Consumers Curb Spending As Payroll Tax Takes Effect

What's Next In Payments®
3:59 PM EST January 14th, 2013

If your paycheck seemed a little lighter last week, you’re not alone.

American workers all across the country have begun to feel the effects of the payroll tax cut’s expiration, eliminating a 2 percent reduction in Social Security funding put in place two years ago to help a struggling economy.

According to the Tax Policy Center, the tax cut will affect around 160 million workers, and will cost the average worker $700, as Reuters reported.

The new payroll tax rate sits at 6.2 percent, and many feel it could stunt an economy still attempting to crawl its way out of a recession. Some economist estimates place the collective household tax burden at $125 billion, which could serve to slow consumer spending: especially early in the year.

“The headwind to growth should be noticeable,” said Michael Feroli, an economist with JPMorgan speaking on the tax hike’s effect on the economy.

Also of note is an income tax increase for the nation’s wealthy, affecting households that make more than $450,000 a year and individuals who make more than $400,00.

Feroli said that, taken together, the tax increases could end up subtracting a full percentage point from economic growth, which was projected at a meager 2 percent to begin with.

Various economic industries will no doubt be affected, but three consumers interviewed in the Reuters piece offered interesting insight as to where people plan to cut back in 2013. One respondent, predicting a loss of around $30 a week, said he’d spend less at restaurants. Another claimed she’d lose $1,000 this year, and said she wouldn’t upgrade her phone or go to as many concerts. And a third claimed her paychecks would only decrease by around $10 a week, but that the hit to her husband’s income would be much more severe. As a result, she said her family may cut cable channels and babysitting costs, as well as alter vacation plans.

While the adjustments cited may fall short of classifying as hardships, if hundreds of millions of Americans take similar steps to curtail spending, the effect on the economy becomes clear.

Sven Jari Stehn, an economist with Goldman Sachs, predicted the drop off would be especially noticeable early in the year as Americans recover from holiday spending sprees. According to Stein, consumer spending – which drives two thirds of the economy – may only grow at a 1 percent annual rate in the first quarter, and at just a 1.5 percent rate in the second.

To read more about the payroll tax increase and how it could affect the economy, read Reuters’ full breakdown here.

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