Confidence slipping

There is no question that Aussie consumers started 2010 in fine spirits. However, three rate hikes in a row, together with the government’s response to the Henry Review, a weaker share market and the fall in the Aussie dollar have taken their toll on consumer confidence. Subsequently, confidence levels have recorded a 7% fall in May – the biggest monthly percentage fall since October 2008, a period that marks the height of the global financial crisis.

Retailers would certainly be concerned that Aussie consumers are now paring back confidence levels. Especially given that despite the relatively positive attitude over the last few months, spending has remained subdued. In annual terms retail spending has recorded negligible growth, and that has prompted major retailers to slash prices – a trend that will remain part of the retail landscape for the next few months.

When the latest consumer confidence result is coupled with the weak economic data over the past couple of weeks, it paints a picture of an economy that is going sideways. The implications for interest rates are clear. A pause at the June Reserve Bank board meeting is the most likely outcome.

The latest wage data represents a win-win situation. For private sector companies wages are at just shy of the slowest rate in a decade, serving to keep costs down and boost profitability. But for employees, wages are still growing at a faster rate than prices, boosting the purchasing power of consumers.

We take it for granted in Australia, but the real wage gains recorded over the past decade have been instrumental in underpinning household spending and overall economic growth.

And had real wages not increased over the period it’s clear that housing affordability would have deteriorated significantly, restraining construction.

What are the implications for interest rates and investors?

Fundamentally the economy is in good shape, especially the job market. But consumers are still not prepared to spend unless the goods are on sale. Weaker consumer confidence levels certainly won’t help retailers, struggling at present to get people to part with their cash.

The longer that the era of ‘new conservatism’ continues, the longer that retail margins will be under downward pressure together with profitability. The latest data indicates that now be a good time for the Reserve Bank to take a pause from lifting interest rates. We expect the Reserve Bank to leave cash rates on hold in June especially given that even wage inflation is remaining well contained.

Savanth Sebastian, Economist – CommSec

Market Bulletin 21 May 2010