Consumer Confidence Crisis Spells Economic Gloom

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Consumer confidence readings out of the UK are signalling a notable economic slowdown ahead and one economist says investors should be prepared for a "bad outcome" that could even include a recession.

"Confidence surveys, which are published well ahead of official economic statistics, often provide the first indication when something shifts in the underlying economy," says Kallum Pickering, Senior Economist at Berenberg.

Pickering says the recently released GfK consumer confidence survey reveals a "confidence crisis" which means real consumption is probably declining at present.

Releasing their survey, GfK said "the cost crunch" is undermining UK consumer confidence, pushing the headline confidence score down to a near historic low at -38.

Global supply chain issues and the war in Ukraine are exacerbating this inflation-lead crisis in confidence.

GfK's score on the outlook for personal finances read at -26 and the score for the general economy was at -55, both are worse than at the time of the 2008 financial crash.

"When rising inflation and interest rates meet low growth and declining incomes, consumers will understandably be extremely cautious about any spending," explained Joe Staton, Client Strategy Director GfK.

He says there’s clear evidence that people are thinking twice about shopping, which bodes negative for overall economic activity.

GfK forecast further falls in the Index for the year ahead.

"The key question is whether the shock will persist for long enough to cause a recession. With an unusually uncertain near-term outlook, this is not easy to answer. At a minimum, the data suggest investors should be prepared for a bad outcome," says Pickering.

Image courtesy of Berenberg.

The Bank of England is meanwhile looking to raise interest rates again in May to counter rising inflation, but Pickering warns the Bank might make a bad situation even worse.

"The Bank of England (BoE) is in a serious bind," he says, "while the BoE has little choice but to react to the inflation surge, it is clearly running the risk of a policy error by continuing to tighten as the recession risk rises".

Falling consumer confidence and other signs of economic slowdown will act as a handbrake on inflation as demand starts to fade back.

Typically this is also what interest rate hikes seek to achieve.

Furthermore, embedded inflation rates via higher wages could become less of a concern for the Bank of England.

"If workers fear recession, they may just be happy to keep their jobs and not push any erstwhile advantage in wage negotiations. Inflation will be higher than expected in the near term due to Putin’s war, but the surge may be followed by a period of disinflation at rates below 2% for a while thereafer," says Pickering.

"In a worst-case scenario, the BoE may be unwittingly tightening into a recession that is already underway, as well as reacting to an inflation problem that may go away mostly on its own," he adds.

The Bank of England is fully aware of this conundrum.

"We are walking a very tight line between tackling inflation and the output effects of the real income shock, and the risk that could create a recession," said Andrew Bailey in an appearance last week.

The market is currently expecting another 160 basis points of rate rises in 2022, which represents a rapid pace of tightening that takes Bank Rate to over 2.0 by year end. Further hikes are expected in 2023.

But there is a real risk that this pricing must be reduced significantly if hiking contributes to a recession, and the sell-off in the Pound is the market's acknowledgment of this.

The Bank of England is set to raise rates again next week and offer guidance as to just how far off the mark investors are in terms of their present expectations for future rate hikes.