The KBC/ESRI Consumer Confidence Index fell sharply in October, just a month after reaching its highest level since April 2006. So what’s going on? Are Irish people really that fickle?

That’s unfair, of course, since all survey-based indicators and measures are subject to volatility due to sampling techniques. It is also unfair to the Irish, since emotions, such as confidence, are always quite volatile.

Therefore we shouldn’t read too much into one month’s results, after all something similar happened to the KBC/ESRI Index back in May for no obvious reason before recovering strongly.

But why does consumer confidence matter?

The reason economists and others pay so much attention to confidence is because everyone understands the role emotions play in our decisions to buy, or not to buy as the case may be. In fact, studies of consumer psychology suggest that rational calculation accounts for only a quarter of the reasons to buy an average product or service (price, value, deals etc), while emotions and feelings make up the rest. Given that consumer spending makes up 45 percent of Ireland’s GDP, it’s no wonder that consumer confidence is so important.

Apart from the ESRI, there are several other indicators of Irish consumer sentiment. The European Commission publishes its own Consumer Confidence Indicator for all EU countries every month, using a similar method to the ESRI. Their indicator for Ireland actually went up in October, such that the gap between Irish and total eurozone consumer confidence is now the highest it has ever been, as the chart shows. Perhaps the rest of the eurozone knows something that we don’t.

Another reason for paying attention to consumer confidence is that it often signals a turning point in the economy, especially from recession to recovery. Research by Amárach shows that consumer confidence is strongly correlated with retail sales. Indeed, in some retail sectors, an improvement in confidence will result in a pickup in sales 3-6 months later.

But what influences confidence?

News headlines play their part: people form a gut feeling about the general direction of the country, and therefore their own life prospects, through the cumulative impression of news stories over time. Stories about rising house prices, falling unemployment and economic recovery create a positive impression. On the other hand, stories about water charges, higher taxes and continuing emigration have a negative impact.

But we shouldn’t look at confidence in isolation. We are emotional creatures and almost everything we think and do is influenced, directly and indirectly, by a cocktail of emotions that we may not even be aware of. Moreover, some emotions leave a longer lasting impression than others. For example, a recent psychology study showed that feelings of sadness last 240 times longer than most other emotions.

This tells us we need an ‘emotional recovery’ alongside an economic recovery. Unless and until positive emotions become more dominant in the national psyche – joy, happiness, contentment – then the legacy effect of negative emotions – sadness, stress, fear – will continue to hold back consumer sentiment.

Then all we need are more good news stories? It will take more than that unfortunately. Consumers differentiate between their own personal circumstances and the wider economic outlook. They may well believe that the economy is growing and that recovery is on the way, but unless they experience real improvements in their own lives – say higher disposable income and greater financial security – then they’re not going to feel the recession is over yet.

Add the fact that the recovery – like the recession – is not evenly distributed, then we can expect to see further volatility in measures of consumer confidence as the tension between personal experiences and public headlines unfolds.

I suspect economists will be pouring over Consumer Confidence Indicators for signs of sustained recovery for quite some time to come.

Gerard O’Neill is Chairman of Amárach Research: www.amarach.com