Why UK consumer spending growth continues to outperform the economy despite further slowdown

UK consumer spending is set to continue to outperform the economy, but potential roadblocks lie ahead.

Although consumer spending growth slowed to a six-year low of 1.8% in 2018, this was a stronger performance than was forecast in the 2018 EY ITEM Club Special Report on Consumer Spending.

This trend for growth to surprise on the upside has continued with an increase of 0.7% over the previous quarter in the first three months of 2019.

The stronger than expected performance was due to more robust employment growth than predicted and a marked pick-up in real earnings growth over the second half of the year. With annual real earnings growth rising from just 0.1% in mid-2018 to 1.5% at the end of 2018, consumer confidence held up much better than business confidence. As a result, consumer spending in 2018 was once again the major driver of UK economic growth.

The consumer remains very dependent on the labour market …

However, as the EY ITEM Club notes, growth of 1.8% in consumer spending was the slowest rate of increase since 2012 and was significantly below the increase of 3.2% in 2016. Spending was also volatile with retail sales a case in point, with wide variations in growth rates throughout 2018. With debt levels having risen and savings rates falling, consumers will need to be confident about their employment prospects if they are to continue to drive the economy forward.

Our sense is that as the EY ITEM Club identifies, earnings growth is likely to slow slightly over the rest of 2019 while the rate of job creation will slow as the labour market softens. The EY ITEM Club expects employment growth will be 1.0% in 2019 and 0.6% in 2020, and that annual earnings growth will average 3.2% over 2019. With average consumer price inflation seen dipping to 1.8% in 2019 from 2.5% in 2018, overall inflation-adjusted pay is forecast to average 1.4% in 2019, down slightly from the end of 2018’s real earnings growth of 1.5%.

… meaning relatively low growth remains the norm ...

Consumer spending may gain some support from workers at the lower end of the pay scale benefitting from the National Living Wage rising by 4.9% in April 2019 and the National Minimum Wage seeing increases of 3.6%–4.3%, together with increases in tax thresholds. On balance, the EY ITEM Club sees consumer spending rising broadly in line with increases in real disposable income growth over the next couple of years. After slowing to a six-year low of 1.8% in 2018, it is forecast to remain at similar levels of 1.6% in 2019 and 1.7% in 2020.

… creating a set of challenges for business

The economy is unlikely to deliver growth to consumer-oriented businesses, and success will be dependent on a positive result in the battle for a greater share of the consumer wallet, which in some segments could be shrinking in real terms.

In this challenging environment, businesses looking for long-term sustainable success should consider:

• Reshaping and restructuring business models in order to adapt to the pervasive change in consumer and shopping habits. Organisations need to be bold in re-invention and, where possible, maximise the declining benefits from existing business models to help fund transformation.
• Reviewing the size of cost bases and infrastructure across the organisation. In many cases, operational structures that have developed over many years cannot be supported in today’s environment. Bravery to strip out previously trusted competences is required to flexibly keep up with the pace of change.
• Putting the consumer at the forefront of strategic thinking and understanding what it takes to engage with today’s consumer (and the consumer of tomorrow). In our increasingly ‘experience everything’ world, consumers expect transparency, personalisation and connectivity. Businesses need to provide this experience at every stage of the customer journey.
• Recognising that consumer buying habits will continue to change at pace and plan how best to remain relevant. As consumers rely more and more on intermediary technologies (such as smart home systems) to curate choices and purchases, many products will become a commodity — very few will have the engagement of discretionary shopping.
• Clarifying the definition and articulation of their brand and business purpose, in order to engage with both consumers and talent. More successful businesses will have a differentiated (or bold enough) purpose, embedded across the organisation so that is felt at every touch point with the consumer.

For the full findings on UK consumer spending and the implications for business, download our report.

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