The Determinants, Implications and Interaction of Consumer Sentiment

Abstract

In this thesis, we seek to address the following three interrelated issues: determinants of consumer sentiment, i.e., the underlying forces behind the erosion of confidence; implications of consumer sentiment, i.e., its impacts on the real economy; and the interaction of global consumer sentiment, i.e., the channels in which the sentiment shocks transmit across international markets.

We focus on the role of Economic Policy Uncertainty when we study the determinants of consumer sentiment. By doing a thorough data analyses with a VAR (vector autoregressive) model, including performing Granger Causality Test, running Impulse Response test and studying Variance Decomposition results, we confirm the usefulness of economic policy uncertainty, and also discuss its implications - consumer confidence, or sentiment, may be a measure of uncertainty.

We then move to international data on consumer confidence, and study its transmissions. We generate the spillover index, which is based on forecast error variance decompositions from VAR models. Then, we are able to discuss the direction of relationships among consumer sentiment in different countries. Not surprisingly, we have found that the consumer sentiment in the US plays a central role.

Finally, we study the implications of consumer confidence, focusing on its role on house price changes. Again, we use a VAR model to study the dynamics of consumer sentiment and house price. We find that consumer sentiment is very powerful in explaining the percentage change in house price, and its use differ within different income tiers, age groups, and regions. We then propose a two-step approach to construct a housing specific consumer sentiment by Principal Component Analysis. And the measure turns out to be very successful in explaining house price change, compared with other sentiment measures.

In summary, we provide a thorough study on consumer sentiment and have some interesting results. Our findings should be valuable for both researchers and practitioners.