Consumers close their wallets

Retail sales plunge a record 2.8 percent in October, suggesting a dismal outlook for holiday spending.

The consumer is in no mood to spend.

With only a few weeks to go before the holiday season officially kicks off, retailers are saying this is the worst consumer environment since World War II. Big box retailers are fighting for survival, department stores are preparing massive promotions, and some stores are asking manufacturers to take back their products even before Thanksgiving.

An unenthusiastic consumer has wide ramifications for the US economy because 70 percent of the nation's production of goods and services is oriented toward consumption. Economists are lowering their estimates for economic growth for this year, expecting a sharp contraction of at least 3 percent in the fourth quarter. By early December, some observers think the Federal Reserve will be forced to lower interest rates to below 1 percent for the first time since the Eisenhower administration.

"Horrific is the best word to describe what's going on out there," says Fred Dickson, chief investment strategist at D.A. Davidson & Co. in Lake Oswego, Ore.

Who can blame consumers for putting on their slippers and watching football games? The volatile stock market seems to have a black cloud over it. Home prices have yet to bottom out. Pink slips are proliferating. And, the credit card companies want payment even while the ink dries on your statement.

"Consumer confidence is beleaguered," says Bill Martin, CEO of ShopperTrak, a Chicago-based retail analysis firm. "There is no good news to look for anywhere. People are just squirreling away money."

The latest indication of tightly shut consumer wallets came Friday when the Commerce Department reported retail sales in October fell 2.8 percent, the biggest one-month drop since at least 1992 when the department changed the way it reports the numbers. This is the fourth consecutive month of lower retail sales, also a record. The decline was led by a 5.5 percent drop in auto sales as potential car buyers either could not get loans or just stayed away from showrooms.

"This is a bad precursor to the holiday season," says Bob Brusca of Fact and Opinion Economics, an economic analysis firm in New York. "You have to be worried about demand collapsing in October ahead of the holiday season when the bulk of retail activity occurs."

Bad news changing spending behavior

Even eliminating the problems of selling cars and the effect of lower gasoline prices, retail sales still fell 0.5 percent in October. "What we are worried about is a change in spending patterns," says Scott Brown, chief economist for Raymond James & Associates in St. Petersburg, Fla. "A lot of people are not that much affected by the job losses or changes in the economy but they are scared and are adjusting their spending."

Some adjustments are starting to show up in the way people are shopping, says Dennis Jacobe, chief economist at the Gallup, Inc. in Washington. In consumer surveys, Gallup is finding lower gasoline prices and the election of Sen. Barack Obama have made lower-and middle-income wage earners more optimistic. "But, that is offset to some degree by the jobs situation and the credit crunch for the average American," says Mr. Jacobe.

More important, Gallup's surveys are finding upper-income people to be more pessimistic, he says. "Partly, it's the continued deterioration of housing values and their stock market wealth. But, on top of that, the credit crunch hurts more because they borrow more."

Jacobe says higher-income individuals are now starting to shop in stores such as Wal-Mart. On Thursday, Wal-Mart reported a 7.5 increase in third-quarter sales and a 9.8 increase in profits. At the same time, other more-upscale retailers, such as Starbucks and Best Buy, have reported less impressive results.

Although the retailing downturn is national in scope, some areas of the country may be suffering more than others. In Phoenix, the situation is "beyond belief," says Dennis Hoffman, professor of economics at Arizona State University's W.P. Carey School of Business.

In Phoenix, he says, retail sales in October fell 10 percent compared with a year ago, pulled down by a 25 to 30 percent collapse in automobile sales. "Every sign says 40 percent off," he says. "What we need is a positive psychological shot."

Professor Hoffman says he is an example of how grim news affects consumers. "We were all set to do some home improvement at our place in northern Arizona and then I just seized up on it. The thought of spending $40,000 right now makes you feel uneasy."

Retailers plan for poor holiday sales

Davidson's Mr. Dickson, who travels extensively throughout the Pacific Northwest, has been asking customers who normally do early shopping if they have started yet. "Not only have they not done it but they don't plan on doing it," he says. "And I get no responses when I ask if people plan on making any significant purchases."

Unless psychology changes, retail analysts expect the worst holiday sales period in decades. The International Council of Shopping Centers is now looking for a 1 percent increase in sales, down from an earlier forecast of a 1.7 percent increase.

"Stores will keep inventories tight, try to get merchandise out early, and offer deep discounts across the board," says Erin Hershkowitz, a spokeswoman for the business group.

All is not bleak, however. One beneficiary of the souring retail climate is Liquidity Services, Inc., based in Washington, D.C. Retailers and manufacturers sell their excess inventory to the company, which then resells it to some 1 million small businesses through its website www.liquidation.com.

CEO Bill Angrick says the company's six warehouses are now filling up with items such as Kenneth Cole shoes, Coach bags, Liz Claiborne apparel, and Samsung flat-screen TVs.

"Maybe a year ago, retailers would have been willing to muddle through this but in this era, they are slashing their positions and moving aggressively even before we have gotten to Thanksgiving," says Mr. Angrick. "For some it's no longer a matter of improving their return on investments, it's a matter of survival."