Bank of Korea: "U.S. Consumption Relies on Stock Prices and High-Income Households... Sharp Downturn Risk if Market Shocks Occur"

Bank of Korea Report: Assessing Recent Vulnerabilities in U.S. Consumption

As some predict a potential correction in the U.S. stock market this year, an analysis suggests that if stock prices fall by around 10%, the annual growth rate of U.S. consumer spending could decrease by 0.3 percentage points. If prices plummet by more than 30%, the decline could reach 1.7 percentage points, indicating a greater impact as the drop intensifies. Notably, as the current U.S. consumption structure relies heavily on high-income household spending, there is a heightened risk of a sharp economic downturn if a shock occurs.

The Bank of Korea presented this assessment in its report, "Recent Vulnerabilities in U.S. Consumption," published on January 16. The report was authored by Jeong Heewan, Head of the U.S.-Europe Economic Team, along with researchers Lee Seungmin, Lee Nayoung, and Team Leader Kwak Beopjun.

According to the report, U.S. personal consumption is expected to continue a modest growth trend of around 2% this year. However, there are latent risks, including: ▲ weakened household purchasing power due to high inflation and deteriorating employment ▲ economic polarization by income group.

Examining the economic situation by income group, high-income households have accumulated excess liquidity since the COVID-19 pandemic and have recently benefited most from the stock market boom, thus driving consumption. The top 20% of earners hold 87% of household-owned stocks, resulting in a concentration of spending power. In contrast, low-income households have faced relatively high prices and greater debt-servicing burdens, leading to rising delinquency rates and a deterioration in their financial situation, which has reduced their spending capacity. Essential goods, which account for a higher share of low-income household consumption, have seen cumulative inflation approach 5% since 2024, and their interest burden has increased by 2.2 times compared to 2021, outpacing the 1.7 times increase seen among high-income households.

The report highlighted that this economic polarization is a key potential vulnerability, as it could trigger a sharp decline in consumption if a shock occurs. It is estimated that the wealth effect from last year's stock market gains increased consumption by 0.4%. In this context, a sudden stock market correction could reverse the increased spending by high-income households, accelerating consumption contraction. High-income households also have a higher share of spending on durable and luxury goods, which makes their consumption more volatile.

Analysis of historical data shows that a 10% drop in stock prices leads to a 0.3 percentage point decrease in consumption growth, while a fall of more than 30% results in a 1.7 percentage point drop. During periods of sharp stock declines, such as the dot-com bubble, the impact on consumption was about three times greater than usual. Lead author Jeong noted, "While strong employment and housing markets helped absorb shocks during the dot-com bubble collapse, today, with high inflation, both the housing market and employment are slowing, so households have limited capacity to cushion shocks."

Weakened household purchasing power is another downside risk. Real household purchasing power has already slowed due to weaker employment and rising prices. The average monthly increase in employment last year was 49,000, a significant slowdown compared to 168,000 the previous year. The inflation rate rose from 2.3% in April to 3.0% in September last year due to tariff hikes. As a result, real disposable income increased by only 1.8% year-on-year from January to September last year, below the historical average of 2.4%.

While household purchasing power is expected to continue growing, albeit modestly, there are variables. On the employment side, risks include statistical overestimation, advances in artificial intelligence (AI) technology, and stricter immigration restrictions. On the inflation side, the pass-through of tariffs to prices and rising demand pressures have increased the likelihood that high inflation will persist longer than expected.

Although the consumer sentiment index has recently declined rapidly, the research team judged that this is unlikely to translate into an actual slowdown in consumption going forward. This is because the recent decline in sentiment is largely attributable to purely psychological factors, such as policy uncertainty, rather than actual household consumption conditions. Historical data show that pure sentiment shocks, which are distinct from economic fundamentals, may affect consumer confidence but do not have a significant impact on actual consumption.

Jeong concluded, "Taken together, while there is little chance that weaker sentiment will lead to an actual slowdown in U.S. personal consumption this year, there are still risks that household purchasing power could be undermined. With consumption also relying heavily on volatile stock prices and high-income household spending, the risk of a sharp economic downturn in the event of a shock has increased. Our economy, too, is highly influenced by U.S. AI investment and household demand, so it is important to monitor these developments closely."