Prime Day: What Amazon's discounts say about inflation

Shoppers spent an estimated $12.7 billion over Amazon's two-day Prime Day, an event that has become a rough gauge of how American consumers are holding up and what retailers can charge. On the surface, demand looks healthy. Look closer and almost all of it was bought with steep discounts and deferred payment plans.

A sale that became a barometer

Prime Day began in 2015 as a promotion to sign up members for Amazon's subscription service. It has since grown into a summer shopping season that rival retailers match with their own sales, and the estimate, which comes from Adobe's tracking of online spending across American retailers, captures much of that wider activity. That makes it more useful as a reading on consumers than as a measure of Amazon's own fortunes. What sold, and at what price, says a good deal about where household budgets stand.

The pattern this year was familiar. Buyers went for household staples, electronics and small appliances at heavy discounts, and stocked up on items they would have bought anyway. That is rational behaviour for households whose real incomes were squeezed by inflation for most of the past two years. It is also the behaviour of shoppers who have stopped paying full price for anything they can defer.

Bargains now, pay later

Retailers have spent eighteen months fighting surplus stock and shifts in discretionary spending, and they gave up gross margin to empty their warehouses. The spread of 'Buy Now, Pay Later' schemes shows consumers borrowing to join in the sales. Goods prices are still falling, but retailers' margins are paying for it.

How the glut was built

The surplus has its roots in the pandemic. Stuck at home and flush with stimulus cheques, Americans bought furniture, electronics and exercise equipment at a pace retailers read as permanent. Supply chains then jammed, so companies ordered more and earlier to make sure shelves would be full. When the goods finally arrived, demand had already swung back towards travel, restaurants and other services. Target shocked investors in the spring of last year with a profit warning blamed on unwanted stock, and the rest of the industry spent the following months marking down whatever it could not return.

Discounting on this scale changes the arithmetic of retail. Each markdown converts inventory into cash, but it does so at a lower gross margin, and the retailer still has to pay for storage, shipping and staff. For Amazon, many of the deals are funded partly by third-party sellers, who compete for placement by cutting their own prices. The cost of the promotion is therefore spread across thousands of smaller businesses as well as the platform itself.

Borrowing to buy the bargain

Instalment plans, which split a purchase into several interest-free payments, have become a fixture of online checkouts, and Amazon offers them through its partnership with Affirm. For shoppers they smooth out a big purchase. For regulators they are a growing worry, because the loans often sit outside traditional credit reporting, so a household can take on several at once without any lender seeing the full picture. The Consumer Financial Protection Bureau published a report last year warning about exactly that risk.

The schemes also add to the retailer's bill. Interest-free instalment lenders earn most of their revenue from the merchant, which pays a fee on each sale that is generally higher than the cost of accepting a credit card. Retailers accept the charge because instalment options raise conversion rates and basket sizes. The consequence is a second layer of margin sacrifice on top of the discount itself: the shop cuts the price, then pays a lender to help the customer afford what is left.

The timing matters. Federal student loan repayments, paused since the start of the pandemic, are due to restart in October under the terms of the debt-ceiling deal struck in June. Millions of borrowers will then find a new monthly bill competing with the instalments they took on for this week's discounts. The savings households built up during the pandemic have also been drawn down steadily, according to Fed research, which leaves less cushion for surprises.

Disinflation, with a bill attached

For the Federal Reserve, falling goods prices are welcome. They help pull down headline inflation and ease pressure on household budgets. Before the pandemic, goods prices had drifted down for years thanks to globalisation and cheap shipping, while services grew steadily more expensive, and a return to that pattern would make the Fed's job easier. The difference now is that much of the decline is coming from margin sacrifice rather than cheaper production. Price cuts that come out of profit rather than cost cannot go on indefinitely.

That shifts the question from inflation to earnings. Retailers who bought volume with discounts will report weaker gross margins, and some will respond by cutting orders, staff and investment. Amazon itself has already announced some 27,000 job cuts this year as it trims costs. Suppliers, logistics firms and advertisers downstream of the big retailers would feel the effect next.

The case for a healthy shopper

The strongest counterargument is that nothing here is alarming. Unemployment is low, wage growth has recently started to outpace inflation, and shoppers seeking bargains during a heavily advertised sale are doing exactly what they are supposed to do. On this view Prime Day shows resilience, and the use of instalment plans is a sign of convenience rather than strain.

That is a fair reading of the headline numbers, and it may prove right for higher-income households. But the combination of heavy discounting, rising use of deferred payment and the approaching return of student loan bills points to a consumer who is managing rather than thriving. The back-to-school season, retailers' second-quarter results in August and data on missed payments will show which reading is correct.

Prime Day's record takings hide a cautious shopper. Retailers bought the volume with thinner margins and customers paid with borrowed money, and neither can keep that up for long. Expect the strain to show in retail earnings and consumer credit data by the autumn, once student loan payments resume and the holiday discounting season forces another round of markdowns.