Natural disasters curb retail spending but sentiment to improve in second half: Access Economics

The retail industry has been battered by natural disasters in Queensland and a shocking Christmas, and will continue to remain weak during the first half of the year, but stronger employment and wages growth will ensure a stronger second half, a new Access Economics report argues.

The new report also claims that although the food and household goods sectors have been hit the most by frugal customers, these two sectors are also the most prepared for any growth.

“We see food improving because it’s been at such a low point during the last year. The significant scope of sales growth there is large,” Deloitte Access Economics partner David Rumbens says.

“More broadly, we see household goods as probably the key beneficiary to a lift in discretionary spending.”

The report says the natural disasters will have key effects for the retail sector – output losses from crops, mining and engineering will mean a weak GDP result for the March quarter. That will be coupled with increasing prices for fruit and vegetables.

Rumbens also points out the overall sentiment will reinforce the current consumer trend of caution towards any type of discretionary spending.

Access says these factors all mean the first half of the year will be tough for retailers – many will continue to discount, and the high Australian dollar means price deflation will be a big problem for some bigger companies.

“A key culprit is interest rates, which have now risen considerably from their emergency lows,
taking away a chunk of disposable income,” Access says.

“Scarred by the GFC, Australians are now a lot more cautious, with a large proportion of the boost to national income being saved instead of spent. Hence retail spending has been lacklustre at a time when income growth has been strong.”

That trend culminated in poor Christmas sales – over the entire 2010 year, sales growth was just 1.1%.

“The other factor is the underlying trend,” Rumbens says, “that spending growth has not enhanced income growth, and so we’ve seen an increased savings rate”.

However, the Access Economics report says this will change. With increased employment, (jobs growth was 3% in the year to January), higher wage pressures and a recovery from natural disasters in the north, consumers will be prepared to spend more.

“Income growth is pretty good, if consumers either maintain or drop their savings rate, that’ll mean spending growth is back in line more with income growth.”

“It’s very much income growth that’s important, and what it does to the unemployment rate. If it drops to 4%, which we expect, then that will give consumers more confidence to lower their savings rate and spend more.”

Some sectors are set to benefit more than others – clothing retailing has suffered during the past year as unseasonable changes in weather have led to lower sales. But Access says a “more normal change of seasons” will ensure higher sales in the second half.

And while the construction industry means new home building activity is continuing to decline, Access says household goods sales rose by 3.1% during the December quarter, signalling a better performance in 2011-12 as discretionary income continues to rise.

Sales growth in that second quarter is expected to reach 4% in 2011-12, followed by 4.6% and 5.4% in the two following years.

But it is the food industry that will benefit the most this year, coming off of some truly disappointing lows. While sales may be slow even in the second half, as damage from the floods and cyclone impact prices, Access says the 2012-13 results will rise even higher to 2.5%, and then 3.6% in 2013-14.

Overall, by the end of 2011 Access expects retail sales growth to reach 3%.

Victoria is the state pinned as the “shining beacon” for retail, with sales performance at 4.3% over the past year – the next highest result was 1.5%.

Access says steady jobs growth, housing construction and solid real estate prices have helped discretionary spending, but also warns the high Australian dollar and rising interest rates may keep spending constrained.

That will also mean flat housing prices could have an impact on spending.

“In the past there has been a strong link between the savings rate and asset prices. So house prices have been important in allowing people to spend more of their income. But in the short-term we don’t see that as a huge factor, so we think house prices will pretty much stay in the sidelines,” Rumbens says.

There is another big fear – petrol prices. During the past two weeks prices have reached 29-month highs, mostly due to supply restrictions caused by turmoil in the Middle East.

Rumbens says prices are a factor, but not a major one. The impact will only be large if prices remain high over a period of months, not weeks.

It’s hard to know at this stage if petrol prices will be temporary or not. Oil prices are going up because of supply disruption. Underlying demand will remain strong. It’s important, but it’s not a make or break for retail spending.

If petrol prices go up a fair way in a short period of time it certainly does add up to other spending, but in terms of the overall consumer budget, petrol is still a reasonable small proportion.