Wednesday, January 16, 2008

Predicting Recession?

More and more economical experts agree that we are at the beginning of a recession in the US. One of the key indicators that is being frequently used to determine the likelihood of a recession is the Consumer Confidence Index. The two most prominent monthly indicators of consumer confidence are the “Consumer Confidence Index” (published by the Conference Board) and the “Index of Consumer Sentiment” (compiled by the University of Michigan Survey Research Center). Both Indicators are supposed to reflect the current and future psychological state of consumers. It tries to correlate a consumer feeling into likelihood of consumer spending with a 6 month horizon. It’s a very important index since approximately 70% of our GDP is consumer spending, the rest is capital and government spending.

The Conference Board surveys 5,000 U.S. households. The survey consists of five questions that ask the respondents’ opinions about the following: Current business conditions, business conditions for the next six months, current employment conditions, employment conditions for the next six months, total family income for the next six months. The Consumer Sentiment Index asks fewer consumers on a monthly basis but dives deeper into more dimensions.

If the consumer confidence index is a reliable recession predictor, then the consumer confidence index should have a time leading correlation to economic growth with a leading time of 3-9 months. Joseph Ellis, a leading retail analyst, makes a strong argument in his book “Ahead of the curve” that there is not such a case. There is a strong correlation between both indices but their pattern occurs concurrently with no leading predictive quality of any of the two consumer confidence indices.

So, what is then the value of a consumer confidence index, if it can’t predict a recession or an uptick in our economy? I see some interesting opportunities:
  • First, we make the mistake of looking at the average consumer confidence index across the whole US population. It can be extremely insightful to build a segment specific consumer confidence index that allows a company to understand on which segments it should focus on during a recession. For us marketers it is difficult to act on averages.
  • Second, we ignore too often the different consumer confidence levels in regards to different types of spending. There might be some decline in certain categories but not in all. The 2007/2008 holiday season saw a significant decline in most retail categories but not in technology gadgets and very high end jewelry. A better understanding of vertical specific consumer confidence would enable marketers to be smarter about product focus and launches at the right in an economical cycle.
  • Third, it would be worth the experiment to transform the consumer confidence index into a stronger behavioral based index. It’s always difficult to use a survey as the foundation for predictive quality but we might be able to identify certain consumer behaviors that could stronger predict a likelihood for a recession.

This whole debate shows that the marketing discipline needs to better understand and leverage economical metrics that could improve our understanding of consumers.


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