Events on the high street continue to grab the headlines. These are incredibly difficult times for retailers as households’ spending power continues to be squeezed and, in conjunction with technological change, households’ spending habits continue to evolve. In this blog we examine what the latest data from Consumer Trends tells us about the composition of household spending.
There are 12 broad categories of household spending. Each tells us something about the amount of expenditure in the UK by both UK and foreign households. In 2012 Q3, the value of household consumption taking place within the UK was £242 billion. During the whole of 2011, spending amounted to £929 billion. In real terms (after adjusting for price changes) spending in the UK fell by 1 per cent in 2011. Evidence of a rebound is limited. In the year to 2012 Q3, the volume of spending was just 0.8 per cent higher. In contrast, from 1998 to 2007 the average real rate of growth was 3.5 per cent.
As Chart 1 shows, the largest component of household spending in the UK is on spending associated with running a home. This component includes rents, expenditures incurred in undertaking routine maintenance and the payments for electricity, gas and water. Since 1997 this component has typically accounted for (after adjusting for price changes) 24 per cent of household consumption in the UK (22 per cent in 2012 Q3). The second largest consumption category is transport. This includes expenditure on purchasing vehicles, fuels, maintenance of vehicles and the costs of rail and air transport. It has typically accounted for about 15 per cent of expenditure (14 per cent in 2012 Q3).
Chart 2 shows the real annual rate of growth in expenditure of our 12 consumption categories from 1998 Q1 to 2007 Q4 and so before the financial crisis really took hold. It enables us to measure how the volume of purchases changes over a 12-month period. From it, we can see that all categories, except education, contributed to the positive real growth of household spending in the UK. The fastest growing component was clothing and footwear recording real growth of almost 11 per cent per year. The second most rapidly growing component was recreation and culture, which includes items ranging from package holidays, garden plants and musical instruments to sports equipment, cameras and books. This component grew, after adjusting for inflation, by nearly 9 per cent per year.
Chart 3 focuses on the real annual rate of growth since 2008 Q1. It paints a very different picture. Now only four categories have on average recorded positive annual rates of growth. Again, the volume of purchases of clothing and footwear has grown most rapidly by 6.3 per cent per year. While purchases on items associated with recreation and culture continue to grow, the annual rate of growth since 2008 is only 1.5 per cent compared with 9 per cent prior in the previous 10 years or so.
(Click here for a PowerPoint of all three charts.)
One category of spending that has been especially badly affected by events since 2008 has been household goods and services. This includes items such as furniture, major and small household appliances (including electrical appliances), carpets and tools. While the volume of purchases grew by 5 per cent per year from 1998 to 2007, since 2008 they have typically contracted at a rate of 3 per cent per year. This category helps to illustrate the difficult trading environment currently faced by many businesses in the UK.
The housing market is an incredibly fascinating market to monitor and to research. The market was at the centre of the financial crisis with some lenders accused of over-aggressively expanding their mortgage books and relaxing their lending criteria. The UK housing market of today looks very different to the market before the financial crisis. Nationally, house prices are stagnant while transaction numbers are less than half their pre-crisis level. The UK housing market appears almost as ‘cold’ as the recent weather!
As the first chart shows, the annual rate of house price inflation across the UK has been consistently close to or even below zero over the past couple of years. The latest figures from the Nationwide Building Society point to the average UK house price in the final quarter of 2012 being 1.1 per cent lower than in the final quarter of 2011. The figures from the Halifax concur with their estimate showing UK house prices 0.3 per cent lower year-on-year in the final quarter of 2012. This is a very different picture from that during the 2000s. As recently as 2007, the annual rate of house price inflation was in excess of 10 per cent.
Another indicator of the changing face of the UK housing market is the level of activity. The second chart shows the number of transactions per quarter across England and Wales since 1996. The figures from the Department of Communities and Local Government show that since the start of 2010 England and Wales has seen an average of 159,000 transactions per quarter. This compares with an average of 294,000 transactions over the period from 1996 to the end of 2007. Hence, the number of purchases today is roughly half the level prior to the financial crisis.
A further indicator of today’s very different housing market is the numbers of approvals by lenders for mortgages for house purchases. The latest Bank of England figures show that across the UK, the number of approvals each month in the first eleven months of 2012 averaged 51,000. Since 2010, the average monthly number of approvals has been 49,000. However, over the period from 1996 to the end of 2007 there were over 102,000 mortgages being approved each month.
A trawl through some of the key indicators of the UK housing market helps to paint a picture of a market that is markedly different to that before the financial crisis. It would be a big surprise in today’s financial and economic climate if there were to be any significant change in the path of these indicators for some time.
Draw up a list factors that are likely to have affected each of our 3 indicators of the UK housing market (house price inflation, transactions and mortgage approvals) since the late 2000s.
Using a demand-supply diagram, illustrate the forces that have affected house prices in the late 2000s and early 2010s.
Draw up a list of issues surrounding the housing market that would be of interest to a microeconomist. Now repeat the exercise for a macroeconomist.
Why are house prices so notoriously volatile? Can you think of any other markets where prices are similarly volatile? Do these markets share any common traits?
If you were a commentator on the UK housing market what would you be forecasting for prices and activity in 2013?
Consumer spending is crucial to an economy. In the UK total consumer spending is equivalent to almost two-thirds of the value of country’s GDP. Understanding its determinants is therefore crucial in attempting to forecast the short-term path of the economy. In other words, the growth of the economy in 2013 will depend on our inclination to spend.
While the amount of disposable income (post-tax income) will be one factor influencing our spending, other factors matter too. Amongst these ‘other factors’ is the stock of wealth of households. Here we look at the latest available figures on the net worth of the UK household sector. Will our stock of wealth help to underpin spending or will it act to constrain spending?
The household sector’s net worth is the sum of its net financial wealth and non-financial (physical) wealth. Net financial wealth is the balance of financial assets over financial liabilities. Financial assets include funds in savings accounts, shares and pension funds. Financial liabilities include debts secured against property, largely residential mortgages, and unsecured debts, such as overdrafts and unpaid balances on credit cards. Non-financial wealth largely includes the value of the sector’s holdings of property and buildings.
The following table summarises the net worth of the UK household sector at the end of 2011 and 2010. The figures are taken from the Office for National Statistics release, National Balance Sheet. They show that at the end of 2011, the household sector had a net worth of £7.04 trillion. This was up just 0.1 per cent up 2010. At the end of 2011, the stock of net worth of the household sector was 7 times the amount of disposable income earned by the sector in 2011.
We can also see from the table the significance of the value of non-financial assets to net worth. The value of households’ physical wealth is slightly larger than the value of its financial assets, though in 2011 both equate to around 4¼ times the annual flow of disposable income.
2011 saw the value of the stock of non-financial wealth grow by 0.7 per cent while the value of the sector’s stock of financial assets fell by 0.4 per cent. Meanwhile, the value of the stock of financial liabilities was virtually unchanged at a little over £1½ trillion. In 2011, the sector’s financial liabilities were equivalent to around 1½ times its annual disposable income. While this is down from the 2007 peak of 1¾ times income, it is considerably higher than during the period from 1987 to 1999 when the financial liabilities to income ratio remained consistently close to 1. The 2000s saw a rapid expansion of the sector’s liabilities relative to its income and, hence, today there remains what economists call a debt overhang.
Despite the very small overall increase in net worth in 2011, the stock of net wealth was up by 18 per cent on 2008. During 2008, net worth fell by 12 per cent. This was on the back of a fall in non-financial wealth of 9.4 per cent, a fall in the value of financial assets of 10.1 per cent and an increase in the value of financial liabilities of 1.9 per cent.
Chart 1 gives an historical picture of net worth. It shows the two principal balances that comprise net worth: net financial wealth and physical wealth. Each is shown relative to annual disposable income. Again, we can see the importance of physical wealth to overall net worth. The growth in house prices from the late 1990s through to the economic downturn of the late 2000s helps to explain its rising relative importance in net worth. We can also see from the chart that the relative level of net worth is roughly on a par with its value at the end of the 1990s. However, the composition is different. Today, relatively more of the sector’s net worth comes from non-financial wealth compared with that from net financial wealth.
A crucial question for spending in the months ahead is how inclined the household sector feels to consolidate its balance sheets further. Chart 2 includes more recently available data on financial assets and liabilities from United Kingdom Economic Accounts, Q3 2012. From it we can see the declining stock of financial liabilities relative to disposable income. This has been driven by an actual fall in the stock of unsecured financial liabilities. In the 12-month period up to the end of Q3 2012, the stock of unsecured financial liabilities fell by 6.4 per cent (the stock of secured debt rose by 1.8 per cent). This consolidation of unsecured debt suggests that households remain understandably cautious given the uncertain economic environment. Hence, the household balance sheet will most probably continue to constrain consumption growth in the short-term.
Are the components of the balance sheet stocks or flows. Explain your answer. What about disposable income?
List those factors that might affect the value of each component of the household balance sheet.
Again considering the balance sheet, try drawing up a list of ways in which the components of the balance sheet could affect spending.
What do you think has been the motivating factor behind the declining stock of unsecured financial liabilities? What impact is this likely to have on consumer spending?
If the real value of disposable income increases in 2013 shouldn’t this be enough to see real value of consumption increase?
How would the balance sheet of a household that rents differ from a household that is an owner-occupier?
We know two things about economic growth in a developed economy like the UK: it is positive over the longer term, but highly volatile in the short term. We can refer to these two facts as the twin characteristics of growth. The volatility of growth sees occasional recessions, i.e. two or more consecutive quarters of declining output. Since 1973, the UK has experienced six recessions.
Here we consider in a little more detail the growth numbers for the UK from the latest Quarterly National Accounts, focusing on the depth and duration of these six recessions. How do they compare?
The latest figures on British economic growth show that the UK economy grew by 0.9 per cent in the third quarter of 2012. However, when compared with the third quarter of 2011, output was essentially unchanged. This means that the annual rate of growth was zero. Perhaps even more telling is that output (real GDP) in Q3 2012 was still 3.0 per cent below its Q1 2008 level.
The chart helps to put the recent output numbers into an historical context. It shows both the quarter-to-quarter changes in real GDP (right-hand axis) and the level of output as measured by GDP at constant 2009 prices (left-hand axis). It captures nicely the twin characteristics of growth. Since 1970, the average rate of growth each quarter has been 0.6 per cent. This is equivalent to an average rate of growth of 2.35 per cent per year. The chart also allows us to pin-point periods of recessions.
One way of comparing recessions is to compare their ‘2 Ds’: depth and duration. The table shows the number of quarters each of the six recessions since 1973 lasted. It also shows how much smaller the economy was by the end of each recession. In other words, it shows the depth of each recession as measured by the percentage reduction in output (real GDP).
British recessions
Duration (quarters)
Depth (output lost, %)
1973Q3–74Q1
3
3.25
1975Q2–75Q3
2
1.76
1980Q1–81Q1
5
4.63
1990Q3–91Q3
5
2.93
2008Q2–09Q2
5
6.28
2011Q4–12Q2
3
0.90
We can see that three of the recessions lasted for five quarters. In the case of the recessions starting in 1975 and 2011 they occurred very shortly after a previous recession. Hence, we observe two so-called double-dip recessions.
The table reveals that the deepest recession by some distance was that in the late 2000s. As a result of this recession, UK output declined by 6.3 per cent. As the recent GDP numbers show, the UK has yet to recover the ‘lost output’ that followed the financial crisis.
The UK is an island-economy. Therefore, trade is a crucial determinant of our economic performance. The competitiveness of our exports, in part, is affected by the exchange rate. Floating exchange rates are notoriously volatile. However, since the autumn of 2007 we have observed a significant depreciation of the UK exchange rate. In other words the number of units of many foreign currencies to the British pound has fallen. A depreciation helps to make our exports more competitive abroad. We detail the extent of this depreciation and any signs of a reversal in this pattern.
Rather than look at the British pound (or any currency) against the many foreign currencies separately we can look at the average exchange rate against a whole bundle of currencies. The average rate is calculated by weighting the individual exchange rates by the amount of trade between Britain and the other countries. This trade-weighted exchange rate is known as the effective exchange rate.
In analysing the competitiveness of the exchange rate, we can go one step further and adjust for the terms of trade. This means that we adjust for the average price of our exports relative to the average price of those goods we import. Therefore, as well as the nominal (actual) effective exchange rate we can calculate a real effective exchange rate. If the average price of our exports rises relative to the average price of imports, the real effective exchange rate rises relative to the nominal rate. It means that we are able to obtain a larger volume of imports from selling a given volume of exports.
The chart shows the nominal (actual) and real effective exchange rate for the British pound since 2002. The chart shows clearly how from the autumn of 2007 the effective exchange rate both in nominal and real terms began to fall sharply. Over the period from September 2007 to January 2009 the nominal effective exchange rate fell by 26 per cent. After adjusting for the relative price of exports to imports, we find the real effective exchange rate fell by 24 per cent. In other words, the British pound depreciated by close to one-quarter in just 16 months.
If we move the clock forward, we observe a mild appreciation of the British pound since July 2011. In nominal terms, the effective exchange rate has appreciated by 6.8 per cent while in real terms it has appreciated by 7.8 per cent. Nonetheless, if we compare September 2007 with October 2012, we find that the nominal effective exchange rate for the British pound is 19 per cent lower while the real effective exchange rate is approximately 13 per cent lower. This still constitutes a major competitive boost for our exporters.
Explain how the foreign demand for goods and assets generates a demand for British pounds. How will this demand be affected by the foreign currency price of the British pound, i.e. the number of foreign currency units per £1?
Explain how the demand by British residents for foreign goods and assets generates a supply of British pounds. How will this supply be affected by the foreign currency price of the British pound, i.e. the number of foreign currency units per £1?
What factors are likely to shift the demand and supply curves for British pounds on the foreign exchange markets?
Illustrate the effect of a decrease in the demand for British goods and assets on the exchange rate (i.e. the foreign currency price of the British pound) using a demand-supply diagram.
What is the difference between a nominal and a real effective exchange rate? Which of these is a better indicator of the competitiveness of our country’s exports?
Events on the high street continue to grab the headlines. These are incredibly difficult times for retailers as households’ spending power continues to be squeezed and, in conjunction with technological change, households’ spending habits continue to evolve. In this blog we examine what the latest data from Consumer Trends tells us about the composition of household spending.
As Chart 1 shows, the largest component of household spending in the UK is on spending associated with running a home. This component includes rents, expenditures incurred in undertaking routine maintenance and the payments for electricity, gas and water. Since 1997 this component has typically accounted for (after adjusting for price changes) 24 per cent of household consumption in the UK (22 per cent in 2012 Q3). The second largest consumption category is transport. This includes expenditure on purchasing vehicles, fuels, maintenance of vehicles and the costs of rail and air transport. It has typically accounted for about 15 per cent of expenditure (14 per cent in 2012 Q3).
Chart 2 shows the real annual rate of growth in expenditure of our 12 consumption categories from 1998 Q1 to 2007 Q4 and so before the financial crisis really took hold. It enables us to measure how the volume of purchases changes over a 12-month period. From it, we can see that all categories, except education, contributed to the positive real growth of household spending in the UK. The fastest growing component was clothing and footwear recording real growth of almost 11 per cent per year. The second most rapidly growing component was recreation and culture, which includes items ranging from package holidays, garden plants and musical instruments to sports equipment, cameras and books. This component grew, after adjusting for inflation, by nearly 9 per cent per year.
Chart 3 focuses on the real annual rate of growth since 2008 Q1. It paints a very different picture. Now only four categories have on average recorded positive annual rates of growth. Again, the volume of purchases of clothing and footwear has grown most rapidly by 6.3 per cent per year. While purchases on items associated with recreation and culture continue to grow, the annual rate of growth since 2008 is only 1.5 per cent compared with 9 per cent prior in the previous 10 years or so.
