In the last few days, I have been participating at the Dun & Bradstreet Commercial Credit and Collections conferences.
One issue that has featured prominently in the discussion has been the position of the consumer or household sector. The so-called ‘cautious consumer’ is a feature of the Australian economy in the last couple of years which has contributed to very weak credit growth and an uptick in consumer financial stress.
These dynamics were seen to sit oddly with the general assessment that the Australian consumer and the household sector are in fine financial fettle.
A cold, hard examination of the data shows that household savings are being accumulated at a rapid rate, wealth is growing and in the March quarter it reached a record high, the household debt to income ratio is steadily falling as consumers continue to overpay their monthly mortgage requirements and we are about to clock up a thirteenth year where wages growth has exceeded the rate of inflation.
There are some consequences from these dynamics for the economy. By definition, higher savings means less consumption spending and the declining debt ratios mean weak growth in borrowing and again, weaker economic activity and slower asset price gains.
The economy has been feeling this in the economic data over the past six months or so which shows only a moderate lift in household consumption expenditure, a marginally positive level for consumer sentiment and only moderate trend growth in retail spending.
These are key reasons contributing to the decision of the RBA to cut interest rates to record lows.
But the mix of lower debt, higher savings, and rising real wages means that consumers are increasingly ’cashed up’ to spend when circumstances permit.
They are ready to unleash a spending lift, when circumstances allow.
Looked at another way, if consumers have no savings, are up to their necks in debt and have real wages falling, it is very difficult to engineer a lift in consumer spending growth.
But with favourable dynamics in place, it is somewhat surprising that there is not a higher level of consumer sentiment and an earlier lift in consumption growth. Perhaps it is coming soon.
Like staring at a frog on a lily pad and waiting for it to jump, the RBA and government are looking at the consumer, noting these positive drivers of spending, and waiting for the jump in spending to show up. Whether there needs to be a further interest rate cut or two to prod consumer spending to a faster pace is something the RBA Board will spend considerable time debating at its next meeting on 2 August. This might be all it takes to get consumption growth back to a 3.5 per cent pace and with that, GDP growth back to 3 per cent or more.
One thing economists, including the elite in Treasury and the RBA, have trouble estimating is the lags between certain policy actions and events and their impact on the real economy. Normally, the current level of interest rates in concert with high savings and low debt would have already sparked a strong lift in household spending.
It still might but it seems to be taking longer than usual. The reasons for this lag are likely linked to the hang over from the global recession and some desire on the part of consumers to further consolidate their financial balance sheet in the wake of low interest rates, solid job creation and sustained increases in real wages.
That said, history shows that consumer spending patterns are open to a sudden and significant changes with the key question relating to when that change will occur.
Certainly the government will be hoping it happens sooner rather than later as stronger consumption will support tax revenue and see inflation lift back towards the middle of the RBA target band.
The RBA noted in the recently released minutes of the July Board meeting that “retail sales were flat in April, though the Bank's liaison contacts suggested that sales rose modestly in May and June”.
If this liaison is reflected in the upcoming data on retail sales and then consumption, we might be in the early stages of a moderate lift in household spending and with it a stronger growth trajectory. It will go a long way to fill the void left by the almost certain slide in mining investment and propel the economy into the 22nd and 23rd year without a recession.