Retail sales grew at a blistering pace in January

It’s strange to see a consumer-buying binge after a weak holiday shopping season, but that appears to be what happened. Retail sales grew at a blistering pace in January, increasing by 3.0% for the month — accounting for nearly half the 6.4% gain over the comparable period a year ago.

A sharp increase in car sales led the way, gaining 6.4% for the month. That was a particularly notable gain given the weak results over much of the last year. Auto dealers had been plagued by a lack of inventory but have also felt the sting of rising interest rates. That changed in dramatic fashion last month. Beyond the sharp rebound in auto sales, other retailers cashed in with solid gains for the month.

Restaurants and bars saw a brisk 7.2% increase in sales as Americans continue to return from their COVID-19 isolation and social distancing mindset. Increased traffic wasn’t the sole contributor though, as restaurants continue to raise prices at a rapid clip in response to the double-whammy of surging food costs and wage pressures. Restaurant sales rose by more than 25% over the past year — a significant bounce back for an industry that was severely negatively impacted by the social-distancing measures and operational limitations imposed since March 2020.

Other winners included “bigger ticket” retailers, including furniture and electronics stores. Even department stores, which have struggled in recent years given changing consumer spending habits, experienced an unexpectedly strong 17.5% monthly surge.

What does this mean for the economy? Many leading indicators still point to significant recession risk, but a host of January data points suggest that a downturn is still not imminent. Consumer sentiment remains subdued but has improved modestly as inflation appears to be slowly retreating. The strength of the labor market and the stockpile of pandemic-era cash that built up has provided enough fuel to lift real consumer spending despite the headwind created by higher prices.

January’s robust retail gains may provide a sense of relief about the near-term economic outlook, but that strength is unlikely to be sustained for long. Some of the increase is likely a makeup for weaker results late last year, and trend growth continues to be more restrained than last month’s gain alone would suggest.

What will this mean for the Fed? There’s a “good news is bad news” dynamic to the surprising resilience of recent economic data. Inflation remains the central concern for policymakers — one that they seek to conquer at virtually any cost. Having learned from the mistakes made in the 1970s, the Fed will not take the current threat lightly and appear committed to raise rates further and hold them higher for longer than many anticipate, even if that means choking off growth.

Upward revisions to consumer price index data should dampen enthusiasm about the progress made in bringing inflation back to a palatable range, while most government labor market data suggest progress in creating some slack has been limited at best. Layoff announcements have risen but have yet to meaningfully move the needle on either jobless claims or net payroll growth. Unemployment remains at a half-century low.

In short, there’s more monetary tightening to be done before the Fed will consider pausing. The growing question is whether the Fed will see recent data as evidence that additional rate increases will be needed beyond the two quarter-point hikes that have been anticipated in the coming months. If inflation remains sticky and the jobs market remains tight, the Fed’s terminal rate may be higher than either the futures market — or the central bank’s own forecasts — currently suggest.

The bottom line? January’s strong retail numbers are the most recent in a string of data that suggests that the economy should continue to expand in the near term. That also means that the Fed is likely to go even further to tighten conditions to achieve its policy goals. Recession risk may be deferred, but it certainly hasn’t dissipated.

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