Analysis - Economic trends Christmas is coming

How far does Christmas largesse distort the economic picture? Stewart Robertson investigates.

Stewart Robertson, a director of Lombard Street Research. The views expressed here are the author's.

We have all opened Christmas presents that have obliged us to put on a forced grin before thanking the relative (it's always a relative - never a friend) for the item that, strangely enough, we had never considered purchasing ourselves. Spending patterns get distorted at Christmas. We purchase too much of some things - food and drink being the obvious examples.

We spend excessively, buy things that we don't need and that others don't want. Christmas is a time of excess. But has it got worse? And how important is Christmas to the economy? Can it affect economic growth and inflation or influence where interest rates go?

Spend, spend, spend

In 2003, British consumers spent a grand total of £240bn on the high street. In fact shopping has changed, of course. In addition to the rising number of out-of-town shopping centres, online spending has soared. In the run-up to Christmas last year, 7% of total spending was accounted for by such purchases. This year that proportion could be as high as 12%. Just four years ago, it was negligible.

If the £240bn spending were evenly spread over the year, then obviously December would account for £20bn. In fact, the total in 2003 was £27bn, a third as much again as a 'normal' month. In other words, if we assume that all Christmas-related purchases are made in December (sounds right to me), then we raise our spending by 33% from usual levels in the festive season.

What this means is that December is by far the most important month for UK retailers. Poor trading over the Christmas period can ruin a company's annual earnings statement. Conversely, a good performance can provide a very comfortable cushion for the rest of the year. No wonder retail finance directors and chief executives sweat about corporate strategy towards the end of the year.

Christmas 2003 was a rough time for such big hitters as Marks & Spencer, WH Smith and Sainsbury's. Fortunes for these companies have not really improved much since. Others, who enjoyed Christmas last year, included Dixons, Next and Boots, all of which have continued to do well. This second group still feature widely in analysts' share recommendations, unlike the former.

Somewhat surprisingly, Christmas largesse does not appear to have got worse, at least over the last two decades. Despite many claims that spending has become ever more frivolous and extravagant, estimates of the 'extra' expenditure generated in December have been remarkably stable since the mid-1980s. If anything, we have reined in our seasonal spending slightly.

In the 1980s we spent, on average, 35% more in December than a 'normal' month. In the 1990s this slipped to 34% and last year it was 32%.

The only discernible feature over the last 20 years has been that during consumer booms (the late 1980s, 2000) we splash out a bit more - the 'excess' rises to between 35% and 40%. But this is hardly significant. The one caveat to this conclusion is that we probably get more 'bang for our buck' these days. Global competitive pressures mean that average goods prices have been flat or falling since 2000. Cheap imports - along with the threat of them - have meant that our children's toys, clothing and electronic equipment cost less, not more each year. (How many of your kids' toys have 'Made in China' etched on the bottom?)

But even if the extra spending that takes place at Christmas is not that excessive, the season is still important, not least because of the way in which it acts as a litmus test for underlying consumer trends. In recent months consumer spending - the main driver of economic growth in the UK since the mid-1990s - has slowed. There are fears that if house prices fall sharply in coming months, then the slowdown could become a collapse.

Such fears are probably misplaced, but not everyone agrees. The strength of retail sales over the Christmas period should provide valuable evidence about consumer sentiment and, therefore, of underlying spending trends.

A bumper Christmas and worries about such a retrenchment will diminish; but sluggish sales would be used by the gloomier pundits as an indication that an economic downturn is on the way.

Winners and losers

The official retail sales figures are usually available by the third week of January. Well before then - throughout December in fact - there will be media stories pointing in both directions. As ever, there will be winners and losers. Some retailers get it right and others don't. If the pattern from the last two years is repeated, then the run-up to Christmas will see several companies reporting that 'trading conditions are tough … consumers just aren't spending … belts have been tightened … we're cutting prices to the bone just to shift stock - people won't pay higher prices'.

Retail surveys will suggest that shopping traffic is well down on last year. Then, as final figures are compiled and aggregated, the stories change: there will have been a rush in the last week or 10 days and, actually, it wasn't that bad at all. Don't be fooled. Do you really expect a retailer to say: 'It's fantastic! We're selling so much, we're able to ramp prices higher'?

Among those watching retail sales over Christmas will be the Bank of England. If consumers are still embarking on a borrowing and spending binge then they may decide that interest rates will have to go higher. Spending over Christmas will give them a clue.

But great care must be taken interpreting the figures. Sales in December will - definitely - be between 15% to 25% higher than in November. (November is also a good month for retail sales - many people really do their shopping early.) But the National Statistics Office must then apply a seasonal adjustment factor to see whether the underlying trend was better or worse in December than November.

However, no-one knows what these are with the precision necessary to draw any meaningful conclusions. A 22% rise and a 23% adjustment factor shows sales falling by 1% - a major fall to economists and the Bank. But a 21% adjustment factor would point to surging sales.

The point is that Christmas spending by UK households is important. But the distorted pattern of expenditure in December (January is little better actually - sales etc) means that the true picture is often difficult to discern. Sales in the month could rise by 1% or fall by the same amount.

These changes may seem small, but they are massively significant differences to the economist anoraks in the City and at the Bank of England.

More of the same

At the moment, retail sales volumes in the UK are growing at annual rates of around 6%. That is too high to be sustainable indefinitely and must come down soon. Christmas - whatever happens this year - won't change that. So perhaps we should simply stop worrying about it and sit back with a cold turkey sandwich and watch the Bond film. Same as last year, really.

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