An Econometric Analysis of Consumer Sentiment and ... - NABE

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+ b15*CS(t-1)+ e1(t)CC(t) = Intercept + Seasonal Dummies+ b21*Relative Price of Gasoline(t)+ b22*SP500 Composite Growth Rate(t)+ b23*Initial Claims per Capita(t) + b24*Unemployment Rate(t)+ c21*Gasoline Price Trigger(t) + c22*DJIA Value Trigger(t)+ d21*2001 Recession(t) + d22*Great Recession(t)+ b25*CC(t-1)+ e2(t) .Data Description and PriorsItalics denote natural log transformations. The variables CS(t), CS(t-1), CC(t), CC(t-1), Relative Price of Gasoline(t),SP500 Composite Growth Rate(t), Initial Claims per Capita(t), and Unemployment Rate(t) are in natural logs and theirrespective regression coefficients (b11, b12, b13, b14 b15, b21, b22,b23, b24, b25) are interpreted as elasticities.The non-italicized variables Gasoline Price Trigger(t), DJIA Value Trigger(t), 2001 Recession(t), Great Recession(t),and Intercept are dummy variables (binary).Consumers live, feel, and act in a mostly not-seasonally adjusted world, and therefore we control for seasonalitythrough the use of seasonal dummies. Consumers do react to seasonally and not-seasonally adjusted concepts. Forexample, when buying groceries or gasoline they react to the not-seasonally adjusted prices most of the time.However, consumers do react to seasonally adjusted economic variables that get wide media coverage such as GDPor the unemployment rate.Dependent Variables, and Lagged Dependent Variables: "CS(t)" denotes the monthly Reuters/University ofMichigan's consumer sentiment index at time period "t," and "CC(t)" denotes the Conference Board's consumerconfidence index. "CS(t-1)" and "CC(t-1)" are lagged consumer sentiment and consumer confidence, respectively(previous month's value). For the sake of brevity, we drop the monthly time index for the remainder of this article. Ourexpectations on the lagged dependent variable coefficients are that they should be positive and below one.Explanatory Variables: "Relative Price of Gasoline" denotes the not-seasonally adjusted (NSA) price of gasolinedivided by the Consumer Price Index (NSA). The "SP500 Composite Growth Rate" denotes the average monthlyStandard & Poor's 500 Composite Index divided by the previous month's average Standard & Poor's 500 CompositeIndex. "Initial Claims per Capita" denotes the average monthly seasonally adjusted initial unemployment claimsdivided by the seasonally adjusted U.S. civilian population 16 years of age and older. "Unemployment Rate" denotesthe seasonally adjusted unemployment rate from the Household Survey.3 IHS Global Insight Published 7/1/11
Our expectations on the coefficients of Relative Price of Gasoline, Initial Claims per Capita, and Unemployment Rateare negative. Initial claims per capita has a traditional economic interpretation, while the relative gasoline prices andunemployment rate do not, since these concepts are widely monitored and people tend to react to these indicatorsmore readily. Our expectation on the coefficient of the SP500 Composite Growth Rate is positive. The Initial Claimsper Capita is seasonally adjusted to take into account the multitude of seasonal patterns expected by consumers.The Unemployment Rate is seasonally adjusted, since it is reported in the media as such. The Relative Price ofGasoline is not seasonally adjusted, since consumers react to the price they observe at the pump. The SP500Composite Growth Rate is constructed from not-seasonally adjusted data.Behavioral Trigger Points: The Gasoline Price Trigger and DJIA Value Trigger are two behavioral economic"dummy" or qualitative variables that attempt to capture round-value trigger points. The Gasoline Price Triggerdummy variable is constructed from the average monthly not-seasonally adjusted gasoline prices. If the monthlyaverage gasoline price is increasing and if it surpasses a round dollar figure in a given month—$3.00/gallon,$4.00/gallon—then the Gasoline Price Trigger dummy is set to one for that month and the previous month, and set tozero for all other months. The average gasoline price movement is weighted by population. In a period of increasinggasoline prices, certain parts of the country will experience the round dollar impacts sooner than others. Thegeographic dispersion of gasoline prices is mostly due to state-specific sales and excise taxes, as well as differencesin the particular reformulation or blend and distance from suppliers.The DJIA Value Trigger dummy variable is constructed from the monthly average Dow Jones Industrial Average(DJIA) index. If the monthly average DJIA is increasing and surpasses a round 1,000 value mark—11,000 or12,000—then the DJIA Value Trigger dummy variable is set to one for that month.Our expectation on the Gasoline Price Trigger coefficient is negative and on the DJIA Value Trigger coefficient it ispositive. We performed an extensive literature search on the qualitative and econometric analysis of consumersentiment and confidence. To the best of our knowledge, this is the first econometric study that attempts to measurethe effect of these two types of round-value figures on consumer sentiment and confidence. This round-value impactis well known to retailers, where consumer demand is sensitive to pricing one penny below a round dollar figure—$99.99 or $9.99.Recessions: The 2001 Recession and Great Recession dummy variables are placed in each regression equation tocapture the movement in consumer sentiment and confidence excluding the effects of the seasonal factors and theother right-hand-side variables during a recession. The 2001 recession was officially dated from March 2001 throughNovember 2001. The Great Recession lasted from December 2007 through June 2009. Our expectation on these tworecession dummy variable coefficients is that the Great Recession coefficient should decrease consumer sentimentand confidence more than the 2001 Recession coefficient (d12 < d11 and d22 < d21), since the 2001 recession isgenerally regarded as a mild business-led recession and the Great Recession marked the end or break of the "GreatModeration" and was consumer-led. For a brief discussion of Great Moderation and consumer mood please refer to[1].Technical AnalysisEach regression equation was estimated separately with IHS EViews software. The results are presented in thetables below. Lag lengths were tested on the appropriate regressors while several diagnostic tests were computed.Each regression exhibits anadjusted R-squared of 0.94 for consumer sentiment and 0.96 for consumer confidence.The Relative Price of Gasoline, SP500 Composite Growth Rate, Initial Claims per Capita, and lagged dependent4 IHS Global Insight Published 7/1/11
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