does not account for all of the spending that one person does in a year, but it has been a longstanding fact that retailers and manufacturers push more product this time of year than at any other single point in the year. According to the results of this study, there really are no agewide trends that appear. Among the youngest respondents, the greatest number of people plan to spend more this year (which contradicts the Gallup poll), but in the next-youngest age group the Collins & Shinko 13 majority of people plan to spend less. Among those aged 50-65, those planning to spend more or less this year are equivalent. Several factors can affect Christmas spending. The more people that a person has to buy for, the more thinly resources are spread. For those with a larger family (children, grandchildren, etc), this can be an added strain during rough economic times; families tend to get larger with age. Personal finances can also affect Christmas spending. Even though the youngest age group (18-24) has a lower average income than other age groups, they have a higher percentage of disposable income that is not tied up in mortgage payments, retirement, debt management, and other associated costs of running a household; in fact, it was discussed earlier that among the largest expenses of people in this age group, alcohol and apparel were included. Perception of the economy also affects Christmas spending in that rougher economic times increase one’s propensity to save rather than spend. Earlier, it was found that for this study younger people were more optimistic about the current and future states of the economy. According to this, then it would appear only natural that younger people are willing to spend more for the holidays than older people, who answered more pessimistically. When asked what their plans would be for a hypothetical $1,000 check from the government, the most common response was to “save or invest” the money. The next most popular answer was to “pay down debt” with the money given. This trend transcends all age groups, from young to old, showing that age bears little significance here. What are the greater implications of this result? While surveys are helpful in economics, there is one very common misunderstanding about the information gathered; economics is based not on what people say, but what people do. In the first two graphs, respondents were asked how they feel about the current and future state of the economy. Referring back to both of these Collins & Shinko 14 graphs, it can be said that the greater portion of all respondents were slightly optimistic about the economy. It has been shown time after time, however, in the study of consumer confidence, that people have a greater propensity to spend when they feel that the economy is doing well (real or perceived; today or tomorrow) and a greater propensity to save when they feel that the economy is doing poorly. While it has been recognized that survey respondents were not actually given $1,000 and thus their uses for it could not be studied, it stands that perhaps this is a better question to ask consumers about their feelings about the economy for the reasons discussed previously. The first two questions, if taken alone, paint a picture of the economy with a bit of a rosy hue; this question, when taken alone, shows that people have less faith in the health of the economy and will thusly act with more caution with their money. SummaryIn the data, the younger age group was more optimistic about the state of the economy and therefore was more willing to spend. Their consumer confidence was much higher than that of the older groups. This affected their spending habits. When younger people commented upon their plans for spending, they intended to spend more in the coming months. Because the economy was looking upward, they would spend more. When looking at the younger group's plans for $1,000.00, one can also see the optimism of the group. While they were not overwhelmingly willing to spend the $1,000.00, many surveyed responded to saving or investing that money. While this is not an overwhelming rush to stimulate the economy as spending would be, investment also helps the economy and saving, the monetary system. Respondents answered almost as strongly to spend the money as they did to pay down debt with this money. While many in this age group are incurring large amounts of debt through education and other life-starting expenses, this is to be expected regardless of the state of the economy. Most interesting, however, is that respondents wished to save or invest the funds if they were to be given. Older groups responded more negatively in their perception of the economy as it is and will be in the next year which affects their economic activity. As they expect the economy to continue to do poorly, their willingness to spend in the coming months and if given $1,000.00 is much less than those with a more optimistic standpoint. With their Consumer Confidence in the economy at a low level, their spending level will decrease.