Economic recovery shaped by household spending habits

Consumer spending has played a key part in the economic recovery and plays a majority role in total economic activity. Household spending actually accounts for approximately 60% of the UK economy. As such, changes in consumer confidence and spending power can have a significant effect on the growth of the economy. And how and where households choose to spend their money can strongly shape business activity and focus.

The 'experience economy'

A recent report analysing spending behaviour by Barclaycard (who process about half of all UK credit and debit card transactions) has highlighted the increase of the “experience economy” and the associated decline in purchasing material goods. 

This is part of a trend that Barclaycard say they have been seeing over the last 12-18 months, but latest figures show a 20% increase in spending in pubs compared with the same month last year. Spending in restaurants went up 16% while theatres and cinemas enjoyed a 13% rise. Meanwhile, department stores suffered a 1% drop, vehicle sales were down 11% and spending on household appliances fell by 2.5%

Put simply, households are spending more on doing things (going out to pubs and restaurants, trips to the cinema and theatre, holidays and activities), rather than simply buying things. Indeed, last year, the head of IKEA, Steve Howard, was quoted as saying that he believed the economy had reached “peak stuff” – households have as much as they want and need and are now looking at using their incomes in different ways. 

These changes lead to new business opportunities, are driving strong growth in the hotels and restaurants sector, and point to new/different uses of town centres in the future.

Bank of England review of car-lease deals

One area of “stuff,” however, that has been a key factor of economic growth nationally, and very important locally, has been the increase in new vehicle purchases. Manufacturing of cars has seen strong and steady increases over the past five years and output for the year to March 2017 was over 7% up from the previous year.

While new car registrations in the UK dropped this April, following a run of good growth in previous years, increasing attention is now paid to how households are funding this strong demand in new vehicles - and the Bank of England has recently launched an inquiry into car-leasing plans.

Over 80% of all new vehicle purchases are now undertaken through lease deals known as personal contract plans (PCPs), a significant change to how this market operated only five years ago. The Bank of England is concerned about the increased level of credit (and therefore indebtedness) that consumers are now experiencing and the robustness of credit checks and risk analysis being undertaken in the approval of these PCPs. 

There are echoes, albeit on a much lower level, of the sub-prime housing crisis, whereby individuals where accessing levels of credit that they could not really afford - and a downturn in prices, or a change in economic circumstances, caused a systemic problems. 

While PCP plans currently work well for both the consumer and car dealers/manufacturers, they are principally based on the rising values of used-car prices to work effectively. Should the second-hand car market take a dip (say, for instance, if used diesel cars become less popular due to emissions controls) or interest rates rise significantly, then this could destabilise this system and cause difficulties both for individuals and the finance market sitting behind these deals.

Following the review, the Bank of England may be minded to increase controls on lease deals, which could reduce demand for new vehicles in medium-term.  Given the importance of the motor industry to the local economy, this is an issue that we will need to keep track of.

Real wages set to fall

Given the importance of household spending to the economy, “real wages” (i.e. income adjusted for inflation) are a key indicator on economic performance. 

When real wages are rising (as they have been over the past couple of years), one can expect to see spending and therefore economic activity increase. However, when real wages fall, pressure is placed on household expenditure and a reduction in activity can be expected. 

We have seen over recent months inflation starting to increase, rising from 1.8% in January, to 2.3% in February and (just released), 2.7% in March. The Bank of England are currently forecasting that inflation will peak at a little under 3% by the end of 2017, but other forecasters (such as the National Institute of Economic & Social Research) are pencilling in a higher peak of around 3.5% by the end of the year. 

At the same time, wages are only likely to see weak growth. A recent survey by the Chartered Institute of Personnel and Development (CIPD) suggests that pay expectations are at the lowest levels for over three years, with firms are only planning on giving workers on average a rise of just over 1%. Real wages are therefore set to fall over the coming year, so close attention will need to be paid as to the impacts that this will have on household spend and the wider economy.