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Political uncertainty effect on consumer confidence analysis

Politics and economics are often intertwined, with the winners of
elections having influence over policies that can affect the
lives of millions.

However, the effects of political uncertainty, like that
surrounding the recent election in France that went to a runoff
in which centrist Emmanuel Macron defeated far-right nationalist
Marine Le Pen, on consumer confidence are not necessarily as
clear cut as one might think.

In a recent report to clients, a team at Bank of America Merrill
Lynch led by Gilles Moec analyzed the effect of political
uncertainty on consumer sentiment in France and Italy.

They found that consumer confidence is “generally very well”
explained by a handful of “hard” economic variables, like income
and employment figures.

However, changes in “pure sentiment” unrelated to those hard
variables don’t necessarily mean a change in consumption
decisions (aside from, maybe, the last few quarters in

Meanwhile, political uncertainty on its own didn’t have any
“obvious” effect on confidence.

That being said, this doesn’t mean that politics doesn’t matter
for understanding a country’s economy, Moec said.

“It does, but far more through the actual implementation of
policies, affecting income, employment and asset prices, the
‘hard’ determinants of spending, than through the ‘confidence
channel,'” he explained.

“In short, when looking at political developments, policy
implementation should remain the main focus of market attention.”

Modeling sentiment

Now, let’s look at the team’s actual analysis.
(For the sake of clarity, and in light of the recent election,
we’re going to stick with just the data on France.)

First up, the team attempted to estimate “pure sentiment,” or
changes in consumer sentiment distinct from what would be
expected based on economic fundamentals. They reasoned that this
component of sentiment could be most susceptible to being
influenced by political uncertainty.

They estimated a model for consumer confidence by changes in
income, consumer prices, employment, and equity prices, and
found that these four variables together can explain 84% of
the variance in consumer confidence from 2000 to 2014 in France,
leaving 16% as unexplained “pure sentiment.”

Of course, the
team added it might have missed some
other “hard” variables and that the remainder might not be
completely “pure sentiment.”


They then found virtually no correlation between the “pure
sentiment” residual confidence and the policy uncertainty
index, which you can see on the adjacent chart.

To cross-check the possibility that they might not have been
using the “correct” indicator for political
uncertainty, they also tested out France’s “immigration fear
index,” which has soared to an all-time high in the last three
years. However, again, they found no link between that index and
consumer confidence.

Interestingly, if anything, there was a very slight,
counter-intuitively positive correlation — slightly
stronger than with the policy uncertainty index. 

Next, the team analyzed actual consumer behavior, estimating a
model for actual household consumption using the same four “hard”
variables from before. They found that those hard
variables correlated quite closely with the observed
household consumption data.

Again, from their report (emphasis ours):

“If ‘pure sentiment’ — the part of consumer confidence that is
not explained by the same hard variables — has a bearing on
actual consumption decisions, then we should find a significant
correlation between the residuals of the two models. We don’t.
Since [the first quarter of 2000], periods when consumer
confidence is higher than what is warranted by the fundamentals
do not coincide with period when actual consumption exceed the
value predicted by fundamentals. 

“For instance, the persistence ‘confidence excess’ in France
since 2015 did not coincide with any ‘consumption excess’:
private consumption behaved exactly as the developments
in income, inflation, job creation, and equity prices

Oddly enough, although the team couldn’t find statistical
relevance of policy uncertainty for
their confidence equation, they found a very
correlation in their consumption

In other words, although policy uncertainty might not greatly
affect what people say about their economic outlook, the authors
wrote it might kind
of subconsciously” affect
what consumers actually do.

pure sentiment versus unexplained consumptionBAML

A lesson for America

Although the authors didn’t conduct a comparable
analysis for the effects of political uncertainty on
the US economy, they suggest “there might even be a lesson
for the US there: despite the post-election jump in consumer
confidence, consumer spending has slowed in recent months.”

Since US President Donald Trump’s election, a bunch of sentiment
indicators have shot up. For example,
now think the government is great for business. But
at the same time, we have not seen the hard data
the improving sentiment, yet. And Trump’s pro-business
tax cuts and deregulation agenda have not yet come into
effect, meaning that some of the benefits that firms are
anticipating might not actually happen.

The crux of the debate stateside has been as
follows: Will these improving sentiment indicators
actually translate to concrete improvements in the US business
sector, or are they just a reflection of Americans’ (and,

more specifically, Republicans’
) hopes for the
current US administration? 

Of course, we won’t know the answer until after we see what
the Trump administration actually pushes through. It will also
take time for the effects of those policies to show up in the
hard economic data.

But, in any case, it’s fascinating to study the interplay
between political and economic sentiment and
consumer behavior.

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