Caution Rather Than Confidence Is Key Feature Of Recovery


This article was originally published in the Irish Independent on January 21st 2016.

2015 was the year we said a proper goodbye to the downturn in Ireland. What precisely might replace the pain remains unclear. There is a strong sense that conditions should be notably better than those experienced since 2008- a not particularly demanding expectation. Equally, there is widespread scepticism that we might return to the boom, a possibility hinted at both in the strength of recent economic releases and the scale of largesse emerging in political promises.

On some measures, it might seem the boom is already back.  Current estimates put Irish GDP growth at around 7% in 2015 which would be the strongest performance since the year 2000. With car sales surging, unemployment tumbling and worries about a shortage of housing, there are clear echoes of earlier times.

Confidence surveys appear to send a similar message. The KBC/ESRI consumer sentiment index posted a new ten year high in December while business sentiment, as measured by the index KBC developed with Chartered Accountants Ireland, reached its strongest level in over nine years. Firms and households both seem to be signalling that things are clearly improving. However, the details of these surveys suggest the future looks quite different to the past. They suggest caution rather than confidence is the key feature of the upswing.

For the majority of Irish based firms, the business sentiment survey suggests 2016 is starting on a very positive note. Some 65% say their activity levels increased in the past three months compared to just 6% that reported weaker trading conditions. This suggests a very broadly based upswing is underway and is expected to continue in coming months.

Significantly, the survey suggests companies are adjusting their output and staffing levels in response to rather than in anticipation of improving demand. Usually, at this stage of the cycle, improving ‘animal spirits’ would prompt firms to scale up production and add aggressively to their payrolls. Instead, it seems the painful experience of recent years, coupled with a quite uncertain global backdrop, is producing an altogether more cautious approach. Irish companies are confident that recovery is underway, they are increasing output and employment but in a measured way that suggests they remain to be convinced that the good times have returned.

This caution is deeply entrenched. While more Irish businesses began to report increases rather than declines in their own output as far back as late 2012, it wasn’t until late 2014 that they began to signal optimism about the broader Irish economy. This implies that uncertainty rather than ambition has been the key influence when deciding how much to produce and how many to hire. In turn, this means the Irish economic upswing has been a story of companies catching up with rather than anticipating improving demand.

For Irish consumers, the recovery in confidence has been a very different process. For a considerable time, consumers were reading about an improving Irish economy that seemed entirely removed from a continuing deterioration in their personal finances. This stark divergence between the blossoming Irish recovery of media reports and the financial strains consumers were experiencing did not make for happy households.

Importantly, through the past year, a sense that Irish consumers might be beginning to share in the economic upturn began to build. Initially, this reflected reduced fears of job loss. It then began to seep into reduced pessimism about personal finances. An improvement in property values and low inflation helped in this regard as incomes remained under pressure. More recently, the end of major austerity measures and two Budgets that supported rather than shrank spending power seem to mark a turning point for consumer sentiment.

December’s ten year high in consumer sentiment clearly indicates confidence is returning. Equally, with many still facing challenging conditions, this result emphasises just how difficult most of those ten years were for the average Irish household. Even now, slightly more consumers think their financial situation worsened (27%) than believe it improved (24%) in the past year.

There is an emerging sense that things should get better. For the first time since 2007, the past year has seen a greater number of consumers expect their personal finances to improve rather than deteriorate in the following twelve months.

The December survey shows 33% of consumers anticipate better spending power in 2016 but as many as 16% expect their household finances to worsen in the year ahead. Among that significant latter group are those facing a range of difficulties encompassing unemployment, low incomes and high debt. More generally, responses to this question suggest that two-thirds of Irish consumers do not think their personal finances will improve in the next twelve months.

There is still a striking disconnect between reports of a booming Irish economy and the economic realities facing most Irish families.  ‘Feel-bad’ may have faded but the ‘feel-good’ factor is still scarce. In these circumstances, it is scarcely surprising that promises of lower taxes and higher social spending seem so seductive.

While there are pockets of strength and regular media reports of a return to ‘conspicuous consumption’, there is little sense that, in aggregate, Irish consumer sentiment or spending are now approaching anything like a ‘Tiger’ trajectory. The painful experience of recent years has left many, possibly most, households scarred and cash strapped. This is seared into their attitudes and their actions.

While increased employment and pent up demand for cars, household goods and even clothing may be boosting purchases of late, recent retail sales data highlight how hard shops work for every Euro. The volume of spending in November may have been about 10% higher than the last boom year of 2007 but the amount of cash that Irish consumers spent was some 16% lower reflecting the scale and spread of price discounting.

Irish consumer and business sentiment measures now signal a widespread sense that the worst is over and economic recovery has taken hold. Companies are notably more confident about their own financial circumstances than are households. To a significant extent, this reflects the nature of a recovery that was led by external demand for business output while consumer spending power was curbed by a sharp and substantial domestic adjustment. In addition, the business sentiment survey reflects only those companies that survived whereas consumer sentiment reflects the spectrum of household circumstances.

Significantly, both surveys emphasise the recovery is being earned rather than enjoyed at present. That is understandable. The traumatic nature of the recent downturn is likely to make companies and consumers altogether more concerned about the risks of being too optimistic rather than too cautious in their behaviour. It is said that it took a generation to shake off the memory of the great depression in the US.  Will widespread promises of fiscal largesse erase such concerns in Ireland or make households and businesses even more cautious? We will learn a lot about the lessons and the legacy of the downturn in coming months. 

This non-exhaustive information is based on short-term forecasts for expected developments in the economy and financial markets. KBC Bank cannot guarantee that these forecasts will materialize and cannot be held liable in any way for direct or consequential loss arising from any use of this document or its content. The document is not intended as personalised investment advice and does not constitute a recommendation to buy, sell or hold investments described herein. Although information has been obtained from and is based upon sources KBC believes to be reliable, KBC does not guarantee the accuracy of this information, which may be incomplete or condensed. All opinions and estimates constitute a judgment as of the date of the report and are subject to change without notice.