Personal Income Growth

Despite the point that the first data reported in the monthly personal income report is nominal personal income, it does not get much attention in the press and by bloggers. We
are starting to see a rebound in nominal personal income growth even though it is still quite low by historic norms. The current smoothed growth rate is 2.8% and the earlier signs that growth is accelerating have faded. This is why it is important to monitor the growth in weekly average earnings in the employment report.

The way to look at nominal income growth is that it is a necessary condition but not a sufficient condition for economic growth to become self-sustaining. Moreover, this cycle, for the first time in the post WW II era nominal growth must be sufficient to accommodate both inflation and rising personal savings before real income growth can strengthen. In previous cycles rising personal savings was not a major factor dampening growth and/or creating a wedge between nominal income growth and real personal spending..

But if nominal income growth does continue to improve — a heroic assumption — it would raise serious questions about fed policy. As the chart below shows, personal income growth is an important leading-concurrent indicator of fed policy. Rising personal income growth implies that the fed would not need to continue pumping additional liquidity into the system
and call into question the need for QE 2 that the consensus now seems to be expecting and
the stock market appears to be discounting.

Moreover, personal income growth is one of the best leading indicators of the S&P 500 PE. It actually has a stronger correlation with the market PE than bond yields. Moreover, it is even better at forecasting the market PE three months into the future than it is at explaining the current PE.

PS. the PE in the chart is not updated for September.