Irish Misery Index on rise after all-time low

Irish consumer sentiment, as captured by the KBC/ESRI monthly index, reached a record high early in 2016 before slipping back later that year.It has picked up again in recent months and is now close to the previous peak. Households would therefore seem to feel good about the economy and their own financial situation and an alternative measure, the Misery Index, tells a similar story.

That is simply the sum of the unemployment rate and the inflation rate, two readily available monthly indicators that are likely to have a strong impact on the average household. The index fell to around 6 in 2004, reflecting an unemployment rate of 4.5%, and soared to a high of 18 in 2011 amid a collapse in employment.

The steady fall in unemployment in recent years has been the main driver of the decline in the index, which fell to an all-time low in June of 5.7%, with inflation at -0.4% and unemployment at 6.1%.The latter has fallen further, to 6.0%, but inflation has turned modestly positive so the index is now rising again, albeit still at 6.3%.

The Misery index has probably bottomed in this cycle, however, given the likely trend from here in inflation and unemployment. The latter may find it difficult to fall much further as the recent data implies we are at or near full employment; it has taken five months for the unemployment rate to fall from 6.2% to 6.0%.

Inflation may well see the sharpest change. Falling energy  prices and lower mortgage rates were big factors in dampening the CPI over the past three years but energy costs  have now started to rise again on an annual basis and mortgage costs are now unchanged on a year earlier.  The euro’s appreciation against  Sterling has proved a significant  counterweight over the past year, reducing the price of imported goods, notably food, but that will not be repeated absent another lurch down in the UK exchange rate.

Consequently, we may well have already seem the low of the cycle in the Misery index, although the increase may well be at a modest pace.

Record rise in Irish Household real incomes in 2015

In the absence of some wild data revisions it would seem that the Irish economy grew by at least 7% in 2015, and a few weeks ago it emerged that tax receipts rose by 10.5%, providing further evidence that last year was indeed extraordinary in economic terms. The CSO  recently published figures on sectoral income and savings, taking in the third quarter of 2015, and they show that households also saw a spectacular growth in disposable income- indeed, in terms of spending power, the rise outstripped anything seen in the Celtic Tiger era, albeit coming after a longer series of declines.

Irish Household disposable income peaked in 2008 at over €100bn and then fell for five consecutive years, to under €86bn, a decline of some 15%, reflecting a plunge in employment, falling wages and a rise in average tax rates. Consumer prices were broadly flat over that period so the decline in real income was also around 15%.

The recovery in 2014 was modest, with nominal income rising by 2.7%, but last year saw a sharp acceleration; the annual pace of growth rose from 5% in the first quarter to over 8% in q3. Consequently, absent revisions ( which can be large) household disposable income probably grew by around 7.5% last year, fuelled by strong employment growth and an acceleration in average earnings. This would leave the nominal increase below that recorded in 2003 (7.9%) , 2005 (9.8%) and  2007 (8.6%), when employment growth and wage increases were stronger, but consumer price inflation was also higher over those years, so eroding some of the gains in real terms. CPI inflation in 2007 was 4.9% for example, and  2.5% in 2005. In contrast, the CPI index actually fell in 2015, by 0.3% , so in real terms the rise in disposable income last year is far stronger than recorded in the boom years.

The recession prompted households to boost precautionary savings and repay debt  with the  result  that the gross savings ratio (the proportion of disposable income not spent) rose from 5.8% in 2007 to a peak of 14.1% in 2009. Since then it has declined steadily, falling to 5% in 2014, although the strength of income growth last year seems have caused a significant rebuilding of savings, with the seasonally adjusted ratio rising to 10.3% in the third quarter and implying an annual figure of perhaps 8%.

The income and savings data confirm that households are in better financial shape than they have been for a long time and in that context it is perhaps less surprising to see consumer confidence at a 10-year high.

Irish Consumer Confidence is a puzzle

Irish consumer confidence , as measured monthly by the ESRI/KBC index,  has risen sharply over the past year and is now back at levels last seen in early 2007,  i.e. before the financial crisis and subsequent plunge in Irish employment and economic activity. The economic situation in Ireland has  certainly improved of late but the scale of the change appears at odds with the buoyant confidence readings and is difficult to explain.

The index is compiled from a telephone survey of households and is based on a number of questions involving the respondents own economic situation and perceptions of the broader economic backdrop. The series is volatile and is best viewed as a three-month moving average and on that basis  over the past  decade  has ranged from over 100  (during 2004 and 2005) to around 40, the low recorded in mid- 2008. Confidence subsequently picked up to a high of 66 in mid-2010 before plunging back below 50 around the bail-out and  entry of the Troika later that year. A slow and uneven recovery ensued but the past twelve months has seen a marked acceleration, with the index currently standing at 85 from around 60 in the spring of last year.

As noted, this is now at levels last seen some seven years ago but the economic backdrop then was very different. The economy was at full employment, for example, with the unemployment rate at 4.5% against 11.7% now, although the latter has fallen from a peak of over 15%. Inflation was much higher back then, at around 5%, as against the current 0.3%, but the Misery index (the sum of the unemployment rate and the inflation rate) was still lower , at 9.6 versus 12 today. Wages were also growing strongly in 2007, by 5% per annum, in contrast to the falls recorded in recent years ,and of course disposable income has also been hit by tax increases since 2008.

The index is thought to have  a close relationship with retail sales and consumer spending but again the picture is very different in the two periods; real personal consumption was growing at an annual rate of some 7% in the first quarter of 2007 but the most recent figure, for the final quarter of 2013, showed a 1.1% fall in consumption. Spending probably turned positive again in the first quarter but most forecasters envisage a 2% rise in 2014 at best,  far from the pace recorded when confidence was  last at similar levels.

It may well be that the index is responding in an exaggerated manner to specific variables, such as the rise in house prices ( which is not positive for everyone), or simply reflecting relief that the economic situation is not as dire as was the case in 2008-2010, and that the economic outlook, although still cloudy, is at least somewhat clearer than  appeared at the worst of the crisis. It is also possible that the consensus is wrong and that spending will surprise to the upside so supporting the confidence index as a useful forward indicator of spending. Time will tell on that issue but it does seem clearer that another observed relationship involving the index has indeed broken down, at least for now- the correlation between consumer confidence and support for the government. In general, strong readings in confidence tended to go hand in hand with strong support for the sitting government, as captured by opinion polls, but that relationship appears to have well and truly splintered of late , as the confidence surge over the past year has not translated into a  boost for the  government in the polls.