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Spending Boost? Tax Inflows Show Income Gains

December 07, 2011, 7:02 PM EST By Bob Willis

(Updates markets in sixth paragraph.)

Dec. 7 (Bloomberg) -- Rising tax receipts show household incomes in the U.S. are growing faster than currently estimated, and by enough to sustain consumer spending, according to economists like Joe LaVorgna.

Tax revenue from employee pay was up 4.8 percent in the third quarter from a year earlier after adjusting for changes in withholding rates over the past few years, said LaVorgna, who is the chief U.S. economist at Deutsche Bank Securities Inc. in New York. By contrast, the Commerce Department’s figures show wages and salaries climbed 2.9 percent over the same period.

Taxes more accurately reflect the state of the job market because they are not subject to revision and workers don’t pay the Internal Revenue Service on “phantom” wages, LaVorgna said in a note to clients yesterday. The revenue numbers also mean the latest readings on savings are too low, eliminating another obstacle to a pickup in household purchases, he said.

“People say consumer spending can’t be sustained because the savings rate is falling, but they have it wrong,” LaVorgna, a former economist at the Federal Reserve Bank of New York, said in an interview yesterday. “Since we know income is understated, by default the savings rate is understated. The consumer is going to stay sustainably stronger than what I think the consensus believes.”

The savings rate was 3.5 percent in October compared with 5.3 percent a year earlier, according to figures from the Commerce Department. It sank to an almost four-year low 3.3 percent in September.

Shares Drop

Stocks were little changed today, erasing earlier declines, as retailers and financial companies rallied and European officials weighed measures to ease the debt crisis ahead of a summit this week. The Standard & Poor’s 500 dropped 0.1 percent to 1,256.75 at 1:11 p.m. in New York.

German industrial production rose more than economists forecast in October as factories weathered the debt turmoil that hurt output in other countries across the region and threatens to trigger a recession. Production climbed 0.8 percent from September, when it dropped 2.8 percent, the Economy Ministry in Berlin said today. Separate reports showed industrial output declined in the U.K., Italy and Norway.

China’s Commerce Ministry said today that rising costs and a slowdown in overseas demand may put “severe” pressure on its exports next year. Higher wages, along with a jump in land and raw-materials prices and a stronger yuan are restraining shipments, the Commerce Ministry said. While China can achieve export gains as long as Europe’s crisis doesn’t deepen, it will need to focus on strengthening links with emerging markets, Wang Shouwen, head of the foreign trade department, said at a briefing in Beijing.

Payroll Revisions

Revisions to the monthly U.S. payroll counts are another sign the American job market is stronger than the initial data suggest, LaVorgna said. In the five months to October, payrolls have been revised up by an average 49,000 a month from their initial readings, he said.

Additionally, a divergence between the two surveys conducted by the Labor Department to calculate the jobless rate and payrolls indicates employment may be stronger, LaVorgna said. Figures from the survey of households show the economy has created 1.28 million jobs in the past four months, more than twice the 534,000 registered in the separate count of employers.

His calculations show that as of the third quarter, the level of wages and salaries is understated by almost $125 billion, a “substantial” difference, LaVorgna wrote in the research note. Over an entire year, that is “worth nearly two percentage points on the saving rate,” he said.

Finding Income

“It’s clear that consumers have dug into their savings to finance consumption, but I don’t think they’ve dug as deep as the data suggest,” said Ryan Sweet, a senior economist at Moody’s Analytics Inc. in West Chester, Pennsylvania. “Typically, when the numbers get revised, the government finds more income than has been reported. Down the road, I think we’ll look back and find households had more income than we think they do now.”

Consumer spending grew at a 2.3 percent rate in the third quarter after increasing at a 0.7 percent pace in the prior period and 2.1 percent in the first three months of the year, according to data from the Commerce Department.

Since then, reports indicate the gains are continuing this quarter. Retail sales in October rose 0.5 percent after a 1.1 percent increase the prior month that was the best reading since February, the Commerce Department said on Nov. 15.

Retail Sales

Purchases at Saks Inc., the luxury department store based in New York, increased 9.3 percent in November from the same month last year, exceeding the estimate of 5.9 percent, the company said in a statement Dec. 1.

“What you saw on Black Friday is people were excited early,” Steve Sadove, chief executive officer of Saks, said in a Bloomberg Television interview, referring to the day after the Thanksgiving holiday, which traditionally kicks off the holiday spending period.

Auto sales rose to a 13.6 million unit annual pace in November, up from a 13.2 million rate the prior month and the highest level since August 2009, according to industry data.

Taking into account the better-than-forecast sales figures, the economy is growing at about a 3 percent annual rate this quarter from a previously projected 2.5 percent pace, according to a forecast by Michael Feroli, chief U.S. economist at JPMorgan Chase & Co. in New York. Gross domestic product rose at a 2 percent rate last quarter.

--Editors: Carlos Torres, Vince Golle

To contact the reporter on this story: Bob Willis in Washington at bwillis@bloomberg.net

To contact the editor responsible for this story: Christopher Wellisz at cwellisz@bloomberg.net

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Variable Annuities: Lifelong Income, High Cost

By Margaret Collins

People worried about losing their retirement savings in the stock market are seeking safety in variable annuities that promise lifelong income. U.S. insurers' sales of variable annuities jumped 24 percent in the first quarter, led by policies that offer guaranteed minimum payments. Moshe Milevsky, finance professor at the Schulich School of Business at York University in Toronto says the products appeal to investors who "fear that the S&P at 1,300 is a mirage and it's going to go back to 700 for the rest of our lives."

Sales of variable annuities in the U.S. climbed to $39.8 billion in the first quarter, from $32.2 billion the year before, according to trade group Limra. Investors withdrew $50 billion from U.S. stock mutual funds in the 12 months through April, according to Morningstar (MORN).

With variable annuities, customers can save for retirement with investments such as stock and bond funds, and their money grows tax-deferred until they withdraw it. For MetLife (MET) and Prudential Financial (PRU), the top two U.S. life insurers, the hottest product this year also offers a guarantee of income for life, even if a customer's account balance falls because of market declines. About 96 percent of Prudential's record $6.8 billion in sales of variable annuities in the first quarter included riders guaranteeing lifetime income. At MetLife, 80 percent of the $5.7 billion of products sold in the quarter carried a guaranteed benefit.

The protection comes at a cost. The annual fee for the guaranteed income rider averages about 1.03 percent of the assets in the account, according to Morningstar. That's on top of the regular annuity fees, which average about 2.51 percent. The high fees mean that "the upside potential" in these contracts is "fairly limited," says Kenneth Masters, director of life insurance design and development for Pinnacle Financial Group.

The contracts also come with so many conditions and limitations that it's difficult for consumers to understand them, and terms vary by insurer. "Say you wanted to compare five products side by side," says Tom Idzorek, global chief investment officer for Morningstar Investment Management. "Good luck."

Here's how a Prudential offering works: A customer buys a variable annuity and picks investments such as stock and bond funds offered in the contract. When the owner decides to start taking out money, his or her annual income is based on the highest value the account ever reaches, increasing at a 5 percent annual rate until withdrawals begin. That amount "is not available to cash in," says Jac Herschler, head of business strategy for Prudential's annuity division. "It's only the basis for determining what they can withdraw from their accounts every year." The limit on withdrawals for someone 59? to 84 years old who wants to get the same amount of income annually is 5 percent.

New York Life is launching a competitive product in July that it claims is simpler, called a deferred income annuity. You pay now and select a date in the future when you want to start receiving payouts. For example, a male who buys a deferred income annuity for $100,000 at age 65 can get $17,805 a year for life starting at age 75.

An even less complicated approach is an immediate annuity. Buying one through Vanguard, a man can pay $100,000 at age 65 and get as much as $7,514 a year for as long as he lives. A drawback with immediate annuities is that buyers are turning their money over to the insurer—and generally no longer have access to it, as they would with a variable annuity. Even so, "an immediate annuity is the simplest way to get an income that you cannot outlive," says Glenn Daily, an insurance consultant in New York. "Easy to understand and easy to compare policies. No need to manage anything or make any other decisions after you buy it."

The bottom line: While lifetime income guarantees on variable annuities offer protection against investment losses, they are complicated and expensive.

Collins is a reporter for Bloomberg News.

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