US: Interest rate increases affect consumer spending – Goldman Sachs

Daan Struyven, Research Analyst at Goldman Sachs, suggests that interest rate increases affect consumer spending through two channels: a negative substitution channel (as higher rates incentivize households to save) and a positive income channel (as higher rates result in more interest income).

Key Quotes

“Most studies find that substitution lowers consumer spending (temporarily) by around 0.4% for every 100bp increase in interest rates. Households see a positive income effect from higher rates, but the gains are limited by household borrowings (the rates on liabilities also increase) and slow pass-through from market rates to effective asset yields.”

“Altogether, we estimate a total impact on consumer spending of -0.25% per 100bp increase in the federal funds rate, as a negative 0.4% substitution effect outweighs a positive 0.15% income effect. These figures are similar to simulation results from the Fed’s FRB/US model.”