In most developed economies, the sector that hurt the most during the financial crisis and ensuing recession tended to be the consumer sector. Ironically, in the lead up to the crisis, it was the excesses of this sector that helped create the conditions that led to the crisis. But while the recession was largely a structural phenomenon, and has led many to call for a rebalancing of developed economies away from such a consumer-centric model, the fact remains that the consumer sector still matters.
To be sure, most developed economies would benefit from less consumption and more saving, but such a transition can only take place over a long period of time and with the right policy. That said, it is well worth monitoring the path of the consumer sector in developed economies. This article focuses on the UK consumer and looks at a series of key metrics to get a feel for how that consumer has fared through the crisis and recession as a means of gauging the next interest rate move and outlook for consumer stocks.
Naturally the first place to look is at consumer credit. The charts below show a steady and continuous build up in lending over the past decade. The impact of the crisis was a relatively sharp drop-off in lending as banks got into trouble, credit dried up, and as the financial status of individuals began to deteriorate.
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Indeed, a key determinant of individual financial well-being is income drawn from employment. Unfortunately, the onset of the crisis saw a spike in the unemployment rate, with the percentage of individuals unemployed jumping to 7-8%, from 4-5% prior to the crisis. And with the unemployment rate continuing to hold close to 8%, it’s little wonder that consumers are feeling the pressure in the UK.
Of course, fiscal budget cutbacks aren’t helping either. This is also an important metric on the interest rate front, as while inflation has increased, the Bank of England will need to see a more robust recovery before interest rate hikes will be on the cards.
Unsurprisingly, then, consumer spending, as measured by retail sales, has stagnated following the crisis. It’s this spending that many business models are still predicated upon, so this metric remains very important. The trend is more noticeable on a three-yearly basis where over a three-year period, retail spending grew at a pace of 10-15% prior to the crisis, whereas recently that growth rate was recorded at levels closer to 1-3%.
In a similar vein, individual insolvencies surged in the lead up to the crisis and climaxed during the recession that followed. This is interesting because the rise in insolvencies prior to the crisis tells you that the pace of expansion, the excesses in lending and credit, were simply unsustainable, and this spike in 2006-07 served as somewhat of a precursor. Also of interest is the advent of debt relief orders, an option that took off in a time of need.
For comparison’s sake and out of interest, company liquidations also surged during the crisis, climaxing in 2009 as the recession sent many to the wall. A key component of the surge was a spike in “creditors’ voluntary liquidations," which is basically when business owners push the panic button.
So the key points are that there were indeed signs emerging prior to the crisis that things were beginning to get out of hand. Credit was expanding at a rapid pace, consumer spending was surging, unemployment was at all-time lows and, ominously, personal insolvencies were on the rise. During the crisis, it was no secret that the consumer sector felt the pressure as things began to unwind, but more so as the deep recession that followed the crisis took its toll.
While things aren’t back to normal yet, there are increasing signs that things are getting less worse. For example, insolvencies appear to have peaked, the unemployment rate also looks like it has peaked, while there is at least a baseline of activity in consumer spending and credit.
The outlook is almost surely positive, but like a heavy round of drinking, it takes time to recover. Thus businesses shouldn’t expect a rapid return to pre-crisis levels of activity, but they should take the opportunity to build strong foundations in these relatively more challenging times; it is those companies that will see the strongest profits when the good times return.
As for investors, it will pay to monitor the consumer sector from the perspective of looking at consumer-oriented stocks, but also from an interest rates perspective – as the Bank of England will likely rely on signals from this sector for the "all clear" to start normalizing monetary policy settings.