Why is Wal-Mart worried? Payroll tax could cut consumer spending. (+video)

Combine that with stagnant employment and wages, as well as soaring gas prices – gas is up 50 cents a gallon in the past month alone – and consumers start to feel the pinch, says Edgar Dworsky, founder of ConsumerWorld.org, a consumer information service.

“Those who are living paycheck-to-paycheck, spending all they’ve got, those are the folks who are going to be hit the most,” Mr. Dworsky says.

Retailers are also bracing for the hit, says Mr. Housel.

“The big retailers like Wal-Mart are very good at reading customers' shopping habits and adjusting quickly,” he says. “You'll see stores adjusting inventory toward lower-price items and smaller-packaged goods.”

Case in point: McDonald’s is promoting its Dollar Menu, Burger King slashed its Whopper Jr. burger from $2 to $1.29, Tyson Foods is ordering more budget-friendly chicken and lower-priced cuts of meat, and Wal-Mart is stocking shelves with cheaper goods and smaller packages of bulk items, reports The Wall Street Journal.

“Any industry that focuses on low-income consumers starved for value will see the biggest hit – discount retail and dollar stores, for example,” adds Housel.

Already, Wal-Mart, the world’s largest retailer, had the worst start to a month in seven years and described February sales as “a total disaster,” according to internal company e-mails obtained by Bloomberg News. 

Despite the doom-and-gloom predictions, however, some analysts say it’s unlikely the restoration of the payroll tax will wreak havoc on the economy. After all, retail sales inched up 0.1 percent in January in spite of the tax restoration.

“Although the payroll tax hike has taken a chunk out of wages across the country and sent the retail sector into a panic, it doesn't look like the tax will hurt all that bad in the end,” says analyst Dan Carroll in a recent Motley Fool column. “With consumers spending much of the payroll tax holiday's two years getting a handle on debt and auto sales continuing to shine despite the tax holiday's expiration, the payroll tax hike won't be able to kill the economy's momentum.”

But Dworsky still expects consumers and retailers will be negatively affected.

“Consumers may cut back and buy less, eat out less, buy one less dress, one fewer pair of shoes, maybe join Costco,” says Dworsky.

If there is a negative impact, it is likely to be long-lasting.

“It's safe to say that whatever negative impact the restoration of the tax has on consumer spending will be permanent,” says Housel. “There's nothing consumers can do to avoid it, and without leveraging back up on debt, it will be a permanent impact on spending.”

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