From Bill Evans, following up last week’s Consumer Sentiment Index:
This week we saw a strong lift in the Consumer Sentiment Index.
The Westpac Melbourne Institute Index of Consumer Sentiment rose 3.6% to 101.4 in October from 97.9 in September.
It is the first time since November last year that optimists have outnumbered pessimists and represents the highest level of the Index since October last year.
Consistent reports of an improving global economy may have been a factor behind this lift in confidence. It is also likely that concerns about rising interest rates associated with over-heated housing markets have eased.
Ongoing improvements in the labour market are also boosting confidence. Confidence showed stronger gains amongst those employed as tradies, ‘paraprofessionals’ (typically in the health and education sectors), or labourers. The rise in confidence was particularly strong for ‘trade’ workers, up 22% in the month, suggesting the continued strength in residential building was a positive factor.
This is not a great surprise. The recent report from the ABS shows that of the net 320,000 jobs added over the year to August nearly a third (105,000) were added in the construction sector. We expect this will be about as good as it gets for construction workers. The downturn in residential construction activity is expected to bite through 2018.
Overall, confidence is still not particularly strong, with views on family finances a clear weak spot. Whereas the overall Index is down 1% on a year ago, respondents’ assessments of their own finances relative to a year ago have fallen by 6.1%.
This is a particularly significant point. Recall that the Reserve Bank consistently refers to this component of the Index as a reliable indicator of spending patterns.
The logic is persuasive. Consumers are more likely to base their spending decisions on their current income capacity rather than necessarily expectations around the overall economic outlook where they may not necessarily be a beneficiary. During the week I noticed reports that US consumers are particularly pessimistic about: living from ‘paycheck’ to ‘paycheck’; never being able to get out of debt; and never being able to afford to retire. Fortunately, Australia’s pension and superannuation system provides households with much more comfort around the retirement issue but I suspect Australians would be similarly concerned about the first two issues.
That 6.1% fall over the year in “finances relative to a year ago” is quite significant. In previous years (to October) the comparable movements have been: -2.4% (2016); 4.3% (2015); flat (2014); 6.2% (2013); 1.2% (2012); -12.9% (2011); flat (2010); 21% (2009); -24% (2008).
The big fall in 2011 was associated with the 200 basis points of mortgage rate increases from October 2009 while the fall in 2008 was in response to the collapse of Lehman and the onset of the GFC. The fall in 2017 is therefore by far the largest annual fall in this component outside unusual extraordinary events since the GFC. This move is likely to be associated with some of the factors that are most likely behind the reports from the US: weak wages growth and excessive levels of household debt. It is for these reasons that we are cautious about prospects for consumer spending and, although the overall Index lifted strongly, the concerns about the consumer must still remain. It is certainly true that other parts (with the exception of housing) were solid in the survey.
The ‘economic conditions, next 12 months’ sub-index posted the strongest gain, rising 7.1% to a four year high. Some of this likely stems from consistent coverage of the continuing improvement in the global economy with, in particular, improved confidence in the US growth outlook. Longer term economic prospects showed a more muted rise. The ‘economic outlook over the next 5 years’ sub-index rose just 1.4%.
Consumers were more positive about making major purchases, the ‘time to buy a major household item’ sub-index rose 3.5% in October after a 2.1% lift in September. However, the sub-index remains well below its long run average (down 2.9% over the year), suggesting that the sluggish spending evident through most of 2017 is likely to extend into year-end.
Expectations for the labour market continue to improve. The Westpac Melbourne Institute Unemployment Expectations Index fell 3.3% to 129.2 in October, marking the lowest reading since June 2011 (recall that lower reads mean more consumers expect unemployment to fall in the year ahead). The move is broadly based with expectations improving across all the major states. So, as in the US survey, households may be becoming less anxious about actually losing their jobs but concerned about the size of that ‘paycheck’.
Consumer views around housing remained downbeat. The ‘time to buy a dwelling’ index dipped 0.2% to 95.1, well below the long run average of 120. State indexes continue to vary widely, ranging from very weak reads in NSW (77) and Vic (88) to a strongly positive result in WA (135.4).
Consumer expectations for house prices also softened in the month. The Westpac-Melbourne Institute Index of House Price Expectations dipped 1% to 140.5. The index still shows positive price expectations nationally although the state breakdown showed a sharp 8% decline in New South Wales (to the lowest level since June last year) partially offset by stronger price expectations in Queensland and Western Australia. Evidence that house price expectations in the over-heated Sydney market are cooling is likely to be encouraging for policymakers.
We contend that the key to the interest rate outlook remains the consumer and the housing market. While we have seen a boost in consumer confidence, most of the strength is centred on the one year economic outlook. Respondents remain concerned about their own finances despite an expectation that the economy overall will improve.
Furthermore, the survey continues to point to an easing in sentiment in the housing markets in the major states. Interest rate increases aimed at cooling over-heated housing markets appear to be becoming unnecessary as macro prudential policy tools and the slowdown in foreign activity are achieving the same purpose.