Improved Inflation Views Lift US Sentiment to Highest Since 2021

US consumers rang in the new year with a good dose of optimism about the economy, their incomes and the inflation outlook, driving a gauge of confidence to a more than two-year high.

The University of Michigan’s consumer sentiment index rose 9.1 points, the biggest monthly advance since 2005, to 78.8. The preliminary January reading stands at the highest level since July 2021, far surpassing the most optimistic estimate in a Bloomberg survey of economists.

Combined with a drop in year-ahead inflation expectations to the lowest level since the end of 2020, the spike in confidence has the potential to sustain demand and keep the economy on its expansion path. More sanguine views about inflation may also reassure Federal Reserve officials as they consider when to begin lowering interest rates.

“With confidence rebounding and inflation expectations falling, this is another sign that the economy is on track for a soft landing,” Andrew Hunter, deputy chief US economist at Capital Economics, said in a note.

The consumer sentiment survey showed the pickup in optimism was broad, with improvements across age, income and political affiliation. More than half of households expect their incomes to grow at least as fast as inflation, the highest share since mid-2021.

Consumers expect prices will climb at an annual rate of 2.9% over the next year, down from the 3.1% expected a month earlier, the Friday data showed. They see costs rising 2.8% over the next five to 10 years, a four-month low.

“Improvements in inflation expectations have been supported by perceptions of easing price pressures in buying conditions for both durable goods and vehicles,” Joanne Hsu, director of the survey, said in a statement, adding that consumers increasingly expect the Fed to lower rates this year.

That’s “consistent with the belief that inflation will not accelerate in the near future,” Hsu said.

Meanwhile, stock market expectations were the strongest in more than two years, the report showed.

Consumers’ perception of their current financial situation rose to a two-year high, while expectations for future finances climbed to the highest since 2021. Buying conditions for durable goods rose to a nearly three-year high.

More respondents also reported hearing considerably more favorable economic news. Sentiment readings for both Democrat and Republican respondents in the University of Michigan survey showed their most favorable readings since 2021. Dissatisfaction with inflation and the broader economy has weighed on President Joe Biden’s approval ratings.

Meanwhile, separate figures from the National Association of Realtors showed sales of previously owned homes fell in December, wrapping up the worst year for the resale market in nearly three decades. However, the NAR noted that activity is picking up as rates settle back.

“The latest month’s sales look to be the bottom before inevitably turning higher in the new year,” said NAR Chief Economist Lawrence Yun. “Mortgage rates are meaningfully lower compared to just two months ago, and more inventory is expected to appear on the market in upcoming months.”

The University of Michigan’s report showed the share of respondents who had a favorable view of home-buying conditions rose by the most in two years.

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