UBS: Worst quarterly consumption figures since GFC
UBS has cut its consumer outlook for the next two years following the worst quarterly consumption figures since the GFC, citing weak household income growth and record levels of household debt weighing on discretionary spending.
Real consumption growth slowed to 0.1 per cent in the September quarter, bringing year-on-year growth down to 2.2 per cent, which UBS chief economist George Tharenou expects – with downside risk – to slow further to 2 per cent in 2018 and 2019.
That’s below the consensus estimate of 2.4 per cent year-on-year in 2018 and 2.5 per cent year-on-year in 2019.
Tharenou said recent consumption and retail data was worse than expected, as a collapse in the household savings rate, which he argued has been propping up spending, begins to increasingly expose retailers to record low income growth – now 1.8 per cent year-on-year.
The household savings rate has decreased from 8 per cent to around 3 per cent in recent years, where it has recently stabilised, but Tharenou predicts that a widely-forecasted slowdown in the housing market will bring down household wealth, dissipating appetite for further savings-funded spending.
Household cash flow has also collapsed to a record low in 2017, with higher utility and petrol prices compounding low wages growth to bring the growth rate down to 1.5 per cent year-on-year.
This is bad news for retailers, with retail spending growth already sitting far below the 10-year average at 1.8 per cent year-on-year – although Tharenou argued that smaller retailers will be hardest hit, with large retailers still growing at around 4 per cent year-on-year compared to -3 per cent year-on-year among smaller traders.
“When I look at consumer cash flow, there’s just not enough income to support anything but a subdued consumer environment,” he said.
“The savings rate could continue to decline and fund consumption, given that before the GFC savings hovered around 0 per cent. However, we believe this is less likely now given ~flat or falling house prices ahead, combined with record debt, leading to a fading household wealth effect.”
Phillips curve ‘broken’
Many, including Deloitte, have predicted a tightening in the labour market will put upward pressure on wages in coming years, which could underpin a rebound in household income growth, fuelling stronger spending.
In its budget estimates, Treasury also forecasted in May that household consumption would pick up over the next three years, driven by a turnaround in wage growth.
The unemployment rate has recently dropped to a 5-year low of 5.4 per cent, driven by a 3 per cent increase in year-on-year jobs growth.
But Tharenou argued this shouldn’t be underpinning optimism, instead he contended that the Phillips Curve —a well-known economic model that ties lower unemployment to higher inflation— is broken.
As the theory goes, lower unemployment should increase worker bargaining power, placing upward pressure on wages, which in turn should lead to higher household income growth and higher spending, fuelling inflation.
“The strength of jobs growth in recent years has structurally failed to translate to any recovery in wages, which remain stuck near a record low – with [the wage price index] at 2 per cent year-on-year,” Tharenou said.
“It’s [jobs growth] not working and I don’t think it will…what you are left with is a household consumption model that’s weak.”
Furthermore, he believes recent commentary from the RBA, outlining “significant uncertainty” over the consumption outlook, is evidence that the central bank is beginning to understand that the relationship between unemployment and inflation has changed.
UBS now expects the RBA to keep rates on hold until 2019.
“Our detailed household cash-flow model just doesn’t add up to anything but a weaker consumer outlook. Even with steady interest rates, the rising and record stock of household debt means interest payments lift.
“Hence, our previous expectation of one RBA hike in 2018 would put too much pressure on disposable income. Indeed, the consensus view of faster real consumption would likely require an unrealistic further collapse in the household savings rate to fund the spending,” Tharenou said.
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