Two significant speeches from senior Reserve Bank officials in the past day or so have added to the arguments and view the central bank has about the current state and direction of the Australian economy, which appeared in this week's minutes of the September 6 RBA board meeting.

In fact both speeches should be read by investors who wonder about the follow the leader approach Australian markets and investors have towards US markets and economy; and by those still wondering why some retailers are doing it well and others (like David Jones and Myer) are struggling.

Take the first speech by Deputy Governor Ric Battellino  in New York where he wondered if Australia would still catch a US cold.

He pointed out that the US and Australian economies had diverged in the past 11 years (the US has had two recessions, one savage. Australia has had a couple of mild slowdowns, but no slump).

But his most interesting comments were his repeating of the argument in Tuesday's board meeting minutes, that that investors and analysts (such as bank economists) may be misreading the reason for the recent fall in market yields on Australian Government securities.

Financial markets seem to have concluded that the risks are weighted towards the Australian economy weakening sharply and, taken literally, seem to be pricing in a reduction in official interest rates towards the unusually low levels reached after the global financial crisis.

There are technical reasons why current market pricing may not be giving an accurate picture of interest rate expectations.

Nonetheless, markets do seem to have reached a pessimistic assessment and this appears to be based mainly on the assumption that weakness in the US and Europe will flow through to Australia, Dr Battellino said. 

He told the conference the present situation has some similarities to that in 2003.

From late 2002 to the third quarter of 2003, financial markets were pricing in cuts in interest rates in Australia, largely on the back of concerns about the sluggishness of the US recovery at that time.

In the event, however, that sluggishness in the United States did not flow through to the Australian economy and Australian interest rates did not fall.



And then there was the speech in Sydney on Australia's recent savings trends by the head of the RBA's economics department, Dr Phillip Lowe in which he provided the first detailed commentary on the recently released household expenditure survey which is done every six years and asks around 10,000 households for detailed information on their spending on some 600 items.

Thanks to the concentration on the rise in savings levels in Australia (10.5% in the June quarter), much of the commentary about the tough retailing conditions has focused on this and not on what consumers actually spend their money on.

Dr Lowe pointed out that are significant changes in saving and spending patterns taking place in Australia.

The effects of these changes are probably most pronounced in the retail sector, with both increased saving and the switch towards services lessening growth in spending on goods.

As a result, conditions are quite difficult for many retailers.

The increased household saving is, however, a positive development from a national risk-management perspective.

Households are using some of their income growth to build up bigger financial buffers, and this should hold them in good stead in the uncertain world in which we live.

These higher saving rates are likely to be quite persistent and they represent a return to more traditional patterns.

And the changes in spending from the latest survey of households produced two changes which stand out and which are impacting directly on local retailers.

The first is the significant rise over time in the share of total expenditure on housing.

When the Household Expenditure Survey was conducted in the early 1980s, housing accounted for a little less than 13 per cent of total expenditure.

By way of contrast, in the recent survey this share had increased to 18 per cent.

This is the largest change in any single expenditure category. The bulk of this change took place over the past decade and largely reflects the rise in interest payments on mortgage debt due to higher levels of debt relative to income.  

The second longer-term change is a decline in the share of spending on goods and an increase in the share of spending on (non-housing) services.

For example, in the early 1980s, spending on clothing, footwear, household equipment and furniture totalled around 14 per cent of total household expenditure.

Today, the figure is just over 8 per cent.

In contrast, there have been substantial rises in the shares of total expenditure accounted for by health, education and a range of household and personal services.

While these increases are partly explained by a rise in the relative prices of many of these services, the volume of consumption of these services has also increased.

The decline in the share of spending on clothing and footwear, for example, is evident across all income groups.

Conversely, households in all income quintiles are spending a higher share on services, with the largest increases evident in expenditure on recreation services, such as pay TV and the internet In addition, for many middle and lower income households there has been a noticeable increase in the share of spending on holidays.

  It would appear that rising incomes, the appreciation of the exchange rate and the emergence of low-cost airlines have made travel more affordable for many people.

There has also been a general increase in the share of expenditure devoted to education and, for higher-income households, a noticeable increase in spending on household and personal services.

Looking forward, it is likely that these broad trends will continue.

And Dr Lowe pointed out that the June quarter national accounts produced more evidence of the changing pattern of spending. 

Returning to the aggregate data, the different trends in spending on goods and services are also evident in the national accounts which measure changes in expenditure adjusted for movements in relative prices.

The differences have been unusually pronounced over the past year, with consumption of goods increasing by around 1¾ per cent, compared with growth of around 4 per cent in the consumption of services.

The recent relatively weak growth in the consumption of goods has led to very subdued trading conditions in many parts of the retail sector.

In contrast, conditions have been better in a number of the service parts of the economy.

Again, according to the national accounts, consumption of education services is up by 5 per cent over the year, recreation and culture is up by 7 per cent, hotels cafés and restaurants is up by over 6 per cent, and consumption of transportation services is up by well over ten per cent.

These outcomes suggest that although households are saving a higher share of their income than in the past couple of decades, they have also been prepared to increase their spending on services quite significantly.

Dr Lowe said just why this was happening was hard to explain. He said it could be higher spending on internet purchases (but he added that this would not be large enough to be a major part of the story).

Another explanation is that there has been a gradual shift in household preferences away from goods and towards 'experiences'.

This would be consistent with the strong growth in spending on recreational activities that has occurred over recent times.

A more important factor though is likely to have been the strong growth in household income.

Over the past year, aggregate household disposable income is up by around 7½ per cent, and this has boosted spending on those services that are quite sensitive to income growth.

In his speech in New York, Deputy Governor Battellino observed:

The one area of the national accounts that surprised was the strength of household consumption.

Retail sales had been subdued through much of this year, and this had generally been taken as a sign of weak consumption overall.

But the national accounts showed that household spending on services has been strong.

Households are spending more on entertainment, eating out and travel, particularly overseas travel.

Readers of Air and AirWeekly will not find this 'new' news in that we have been pointing out that car sales and overseas travel are at or near record levels and have been for much of the past 18 months.

But it is surprising the number of retail analysts and others who have missed this significant change in consumer spending.

What it means is that Australian retailers are mostly facing more pressure if they don't somehow try and meet these changing preferences.


Just look at the retailers that have done well: Kathmandu, JB Hi-Fi, Flight Centre, Automotive Holdings and Super Cheap Group (car products and recreational products and services), Webjet, Jetset and yesterday OrotonGroup, the luxury brands group.

All sell either services such as travel, cars or luxury or consumer products cheaply and efficiently (JB Hi-Fi).

OrotonGroup boosted profit 8% to $24.79 million profit for the year to July 30, up from $23 million in 2010.

Like-for-like sales across the group grew by 7% in the year to July, up from 2% growth in the previous year, a very solid performance given that both David Jones and Myer saw sales fall.

Revenue was 12% higher than in the previous year at $164.4 million.

And CEO Sally Macdonald said sales in the first seven weeks of the company's fiscal 2012 had exceeded expectations, although the company remained cautious about the wider economic outlook.

OrotonGroup has moved offshore, into Asia where luxury sales are booming in many markets.

It began opening stores in Asia in the year to July, and will open one more store opening in November. It has plans for a further three store sites - in Singapore, Malaysia and Hong Kong - this financial year.

In addition to these four new Oroton Asia stores, we will open four Ralph Lauren concession stores in domestic department stores and one Oroton store in Australia, to bring a total of nine new stores for the group in fiscal year 2012, Ms Macdonald said in a statement yesterday.

She said the company was looking at opening a minimum of (approximately) four Oroton stores a year in Asia for the next several years.


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