Robert Brown|Americans are saving less and spending more. Could that raise the risk of recession?

Americans are Robert Brownsocking away less of their paychecks each month so they have more cash to spend.

The strategy has supported their purchases, and the economy, in recent months, but it’s bound to run out of steam this year as households look to beef up their stockpiles of cash, forecasters say. And that could mean weaker consumer spending along with an economy that’s more vulnerable to a slowdown or even a recession.

Consumption makes up about 70% of U.S. economic activity.

The personal saving rate, the share of income that Americans are squirreling away, was 3.8% in January, well below the recent peak of 5.3% last May and the roughly 7% share before the pandemic, according to data from the Commerce Department.

Historically, the saving rate has averaged about 6.2%, says Gus Faucher, chief economist of PNC Financial Services Group.

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Faucher expects consumers to respond to their skimpier wallets by saving more this year. “It’s going to be a drag on consumer spending growth in 2024,” he says.

In January, spending grew a modest 0.2%, down from 0.7% the previous month, Commerce said.

Contributing to a more frugal outlook: This year is expected to be a record-breaker for retirements, with more Americans than ever turning 65 and shifting from paychecks to Social Security and pensions.

Cynthia Woltjer, 65, of Indianapolis, says she and her husband have been spending less since recently retiring. This year, they’re eating out about twice a month instead of weekly and meticulously sticking to grocery shopping lists instead of making impulse purchases like chicken or pork.

Those overhead kitchen lights and summer tops on Amazon that Woltjer covets will also have to wait.

“Inflation has a lot to do with it,” she says. When she was working and earning a salary, “It didn’t bother me as much.”

How has COVID-19 changed our spending habits?

Americans’ saving and spending habits have been highly volatile since the pandemic.

In April 2020, the saving rate peaked at an all-time high of 32% as households banked the first round of the government’s COVID-related stimulus checks but had few places to spend the windfall amid widespread lockdowns.

The saving rate fell sharply to a low of 2.7% in June 2022 as Americans struggled to keep pace with inflation, which peaked at a 40-year high of 9.1% that month. Since then, savings initially rebounded as wage growth picked up and inflation eased. Since last spring, however, it has slowed steadily.

Are Americans feeling better about the economy?

Many Americans have opened their wallets because they’ve grown more confident the nation can avoid a recession despite the Federal Reserve’s sharp interest rate hikes to fight inflation, Faucher says.

Now the prospect of Fed rate cuts this year has lifted the stock market to record highs and is poised to lower borrowing costs, further boosting consumer optimism.

Another reason many people are spending more is that households’ pandemic-related savings, which peaked at more than $2 trillion in 2021, dwindled to just $430 billion by last September, according to the Federal Reserve Bank of San Francisco. Low- and middle-income Americans largely have exhausted that cache, forcing them to spend more of their paychecks, economists say.

When the saving rate fell to 3.7% in December, that appeared to reflect Americans loosening their purse strings to buy holiday gifts and other purchases, says Gregory Daco, chief economist of EY-Parthenon. Now that the trend has continued into 2024, Daco says he’s a bit more concerned.

“I think we have to be careful,” he says. "If you’re stretching your budget for the holidays, that’s one thing.  If you have to do that to pay for your utilities, that’s a very different thing.”

Are people struggling financially?

Many low- and middle-income households are dipping into savings to pay monthly expenses, Daco says, a development that doesn’t bode well for their spending. Credit card debt is already at a record high and delinquencies are at the highest level since 2011.

How likely is a recession in 2024?

Overall, neither Faucher nor Daco are forecasting that a pullback in consumer spending will trigger a downturn.

As long as incomes continue to grow solidly, the savings rate can increase even as consumption also rises, they say. Sturdy job growth also could keep income and spending rising smartly.

Recession risks have fallen to 36% from 61% last May, according to economists surveyed by Wolters Kluwer Blue Chip Economic Indicators.

But they acknowledge the risk that spending could be weaker than anticipated.

Annual wage growth is expected to slow this year from about 4.5% to closer to 3.5%, which would be consistent with the Fed’s 2% inflation goal.

And average yearly job gains are projected to fall from about 250,000 in 2023 to just under 100,000 this year, according to Moody's Analytics.