“Business Confidence in Freefall” is among the milder headlines these days. The Government needs to get over its business antipathy! Taranaki is just the first to suffer! Seventies-style unionism redux! Are there any builders left? We’re stuffed!
But I wonder. Is this confidence polling a predictable jab at the Labour-led Government by a very grumpy business community? More broadly, is a change in polled business confidence a leading indicator of a change in the overall economy? My admittedly perfunctory research led me into unaccustomed corners of psychology and macro-economics.
I first found Robert Shiller’s “Confidence and Its Effects on the Economy” (New York Times, March 2013). Shiller was rather discouraging: “For years, I’ve been troubled by the problem of understanding the social psychology and economic impact of confidence. There hasn’t been much research into the emotional factors and the shifts in worldview that drive major turning points. The much-quoted consumer sentiment and confidence indexes don’t yet seem able to offer insight into what’s behind the changes they quantify. It also isn’t clear which factors of confidence drive the separate parts of the economy”. And “Hope is a wonderful thing. But we also need to remember that changes in the stock market, the housing market and the overall economy have relatively little to do with one another over years or decades. Furthermore, all three are subject to sharp turns. The economy is a complicated system, with many moving parts.”
Macquarie Bank (May 2016) was more helpful. They “analyzed several common factors that impact confidence, including: –
- Changes in interest rates and/or exchange rates…
- Swings in the business cycle …
- Shifts in the relative prices of nondiscretionary goods and services…
- Large external economic and/or financial shocks …
- Announced policy shifts in the stance of government fiscal policy…”
Macquarie accepts that “sentiment shapes activity”. “Heightened economic anxiety and languishing confidence will have manifest impacts on the health and wellbeing of the economy, often determining whether or not it can reach and sustain its long-term potential rates of growth”.
My clincher was a hefty piece of research, “The Causality Relationships between Economic Confidence and Fundamental Macroeconomic Indicators: Empirical Evidence from Selected European Union Countries”, Demirel and Artan, The International Journal of Economics and Financial Issues (2017).
The authors concluded: – “Economic confidence is an important tool in predicting macroeconomic changes. In this study, causality relationships between the confidence level and the fundamental macroeconomic indicators are analyzed using panel data analysis for 13 European Union countries for the period 2000: 1-2014: 12. According to the obtained results, a bidirectional causality relationship between the level of confidence and consumption expenditures, industrial production and inflation; a unidirectional relationship from the level of confidence to the unemployment rate (UNE); and a unidirectional relationship from interest rates to the level of confidence were detected. These results are compatible with the view that economic confidence is a leading indicator in explaining the changes in macroeconomic indicators”.
What I found confirmed my experience with hundreds of directors and CEOs who are considerably affected by prevailing sentiment and expressed market confidence in their gauging of future demand and thus their discretionary spending.