Saturday, September 24, 2011

That Seventies Feeling

Consumer confidence is an intriguing topic for economists. Firstly, confidence is psychological. And economists have recognised the importance of psychology at the micro and macro levels since George Gallup started measuring and reporting US consumer confidence back in 1938.

Secondly, confidence is emotional. As a concept it captures an array of feelings relating to optimism, pessimism, fear and hope. That a lot of feelings. And certainly a far remove from the straw man of utility maximizing home oeconomicus parodied by many of economics' critics.

Thirdly, confidence is predictive. Especially in relation to consumer behaviour - including spending, saving and borrowing. Crucially, measures of confidence can sometimes determine the near term outlook for economic recovery in recessionary times as it gauges the views of the general public about future prospects. Or lack thereof.

Though consumer sentiment indices can be used to anticipate developments 3-6 months ahead, they can also inform the longer term outlook as well. For example, Robert Shiller focuses on just one of the component questions used to create the Thomson-Reuters University of Michigan Consumer Sentiment Index. It is Question 4, namely:
“Looking ahead, which would you say is more likely – that in the country as a whole we’ll have continuous good times during the next five years or so, or that we will have  periods of widespread unemployment or depression, or what?”
Shiller's rationale, as set out recently, is as follows:
That question is usually not singled out for attention, but it appears spot-on for what we really want to know: what deep anxieties and fears do people have that might inhibit their willingness to spend for a long time. The answers to that question might well help us forecast the future outlook much more accurately.
So where does the index for Q4 stand in September 2011? That's the worrying thing. It certainly has Robert Shiller worried. I've updated a chart for the Q4 Index to end 2009 with the current September 2011 index = 48. It's back to levels last seen in the 1970s and early 1980s.

In America - as in Ireland - consumer sentiment is now bound up in a narrative about debt and risk that will reverberate far beyond just the next few months.  As Shiller sees it, the current, 'depression narrative' will need to be replaced with a more inspiring story. Who will do the replacing is not so clear.

Perhaps economists will have to become better storytellers?


Kevin Denny said...

Interesting data but I am not sure about the question at the end. Are you saying that economists should be more inspiring in the sense of trying to boost confidence? I hope not because that's not our job. Its our job to tell it like it is, whatever it is.
The credibility of those who tried to be more "inspiring" is in tatters.

Liam Delaney said...

I think there are two different issues Kevin. Totally agree with you that the "talking up the economy" nonsense was a virus that crept into the system and did noone any good. Particularly, as many of the people pushing this wanted a narrative that more or less pushed the same economic policise that created the bubble in the first place.

But there is a lot in the idea of the importance of narrative and economists do have a role in putting out recovery scenarios that are achievable. Creating a discussion around what economic recovery will look like, what improvements will be made on the previous model, where real innovation can occur etc., is a worthwhile thing to do.

Rob Gillanders said...

Only a tiny portion of the profession have any business advancing a recovery scenario. Even then, who really believes them? Most of us have the less grandiose but far more worthwhile and achievable objective of answering one well defined question at a time.

Liam Delaney said...

A few semantic knots here Rob. Definitely wasn't advocating some replacement of everyday economic research. Also, not interested in macroforecasts.

The work on narrative that Gerard is referring comes out of Akerlof and Shiller's work. It is very interesting and worthwhile research. Though both and you Kevin are right that it doesn't neccesarily imply a role for the economist in creating narratives. It does emphasise their importance though for how people see their role in the economy, make decisions and so on. Personally, I believe that modern economic research has a potentially very positive role in creating ideas and, for want of a better phrase, narratives for how economies can be run far better than we did in the 20th and first part of this century. Such a pursuit is not in conflict with doing day-to-day research on specific questions.

Liam Delaney said...

Going back to the bulk of Gerard's post, it really is an interesting question as to the extent confidence is driving the continued slow pace of the Irish economy (the minor good news of the last few days aside). It became very difficult to debate this during the last few years as it inevitably gets caught up in the green jersey stuff. But it remains an interesting question. Colm McCarthy and others have argued that consumer confidence is not driving things in Ireland and that, in some sense, what is happening is an inevitable consequence of deleveraging from a major debt-fuelled bubble. This sounds sensible but it is surely only a partial explanation for the consumption down-turn. A proper test would examine at the individual/household level the relationship between debt holdings built up during the bubble and subsquent consumption falls. I haven't done this and dont have the data but I really doubt it would explain the majority of the downturn in consumption. There are other 'rational' reasons for consumption decline including wage decreases, tax increases, some element of Ricardian equivalence etc., But it is worth asking how much of the decline is fear itself and other purely psychological factors such as herding, priming from media, fear of social disapproval etc,.

Rob Gillanders said...

I think we agree for the most part but are using different terms. If by "narrative" you mean a body of research that points to what matters and how these factors can be improved upon, I agree that that is a good justification for economics. But, we don't live in a world where politicians or civil servants are preparted to listen to us, for the most part anyway. So I just justify my existence by the aul love of knowledge argument and look forward to the advent of a benovelent dictator.

Liam Delaney said...

The interaction between economists and government is an interesting one. We'll definitely be getting back to that at some stage.