Real Retail Sales and the K-Shape: Assessing Consumer Resilience in a Lagging Cycle

The headline numbers for November retail sales paint a picture of resilience. Sales rose 0.6% month-over-month, rebounding from a revised drop in October and beating the forecast. This strength, driven by a rebound in motor vehicle purchases and spending elsewhere, pointed to solid economic growth in the fourth quarter. Yet the report's delayed release-a month-long hold caused by the historic government shutdown-diminished its immediate market impact and obscured the more telling story beneath the surface.

That deeper story is one of a stark divergence between nominal and real spending. The official figures are not adjusted for inflation, which means they capture price increases as growth. When we strip out inflation, the picture shifts dramatically. Recent data shows that while nominal sales climbed, real retail sales were down -0.15% month-over-month despite a 1.20% annual gain. This is the initial evidence of a K-shaped split in consumer behavior, where headline strength masks underlying real weakness.

The context is critical. The report's delay meant the market didn't see this mixed signal until now, allowing the narrative of broad-based spending strength to persist. In reality, the data reveals a consumer base under pressure. As the Bank of America Securities noted, the gap between higher- and lower-income spending growth was substantial and persistent through the quarter. The nominal rebound likely reflects the spending power of wealthier households, while the real decline points to the squeeze on lower- and middle-income consumers struggling with the cost of living. This is the structural divide that defines the current cycle.

The K-Shape Divide: Higher vs. Lower Income Spending

The data reveals a clear and growing rift in consumer behavior. While headline sales are up, the strength is concentrated among higher-income households, while lower-income consumers are under severe strain. This divergence is not a minor statistical quirk; it is the defining feature of the current economic setup and a direct response to the rise in the cost of living. The most telling evidence is in food prices, which increased by the most in over three years in December. For budget-conscious families, this is a direct hit to disposable income, forcing difficult trade-offs that pull back on discretionary purchases.

This gap is quantified by Bank of America Securities, which found that its Consumer Prism showed "the gap between higher- and lower-income spending growth was substantial and persistent through the fourth quarter." The firm notes this K-shaped split began in late 2024 and widened throughout the year, with the divergence being more pronounced in discretionary categories. In other words, wealthier households are continuing to spend, while the squeeze on lower- and middle-income groups is real and deepening.

This creates a fragile foundation for the economy's growth trajectory. The Atlanta Fed's GDPNow model is currently forecasting that GDP increased at a 5.1% rate in the fourth quarter. That robust projection is heavily reliant on consumer spending, which in turn is now being propped up by a narrow segment of the population. The sustainability of this growth path is therefore questionable. If the cost-of-living pressures persist or intensify, the spending power of the wealthier cohort may not be enough to offset a broader pullback. The current model assumes continued strength from a shrinking base of consumers, making the outlook vulnerable to any shock that further strains household budgets.

Business Cycle Context: Lagging Indicators and Leading Signals

The retail sales data must be weighed against the broader tapestry of economic signals to assess the cycle's true direction. On one side, we have the lagging strength of real retail sales, which is one of the four key indicators the NBER Business Cycle Dating Committee relies on heavily in its recession calls. Real retail sales were down -0.15% month-over-month in September, a clear sign of underlying consumer strain. Yet, this is the same data that, in its nominal form, showed a rebound. This divergence highlights the committee's challenge: it looks for sustained weakness across multiple coincident indicators, not just a single month's noise.

On the other side, the leading indicators are flashing a more cautionary signal. The Conference Board's Leading Economic Index (LEI) declined again in September, marking a second consecutive drop. More critically, its six-month growth rate has fallen below the -4.3% threshold, a level historically associated with a heightened risk of recession. The index's contraction was driven by weakening expectations from consumers and businesses, suggesting the momentum seen in November's nominal sales may not be durable.

Adding to this mix is a subtle shift in producer price pressures. The core PPI rose just 0.2% in November, below expectations and suggesting easing inflationary pressure at the wholesale level. This easing could provide some relief to consumer budgets in the future, but it does not alter the immediate picture of a consumer base under strain. The soft PPI reading contrasts with the persistent strength in nominal retail sales, further muddying the waters.

The bottom line is a conflict between lagging strength and leading weakness. Real retail sales, a lagging indicator, show a consumer under pressure, while the LEI, a leading indicator, signals slowing activity ahead. The slight easing in producer prices is a neutral factor. This creates a fragile setup where the economy appears to be holding together in the present, but the forward-looking signals point to a potential slowdown. The current path is one of lagging resilience giving way to leading fragility.

Catalysts and Risks: The Sustainability Test

The forward path for consumer spending-and by extension, the broader economic cycle-now hinges on a few critical catalysts and risks. The current K-shaped resilience is a fragile equilibrium, and its sustainability will be tested by the trajectory of key indicators and the widening gap between income groups.

First, investors must monitor the other lagging indicators that the NBER committee weighs heavily. While real retail sales have been under pressure, the committee's full assessment requires a look at nonfarm employment and real personal income (excluding transfer receipts). Any sign of labor market softening or a sustained drop in real disposable income would confirm the strain on lower- and middle-income households is spreading. This would directly challenge the foundation of the Atlanta Fed's robust GDP forecast, which assumes continued strength from a narrow consumer base.

Second, the warning signal from leading indicators is already flashing. The Conference Board's Leading Economic Index has now declined for two consecutive months, with its six-month growth rate falling below the -4.3% threshold historically linked to recession risk. This index points to slowing activity ahead, driven by weakening expectations. A further deterioration here would validate the fragility of the current setup and suggest the nominal sales rebound may be an isolated event rather than the start of a durable expansion.

The paramount risk, however, is a widening of the income gap. The Bank of America analysis shows the divergence between higher- and lower-income spending growth was substantial and persistent through the fourth quarter. If the cost-of-living pressures that are forcing trade-offs on lower-income families intensify, their spending could falter further. This would break the current K-shaped split, pulling down the entire consumer sector and making the consumer-driven GDP growth forecast vulnerable. The current model assumes the wealthy can keep spending, but history shows that broad-based growth requires a more inclusive expansion of purchasing power.

The bottom line is that the sustainability of this resilience is not guaranteed. It depends on whether real income holds, whether leading signals stabilize, and whether the income divide remains contained. For now, the setup is one of lagging strength masking leading weakness, with a widening gap as the key vulnerability.