Is this a dip in confidence or a shift to thrift?

Consumers are ditching carefree spending for careful saving, and it's a problem the economists hadn't bargained on, writes Ian Verrender.

Consumers are ditching carefree spending for careful saving, and it's a problem the economists hadn't bargained on, writes Ian Verrender.

CONFIDENCE. It is an ethereal concept but one central to our well-being. You read about it all the time, especially in the business pages.

Consumer confidence surged, investor confidence went sideways while business confidence evaporated altogether. And with each report, often filed every couple of weeks, analysts attempt to pick over the entrails and predict what it all means, usually with little success.

Economists long ago figured out that confidence or "expectations" as they like to put it, can be self-fulfilling prophecies.

Feeling down? Think the future may be looking bleak? Well if you rein in your spending in anticipation, bleak is exactly how it is going to end up. In fact, things most likely will be even worse than you first thought, precisely because you and everyone else like you stopped spending.

For the past two years, businesses big and small across the gamut of industries, but particularly in retail, have blamed a downturn in consumer confidence for most of their woes.

Even Australia, in the midst of the greatest resources boom in history, is feeling blue and has been almost for as long as anyone can remember. So much for the monthly confidence reports.

In fact, it makes you wonder whether it simply is short-term confidence that has afflicted spending patterns in the developed world or whether there has been a more permanent shift towards thrift.

As human beings we have wants and needs, although the order really should be reversed. Once we have met our basic needs shelter and food our desires spread to treats and luxuries.

During the past century, as we've collectively become richer in the developed world, there has been a dramatic shift towards the production and consumption of non-essential items, to the point that the economic well-being of modern industrialised society has come to depend on frivolous spending.

But in the past few years, ever since the capitalist system was shaken to its foundations, it would appear consumers have reassessed the balance between wants and needs and decided to shift focus and their spending patterns back towards the basics, on what is most important to them.

It didn't start with consumers. Big business took the early running in 2008 as the shock waves from America's property bust reverberated first through US banking and then across the Atlantic.

With the banks in trouble, money became scarce and any corporation with excessive debt was staring down the barrel of oblivion. Corporations attacked debt with a gusto not seen for decades and leverage, once the penultimate weapon for corporations on the make, was something to be avoided. Shareholders were called on to tip in cash to pay off the banks. Even here, the nation least affected by the global economic tsunami, local companies raised more than $100 billion to pay off debt during 2009.

The straitened times forced many corporations, particularly in the northern hemisphere, to lay off workers and with property values, share portfolios and retirement savings shredded, it's little wonder consumers pulled their heads in. That's reflected in the borrowing statistics and in retail banking results. The trend has even extended to Australia where loans for housing have slumped, credit card debts are being paid down and general borrowing has slowed.

In Europe, the woes have been compounded now many debt-laden countries are faced with austerity measures, threatening to exacerbate an alarming unemployment rate with 44 million workers in the world's richest economies already out of a job.

If, as it seems, there has been a shift in spending attitudes rather than just a short-term blip in confidence the entire strategy of both American and European central banks must be called into question.

Richard Koo, chief economist with Nomura Research Institute in Tokyo, reckons the economics profession has got it all wrong.

In a letter to The Economist magazine last month, Koo reckoned monetary policy was useless in this kind of economic downturn, comparing the situation in Europe and North America with Japan's moribund economy during the past 20 years.

"The Japanese problem of the past 20 years, together with the American and European problems of today, boils down to one fact: the economics profession has never considered a recession that could be caused by the private sector minimising debt in order to repair balance sheets after a debt-financed bubble in asset prices," he wrote.

"As a result, the profession has no clue as to what is the right thing to do."

According to Koo, trying to boost spending by cutting interest rates in this kind of recession is useless because people with negative equity as many Americans are with their home loans will not borrow, no matter how low interest rates go.

Debt is the oil that greases the wheels of modern commerce. In essence, borrowing money to buy a new car or some other consumer item merely allows you to bring forward future purchases. You are buying something now that you would only be able to afford in the future, and only if you saved the cash.

Where just a few years ago, everyone was borrowing like mad to purchase the latest gear, it now has become fashionable to save the cash, either for a rainy day or to finance future purchases.

But that adds up to less spending, which feeds into lower production and certainly lower economic growth across the globe. It's an outlook no one seems willing to confront.

Our banks have boasted that they no longer rely as heavily on foreign cash from wholesale debt markets and that they are now better placed to weather any financial storm from offshore.

That's certainly true. But the reason their coffers are filling up with cash is that Australians too have caught the savings bug. We are saving more, borrowing less and certainly spending less.

While many of us hanker for the "good old days", we are unlikely to see a rerun of the heady consumer-driven days of the early part of this century for at least a few years.

You can be confident of that.

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