Everywhere I walked in Melbourne last Saturday there were sales. Signs emblazoned all over the front of shops advertising 30 per cent, 50 per cent and 70 per cent discounts. The only problem is that I see those signs all the time now whenever I go retail precincts. The annual sale concept is now a continuous effort to rid stores of excess stock as consumers go on strike. So what is going on? The Australian Bureau of Statistics (ABS) released the June 2011 – Retail Trade data today and in showing that retail sales have contracted for the second consecutive month they confirmed what we already knew from the empty shops and sale signs – the retail sector is now in recession and things are getting worse.
The highlights for the Retail Sales for June 2011 were as follows:
- In current prices, the seasonally adjusted estimate for Australian turnover fell 0.1 per cent in June 2011 following a fall of 0.6 per cent in May 2011. So the Retail Sector is now in recession – two successive months of negative growth.
- Unadjusted data shows that total Australian turnover fell 0.8 per cent in June 2011 (large retailers down 0.5 per cent and smaller retailers down 1.2 per cent).
The Sydney Morning Herald report (August 3, 2011) – Retail sales post surprise fall in June – claimed that the fall was unexpected. I guess the reporter only talks to the bank economists (they were the only ones quoted in the article) who are always predicting growth will be excessive and interest rates will be going up.
Yesterday the August meeting of the RBA scotched those predictions by holding the interest rate constant. The last time rates rose was in November 2010.
The reality is that there are no demand pressures driving inflation at present and the retail sales figures suggest consumers are truly moderating their spending patterns after a decade or more of bingeing on credit and building up record levels of household debt.
The Sydney Morning Herald analysis (August 3, 2011) – Food inflation puts shine on gloomy retail figures noted that:
… discretionary retail on the whole is suffering not just from low consumer confidence but low consumer interest, meaning consumers are responding lethargically even to deep discounts … the soft goods business is in an abject state with both the specialty and department store channels experiencing tanking sales. Although data for the online retailers is unavailable it is likely that this is the only soft goods channel currently above water … the supermarket chains are making deep inroads into the market share of independent food operators. This poses a material threat to the rental growth of small shopping centres, which depend heavily on independent perishables retailers.
The following graph shows the Retail Sales since January 2008 (in $A millions). The trend is a 6-month moving-average. The first fiscal stimulus payments to consumers was in December 2008 which was followed by the $A42 billion stimulus announcement in February 2008.
If I was looking for a single piece of evidence that the fiscal intervention increased retail sales I couldn’t find a better graph to demonstrate that.
The stimulus clearly boosted spending during the period that it was concentrated as the graph indicates (the significant above-trend retail sales). In doing so, it not only replaced some of the declining private demand but also gave households extra financial capacity to both spend and increase their saving ratio. The data shows that both impacts have occurred in the last year.
So the fiscal expansion provided support for aggregate demand and helped prevent the labour market from totally melting down (it is still bad) but also provided the space for the household sector to increase saving as well as spending because it supported income growth (via the demand impact).
At the time, the conservatives claimed that the fiscal stimulus would not be expansionary because the household sector would just save it all. But that seriously misconceived the way spending stimulates income which in turn stimulates saving.
It was never going to be an spend or save situation. That is the beauty of fiscal policy – you can have both.
You get another excellent view of the impact of the fiscal intervention from the next graph which shows the monthly growth in Australian retail sales over the same period as specified above. The two large positive spikes correspond to the impact periods of the fiscal stimulus.
The issue of retail sales is interesting in Australia at present because it signifies a development that has not previously been discussed widely in the public debate. The evolution of the Internet is changing the structure of industry. A major report “commissioned by search engine giant Google Australia” was released in Australia yesterday and found that (Source):
… the internet economy was worth about $50 billion in 2010, 3.6 per cent of gross domestic product, and was forecast to rise to $70 billion over the next five years … [this] … was half of the powerhouse mining sector’s contribution to GDP last year, and just $3 billion less than the retail sector’s share … the total economic benefit of the internet to the wider Australian economy stands at about $80 billion – including productivity gains to households and businesses.
What the study did not reveal was “how much of the growth in the internet economy is at the expense of other Australian industries”. The news story about the Report notes that its release:
… comes in the wake of months of job losses, store closures and sales dives at so-called ”bricks and mortar” retailers, whose woes have been blamed primarily on weakened consumer confidence, but also on growth in online shopping, exacerbated by the strong Australian dollar.
There is no doubt that the Australian consumers are very cautious at present and are clearly trying to deal with the record levels of household debt that followed the credit binge in the decade leading up to the financial crisis. The withdrawal of the fiscal stimulus and the persistently high labour underutilisation (unemployment and underemployment) have combined to drain the confidence of consumers.
But there is another trend developing which is very interesting. This relates to what is known as the Dutch Disease. Please read my blog – A rising public share in output is indicated – for more discussion on this point.
Even though there was a sell-off overnight of the Australian dollar (AUD) as a result of the RBA’s decision to keep interest rates on hold yesterday, the Australian dollar has sky-rocketed in price in the last year.
The Australian dollar was finally floated in December 1983 after the Bretton Woods system of fixed exchange collapsed some 12 years earlier. There was a very conservative approach taken in Australia – as always (to our detriment).
The following graph puts the current parity (the highest since the float) in historical perspective – it shows monthly data for the AUD/USD parity since January 1970. It confirms the roller coaster life we lead here in terms of our exchange rate – around ten years ago my American mates used to call us the “half-price shopping centre” (in March 2001 the rate was as low as 48.9 US cents). The smile is on the other face now as we buy 1.10 USD per AUD. At least if you are not receiving any USD-denominated income!
But while an appreciating currency is anti-inflationary (reduces the prices of imports in local currency) it also promotes structural imbalances. When a currency is appreciating, you get sectoral effects with the traded-goods sector which is what the term Dutch disease refers to.
One part of the traded-goods sector might be enjoying booming demand conditions on international markets (high terms of trade) while the other parts of the traded-goods sector are not enjoying an exogenous demand boost.
The booming terms of trade overall reduce the competitiveness of all traded-goods activities but the former sub-sector can overcome the reduction in competitiveness as a result of the booming demand for their products. However, the other sub-sectors which do not enjoy the exogenous demand boost suffer.
The Australian version of the Dutch disease typically that mining booms and pushes the dollar up but the same global demand bouyancy is not enjoyed by agriculture anf manufacturing (both who also export). The latter two are then disadvantaged by the higher foreign price for their exports but no change in domestic (AUD) costs.
In Australia at present, the mining sector is strong because world demand is high for base metal commodities and this has had the effect of pushing the AUD upwards. However, other exporting industries (for example, manufacturing and agriculture) are not enjoying the same bouyancy in demand for their output but have to face the terms of trade impacts on their margins of the exchange rate appreciation.
At least this has been the historical version of the Dutch disease and there is no doubt that it has been relevant. But there is now a new trend emerging as a result of the growth of the Internet.
The poor performance of the retail trade sector over the last year or so is being blamed, in no small part, on the increase in on-line shopping. What this conjecture effectively means is that the retail sector, which has traditionally been part of the “non-traded” goods sector and therefore not part of the Dutch disease dynamics is now part of the traded-goods sector.
With on-line access cheaper and more pervasive and the exchange rate so high in relative terms shopping on-line is now very attractive. The local retailers have been very reluctant to develop on-line capacities thinking that the combination of having to wait for the goods and services to be posted, the lack of ability to sample the goods directly (check fit etc) would be sufficient to discourage a major trend away from personal shopping.
The local retailers have also taken advantage of cheap imports (particularly clothing) and placed obscene mark-ups on them at the retail level. Consumers were held to ransom by this profiteering behaviour. Now we can buy the goods directly at low prices and by-pass the mark-up. So to some extent the local retailers are to blame for their own demise.
There has also been mis-placed protection on many goods (books, CDs etc) which has been justified by the industry as providing a secure path for local authors and musicians to gain popularity. The evidence appears to support the fact that the producers don’t benefit much at all (authors, musos) and the publishers and record companies etc have been pocketing the higher prices. Now we can get books and music easily delivered to our door through the Internet at very low prices compared to what the same product sells for locally.
The appreciating exchange rate has made this even more obvious.
The latest data supports this conjecture. Food retailers are still performing well because it is difficult to purchase food on-line. The areas of retailing that are being affected by the “Dutch Disease” are textiles (clothing and footwear) and books and publishing.
So the retail sector is definitely suffering because cautious consumers are now trying to reduce their debt exposures after a decade or more bingeing on credit while still fearing a double-dip recession coming from fiscal austerity.
But on top of that technology and the exchange rate appreciation is creating changing patterns of consumer behaviour which also predicate against local retailers.
There was an interesting speech last week (July 26, 2011) by the Governor of the Reserve Bank of Australia – The Cautious Consumer – which didn’t receive as much analysis as it should have. The Governor noted that even though “Australia is in the midst of a once-in-a-century event in our terms of trade … we are, at the moment, mostly unhappy. Measures of confidence are down and there is an evident sense of caution among households and firms. It seems to have intensified over the past few months”.
The RBA Governor provided the following graph (derived from the National Accounts) which shows “the level of household disposable income, and household consumption spending” in “real per capita terms, and shown on a log scale”. The “lower panel is the gross household saving ratio, which is … the difference between the other two lines expressed as a share of income.”
The trend lines are also shown for each series in the top panel estimated up to 2005 and then extrapolated after that. The point is that trend consumption outstipped trend income growth between 1995 and 2005 (income grew at 2 per cent per annum and consumption at 2.8 per cent per annum). In the two decade prior (1975 to 1995) the growth in consumption was around 1.8 per cent per annum.
The manifestation was the sharp drop in saving as a share of income.
The Governor now considers this trend to be over – and the age of the cautious consumer to be upon us. Which spells trouble for retailers who had geared up on the basis of the credit-fuelled binging that defined the 1995-2005 decade.
He noted that the period from 1995-2005 also saw a doubling of the real per capita wealth relative to the previous four decades and a “large part of the additional growth was in the value of dwellings” with “leverage against the dwelling stock” rising significantly.
He said that this period was “unusual” and the trend became much flatter in 2008 and since and that this “roughly coincided with the slowing in consumption spending relative to its earlier very strong trend.”
His assessment of these developments is as follows:
The period from the early 1990s to the mid 2000s was characterised by a drawn-out, but one-time, adjustment to a set of powerful forces. Households started the period with relatively little leverage, in large part a legacy of the effect of very high nominal interest rates in the long period of high inflation. But then, inflation and interest rates came down to generational lows. Financial liberalisation and innovation increased the availability of credit. And reasonably stable economic conditions – part of the so-called ‘great moderation’ internationally – made a certain higher degree of leverage seem safe. The result was a lengthy period of rising household leverage, rising housing prices, high levels of confidence, a strong sense of generally rising prosperity, declining saving from current income and strong growth in consumption.
Yes, the period of aggressive financial engineering and consumption being driven by credit rather than real wages keeping pace with productivity growth. You will notice that he didn’t mention that there was a fundamental change in the distribution of income during this period away from wages towards profits. The only way consumption could grow so quickly was via credit.
He admits that this period “was bound to end” and that the private debt spiral ends and “the rate of saving from current income will rise to be more like historical norms, and the financial source of upward pressure on housing values will abate.”
The interesting part of the speech was then his evaluation of the “implications of these changes”.
1. “the role of the household sector in driving demand forward in the future won’t be the same as in the preceding period”.
2. ” the rise in the saving rate over the past five years has been much faster than its fall was in the preceding decade. In fact it is, at least as measured, the biggest adjustment of its kind we have had in the history of quarterly national accounts data”.
3. “Will the ‘good old days’ for consumption growth of the 1995-2005 period be seen again? I don’t think they can be, at least not if the growth depends on spending growth outpacing growth in income and leverage increasing over a lengthy period”.
4. “the level of the saving rate we have seen recently looks a lot more ‘normal’, in historical perspective, than the much lower one we saw in the middle of last decade”.
5. “If we want to sustain the rate of growth of incomes … we will have to look elsewhere”.
He then claimed that this all points to the need to overcome our poor productivity growth. But another essential condition for sustainable growth is to ensure the growth in income is distributed more evenly (such that workers gain real wage increases in proportion to productivity growth. That has been sadly missing in the “debt decade”. He ignores that “class” issue.
But the other point that he ignores in his assessment is that if consumption is falling back to its historical norms then other spending aggregates which have been abnormal during this period will have also resume historical norms unless there is a fundamental structural change.
What do I mean by that?
Australia has long enjoyed a current account deficit where foreigners have been willing to send us real goods and services (capital equipment and consumer items etc) in exchange for financial assets denominated in AUDs. So the real terms of trade (what real resources we have to send them relative to the real resources they send us) has long been in our favour.
But this means that the overall impact of the external sector is to drain aggregate demand (import spending greater than export revenue) and place a drag on growth. In the period 1996-2007, the conservative Government ran surpluses 10 out of 11 years. These surpluses were only possible because the consumption spending was so strong on the back of the abnormal credit binge. Historically, the government runs deficits to ensure that aggregate demand grows strongly in the face of the external deficit and private domestic saving.
So if households and firms are not going to borrow as much unless the external sector becomes a major contributor to growth, the obsession with budget surpluses will have to change and governments (and all of us) will have to be comfortable, once again, with continuous budget deficits at the federal level. The RBA Governor avoided teasing that implication out of his analysis – for obvious (ideological) reasons. But that is the future we face.
That is enough for today!