Retail Forecast for 2008 & 2009
From Professor Joshua Bamfield,
Centre for Retail Research. (January 2008)
CARE NEEDED: AN APOLOGY
Preparing a retail forecast for the next two years has not been so uncertain for 15 years. This is because the UK and the world economy are in a mess and no one knows how long this will last, how bad it will get, and whether some other problem will occur to worsen the situation even more.
A reasonable forecast should have a probability of around 70%, but this year we will be fortunate to get anywhere near that. We expect that the outlook will be clearer by April 2008. At least by then it should be evident whether the current crisis has merely been a short-term problem.
OUR FORECAST FOR 2008-09
2008 will be a tough year for retail businesses and the prospects for 2009 may be little better. Cost pressures, weak demand, some economic unravelling, competitive pressures from superstores and online traders are likely to dominate trade prospects. There will still be winners of course and plenty of losers.
Zero or negative sales growth in volume terms in 2008, between -1.7% to 0.0%. The year 2009 is harder to predict. For 2009, much will depend on whether the financial markets and world trade are in better balance than 2007, in which case, we are optimistic (growth of +0.2% to 1.2% in volume terms) or still in a mess, pessimistic (a fall of -0.6% volume).
We think inflation will rise in 2008 and fall in 2009, making retail sales estimates in value terms problematic, but we forecast a rise of 3.2% (value) in 2008.
Fairly optimistic about Christmas 2008, we think it should be 2.5%-3.0% up in value terms on 2007.
The interest rate, currently 5.50% is likely to fall further, at least two reductions. We would be surprised if it fell below 5.00%, but if the Monetary Policy Committee decided either (1) inflation is not a big problem (unlikely), or (2) the horrors of a recession are greater than the dangers of inflation, it could go down further. We expect them to wait and see at first what happens as a result of the most recent cuts.
The retail year will be dominated by: price increases in fuel and food squeezing consumer spending; growing problems in the US and Europe harming the UK economy; a housing slowdown; redundancies; and negative feelings amongst consumers and businesses.
For shops we believe supermarkets and Internet traders will do well. DIY, furniture, household, books, sports, and electricals will do badly. Clothing and fashion and probably department stores will be iffy.
Retail in 2008 will show more clearly the divide in UK society, with shops for nice people (such as Waitrose and JLP) doing well and shops for the less-nice people having to compete much more vigorously. Well-off people are increasingly pre-occupied with quality, interest, difference, naturalness, and provenance and are already starting to move back from Primark and Lidl to other shops and farmers markets.
In a tough market, retailers will need to work harder to attract customers. 'Me-to' price offers will become increasingly ineffective in promoting demand in an environment where the retail offer is often unexciting and trading at low prices is required of all businesses. Meanwhile, overseas investors from China, Russia, and the Middle East will continue to use their high trade earnings to buy quality UK assets, including retail businesses.
WHERE DO WE STAND NOW? THE THREE MAIN CRISIS OPTIONS FOR THE UK ECONOMY
There are three opposed views held by economists and analysts about what is going to happen to the UK economy. Whether DIY sales increase by 2.0% or fall by 6.5% depends upon which of these options actually turns out to be right.
Option 1 It's only a short-term problem: by April-June 2008, the temporary factors creating this situation will have eased because improved credit conditions (ie banks lend to each other more readily) and concerted action by central bankers will have improved the economic picture. There may be a temporary economic slowdown in the first part of 2008, but this would be a prelude to the resumption of growth from mid-late 2008.
Option 2 There will be a major recession: we are at the start of a major international unravelling that will lead to sharp falls in economic activity and may last for two to three years. A columnist in The Times says it "will make 1931 seem like a walk in the park".
Option 3 A significant problem, but not too bad: the economic problems, both UK and worldwide, will take six to nine months to sort out and will not produce growth for another six to nine months later (ie till mid 2009). There will be significant credit problems and a housing crisis.
Our forecast is based on Option 3 being right. We feel Option 1 is cloud-cuckoo land and the doom-sayers of Option 2 are being frivolous in a different way. If the politicians get it wrong, Option 2 may still happen, but we plump for Option 3 (significant, but OK in the end).
We say this because: the fifteen years of uninterrupted UK growth are petering out, none of the individual marvels which have rescued the UK at times since 1992 are available, and the policy makers are doing the wrong things.
The major current problem is a monetary/liquidity crisis that requires rapid expansion of the money supply - and it is not getting it.
The source of many of the current problems and the answer is in the USA, which no longer has much of a government and is obsessed with electing a new President not on the grounds of economic competence but 'character' 'vision' etc. So they may have lost the plot till Jan 2009.
In the past fifteen years, the UK economy has been saved at different times by a retail consumer boom, higher government spending, US growth acting as a motor of world economic expansion, and falling import prices. None of these is remotely likely to appear again in the next 18 months. The EU is stagnating and we cannot expect much economic growth from that quarter either.
We are not complete pessimists because
we feel that the international community will, in the end, collaborate to overcome joint economic problems.
HOW DID WE GET HERE 2004-7?
After 2001, the UK Government used growth in retail spending to generate economic growth as it ploughed money into public services. Households increased their net borrowing by raiding the equity of their houses, credit card borrowing and buying property (including property for rental) on mortgages that were an absurdly high percentage of their incomes. From 2004, retail growth ended as interest rates were raised and the tax take increased. The growth in consumer spending fell, hitting retailers. Optimism by some analysts (not us) in early 2007, that growth would resume was met instead by rising fuel and commodity prices. A financial crisis that that was made in America, based on parcelling up poor-quality housing loans and selling them to banks across the world as first-class loans cut interbank lending, which knocked out a major UK mortgage bank, Northern Rock. The housing market has suffered price reductions, mortgage refusals and lower activity. More people are finding that credit is either refused or available only at higher interest charges.
Table 1 shows some sharp reversals in retail sales on a monthly basis and a market that was starting to improve from February 2007, but which proved to be weak towards the end of the year.
WHAT HAPPENED TO CHRISTMAS?
In Christmas 2006, once forecast to be the 'worst for 25 years', December sales rose 1.1 percent on the month, the highest monthly rise since June 2005, and the best December for three years. This was more than double what most analysts had predicted. In 2007, Christmas was weak: footfall was down (it fell by 3.2% in December 2007) until many retailers started slashing prices to ensure they were not left with unsold stock in January, prompting last-minute shopping and high sales post-Christmas. Sales in December 2007 were up by 2.4%.
RETAIL INFLATION
The Government's inflation target is 2.0% pa of the Consumer Price Index (CPI), an internationally-agreed measure of price changes.
Retail inflation - ie the price of goods sold in shops has been about one-half the national rate - perhaps 0.8%-1.5% every year since 2000.
This should be distinguished from the Retail Prices Index (RPI) (including mortgage interest) which is no longer a good measure of shop prices.
By November 2007, the CPI index showed a growth of 2.1% over last year and the RPI 4.3%. The trends of prices are all upwards. Oil, which cost $55 per barrel in January 2007, now has topped $100, there have been utility price increases, food is dearer, and goods from China are no longer so absurdly cheap. The most recent Producer Prices Index Input Prices (materials and fuel) rose by 10.3% compared to November 2006.
Wage increases in the private sector are likely to be 4.0% to 4.5% and the Government will find maintaining a wage cap of 2.0% for the public sector extremely hard. This will add further to inflation.
Retail businesses will still be under competitive pressure to limit price increases but will suffer cost increases in wages, rents, import prices, and heating and distribution costs. In 2008, we expect retail inflation to be around 1.5%.
INCREASE IN RETAIL VOLUMES
Higher inflation and low sales growth mean that there should be no increase in retail volumes (real terms). In 2008, we expect there will be a zero increase in trade volumes.
SO WHAT'S GONE WRONG?
- Interest rates During 2004-2007, the Bank of England used interest rate increases to control the housing market and reduce inflation.
- Housing This turned the housing market downwards (except in the South of England) and people selling houses are likely to see price falls of 12% compared to last year. If this get really serious, then price falls of up to 20% are likely and would take three years to unravel (this is unlikely).
- Credit Squeeze Banks are not lending to one another (much), the supply of credit to poor-quality borrowers is much reduced and this will obviously affect consumer spending.
- Utilities and Fuel High prices for utilities and fuel will squeeze household budgets and drive inflation.
- Trade The UK balance of payments is negative and worsening and may be -6% of GDP in 2008. This is not a terrible problem but expect the authorities to try to reduce the trade deficit.
- The USA The US has allowed the $ to decline by 24% against other currencies since 2002 and this will promote US exports and reduce imports. Selling goods and services to the US will become more difficult.
- Europe Trade with Europe will be no easier, as the eurozone is likely to stagnate. The value of the euro is probably too high and countries such as Italy, Spain, France and Greece would benefit from moderate depreciation although Germany's trade surpluses continue to mount. It seems unlikely that the euro will depreciate or that Greece and Italy will 'go it alone'. So, stagnation!
- Household savings ratio The proportion of household income that is saved is historically low and fell last year from 4.4% in 2006 to about 3.2% (complete figs. Not yet available). Analysts expect this ratio to rise again, but we think any increase will be small in 2008 although it may be 6% in 2009.
JANB
4 January 2008