Will luxuries withstand a recession?

As inflation rises, evidence of consumer cutbacks is beginning to mount. According to the ONS, UK clothing stores saw demand fall by almost 5 per cent in June, and household goods stores fared little better. Feedback from retailers suggests that consumers are reducing their spending because of increased prices and affordability concerns. As my colleague Christopher Akers reports, subdued spending is trickling down to company results too. Despite higher customer numbers, Ocado (OCDO) has seen lower spending from inflation-hit shoppers, and there are signs of consumers ‘trading down’ to cheaper brands as they tighten their belts. 

It would seem that customers are cutting back on discretionary purchases. But luxuries – the most discretionary of discretionary purchases – are performing well. As the chart shows, the S&P Global Luxury Index rallied last month, despite lockdowns continuing to disrupt Chinese markets. There is evidence of buoyancy in the luxury services market, too. According to global hospitality and data analytics company STR, hotels in glitzy Dubai are seeing profitability levels seven times higher than in the same period in 2019. 

This is interesting in itself. Luxuries by their nature tend to demand high levels of inputs. This could be in the form of materials (think luxurious fabrics and precious metals) or labour (whether through artisan craftsmanship or attentive service). This means that an environment of rising labour and energy costs puts significant upward pressure on luxury prices. According to STR, the average price of a London hotel room has now reached a record high of £209 a night, and luxury retailer Watches of Switzerland (WSOG) has reported rising prices across all brands. 

Will consumers cut back as prices increase further? Market researcher Ipsos suggests that the answer could be complicated. Colin Ho, chief research officer, and Chris Murphy, president of market strategy and understanding, argue that consumers are open to switching within brands – a move known as cross-category indulgence. Rather than buying a product from a second-tier brand, squeezed consumers are often willing to stick with a premium brand – but choose a lower priced product instead. IPSOS cites the example of consumers swapping from a $2,350 bag to a ‘more affordable’ $1,200 model from the same designer during the 2008 recession. 

But inflation is not the only economic storm cloud on the horizon: luxury firms may soon find themselves contending with recession too. And in a time of increasing concern about the cost of living, might consumers show more distaste for conspicuous consumption?

This question has long been debated in economics. In 1982, Indiana University’s Zoher E Shipchandler posited that customers switch to goods with a perceived lower value in times of stagflation, in an attempt to "keep down with the Joneses". The financial crisis later saw widespread predictions of a new era of ‘conservative consumption’. Could a similar move leave luxury brands vulnerable today? 

Probably not: a 2010 paper from researchers at California's UCLA and USC found no evidence of such restraint in reality. Joseph Nunes and colleagues found that designer handbags produced during the financial crisis actually displayed brand names far more prominently than the products withdrawn. The paper concluded that "conspicuous consumption endures in recessions", and found that products introduced during recessions are "often louder, more expensive and featured in advertising" more than the products that came before. 

Ipsos also highlights the appetite for luxuries during difficult economic times: Ho and Murphy argue that "the need for small indulgences to bring a little joy into an otherwise bleak time magnifies the role premium brands can play". If their research holds true, luxuries could prove resilient: consumers might edge towards a brand's ‘cheaper’ luxury offerings, but are unlikely to give them up completely.