Uneven impacts: Australian consumers and inflation

McKinsey Australia regularly tracks the sentiments of our consumers to help businesses better understand how social and economic changes impact consumer intention and action. In this insight, we unpack their state of mind—and the different effects that cost-of-living impact is having across income levels and generations—to understand what this might mean for consumer-facing businesses.

The national context: Inflation is up, optimism is down, and even high-income earners are getting nervous

Inflation is having a significant cost-of-living and savings impacts across all demographics.

According to the Australian Bureau of Statistics, the consumer price index (CPI) accelerated in the September 2022 quarter, taking the annual rate to 7.3 percent (6.1 percent in June quarter). Food and nonalcoholic beverages inflation jumped to 9.0 percent in the September 2022 quarter (in 12 months). Household savings ratio is lower than pre-COVID-19 levels—at 6.9 percent in September 2022, compared with 7 percent in December 2019.

Fueled by this, Australian net optimism has declined since March 2022, from 13 percent to 8 percent. While still more optimistic than consumers in the United States, the United Kingdom, or Western Europe, Australians are struggling to hold on to the initial optimism of moving beyond the COVID-19 pandemic.

When we unpack optimism by income demographic, it shows a new development, which is that optimism is declining in the highest-income earners and, therefore, closing the gap with lower-income groups.

Australian consumer optimism had almost entirely been proportionate to income, with high-income earners being the most optimistic. And while they still are, the seven-percentage-point decline in optimism in those earning $125,000 or more is a stark drop (Exhibit 1). This possibly hints at a challenge of prior assumptions that the pandemic offers a predictable recovery—as inflated house prices decline and funding costs increase sharply.

Prices are rising—hitting some consumers harder than others

Unsurprisingly, price-rise impacts are observable across all sectors and demographics, such that 92 percent of all respondents report noticeable increases in the cost of living in the past six months.

Accordingly, we can see a consistent top-line intention to cut back on spending in all categories, except for groceries, essentials, and commute/transport. Even the intention to spend more in these categories is more likely to reflect an expectation of further price rises, not an intention to buy more or buy better (Exhibit 2).

While it’s fair to say that almost all household budgets are undergoing restructure as a result of mounting cost pressures, different consumer segments are reacting in distinct ways. On this note, we think it is useful to look at how these “whole of nation” impacts are being felt—and reacted to—by different age and income groups.

How different consumer groups are responding distinctly

To assist in understanding generational and income responses, we have created the following four personas—each representing an amalgam of survey data and the latest statistics (Australian Bureau of Statistics, and others) across that demographic—to paint a general picture of what many Australians are facing in the current environment.

Steven the splurger

This persona represents a group of young people (those less than 24 years old) who recently started working; this segment rents an apartment and lives alone (Exhibit 3).

Spending structure and consumer patterns. This group of customers represents about 5 percent of the Australian consumer market (based on consumption potential). And while the group is used to splurging, rising rent costs and other prices have almost fully eliminated their savings to approximately 1 percent of their income. Accordingly, Stevens might be on the verge of an awakening for not being able to afford their current lifestyle and being forced to materially change their consumer habits.

Some in this segment are already changing their shopping behaviors; for example, 36 percent shopped from a different retailer, store, or website than they normally would in the past three months, and more than 30 percent tried a new digital-shopping method in the past three months.

If forced to reallocate their spending structure and cut spending, these customers will have to choose where to make those sacrifices. Our research suggests that they will want to prioritize their current lifestyle and so would be more inclined to keep their traveling, digital services, entertainment, and other lifestyle features intact. Given this, we would expect them to cut spending in essentials, such as groceries and other consumer goods, by switching to cheaper brands or retailers or looking for promotions.

Implications for business. It could prove challenging to keep Stevens from switching between brands, products, or retailers for basic essentials (especially for retail and consumer packaged goods) (Exhibit 4).

Questions businesses can ask themselves to meet the changing and evolving needs of consumers:

• What will be the role of your physical channels versus online websites or apps? Is there an opportunity to differentiate your offerings between the channels (for example, online exclusives or DIY online services)?
• How do you address the evolving product and service needs of time-poor and value-conscious consumers (for example, switching or cutting down to a less expensive product or service, smaller product packs, free delivery, or easy digital-customer journeys)?
• Are you investing in the right last-mile capabilities that will offer consumers a seamless omnichannel experience?
• Are you leveraging data assets from your adjacent services like mobile, insurance, and travel to build loyalty in essential categories?
• Have you evaluated your loyalty program that offers differentiated marketing and communications strategies to provide personalized customer experiences that address different consumer needs (for example, personalized telecommunications loyalty programs with discounts for streaming media services)?

Yvonne the young homeowner

This persona represents customers (about 11 percent of the Australian consumer market) who are new homeowners and recently started a family and acquired a mortgage (Exhibit 5).

Spending structure and consumer patterns. These consumers are our most stretched. With mortgage rates growing by 1.2 percentage points since November 2020, their savings gap is getting smaller and smaller, and they are being forced to make cuts across all their spending categories, including groceries, food takeaway, clothing, and childcare. If mortgage rates grow by 0.2 percentage points more, Yvonnes will have no savings from their income, putting them in a very risky position (with their current savings spent on a mortgage deposit, they do not have any money to save, invest, or spend on something urgent or unplanned). Being under high mortgage stress, Yvonnes are forced to cut spending across all categories where it is possible. They are switching to cheaper internet providers, switching between brands, products, and retailers for groceries and other consumer goods, delaying nonessential purchases, looking for promotions, and so on.

Over the past three months, 58 percent of this customer segment have tried a different brand than what they normally buy, and 40 percent tried a new private label or store brand.

Implications for business. This consumer segment would have the highest likelihood of switching to cheaper options across all consumer categories and, therefore, would have the lowest expected brand loyalty (Exhibit 6).

Questions businesses can ask themselves to meet the changing and evolving needs of consumers:

• In which categories can your private brands play, and how can they win (for retail)?
• Are you refining your product line in response to current needs of customers to improve retention (for example, customized cash-back offers in banking, multibrand loyalty programs with banks, digital services, travel, retail, and others)?
• Are you tracking customers’ lifestyle changes to present new customized offers, allowing them to receive benefits and discounts (for example, offering family mobile and fixed internet packages for new families)?
• Are you leveraging design to value (DtV) to improve product and packaging design and specifications through a deep understanding of what consumers really value (for consumer goods)?
• Are you using promotions and marketing instruments to track, anticipate, and prevent churn for retail, telecommunications, utilities, digital services, and others?
• Have you realigned your pricing architecture to meet the needs of value- and price-conscious consumers?
• What are your pricing rules, and how can you ensure that you’re a price leader? How do you track and adjust pricing and promotions in relation to your competitors’ moves?

Ian the insulated

This persona represents customers (about 17 percent of the Australian consumer market) who are of the Gen X generation, have high incomes (more than $125,000 per year), have paid off most of their mortgage, and are working and living with their spouse and kids (Exhibit 7).

Spending structure and consumer patterns. This customer segment feels most secure in the current situation compared with other segments. Ians are exposed to mortgage rises but have higher asset value compared with Yvonnes. They have noticed price rises but feel more comfortable dealing with them.

At the same time, Gen X is conscious of the limited time frame to keep earning and saving for retirement. These consumers are saving less per year because of inflation, but prices do not appear to affect their lifestyle as strongly as with millennials or Gen Z. They are, so far, keeping the same consumer habits in terms of purchasing consumer goods, although they are forced to think about trade-offs in terms of bigger lifestyle decisions, such as not going on expensive family holidays and considering downsizing assets (28 percent of this group is trying to cut back on discretionary spending).

Even though they have a relatively high brand loyalty, some of them are open to try new shopping channels (24 percent tried a new digital-shopping method over the past three months).

Implications for business. This consumer segment currently has less likelihood to switch between brands, retailers, or service providers and has high loyalty (preferring the brands and companies they trust). If this group makes cuts, changes, or delays spending, it would be for travel, banking, or digital services (Exhibit 8).

Questions businesses can ask themselves to meet the changing and evolving needs of consumers:

• Have you thought about targeted, personalized promotions using the current loyalty program that would drive repeat purchases, increase the frequency of purchases, increase customer lifetime value (LTV), or decrease churn?
• How do you tap into premiumization opportunities in both products and services to delight this specific group of personas (in banking, travel, digital services, and other markets)?
• Are you providing the right online offerings to this specific group of personas that will drive larger basket size, customer LTV and decrease churn?
• How do you maintain the availability of the loved brands in the period of broken supply chains (for retail)?

Rachel the retired

This persona represents customers (about 13 percent of the Australian consumer market) who are retired and have fixed incomes from a superannuation fund and age pension. They own a house and live there with a spouse (Exhibit 9).

Spending structure and consumer patterns. Rachels, on one hand, own their house outright, so rent or mortgage price fluctuations do not affect them. But they are nonetheless conscious of other price growths due to a fixed retirement income and little capacity to increase it.

Rachels have to look for ways to optimize their spending on such categories as clothing and medical services. With a fixed income, Rachels will have to look for ways to adjust spending by looking for discounts, stocking up, holding back from big purchases, delaying travel.

Switching to cheaper brands is also an approach this group can use to cut spending, but rarer than with other segments (over the past three months, 11 percentage points less consumers in this segment have tried a new brand compared with the overall average for Australian consumers).

Implications for business. This consumer segment has a high willingness to switch and low brand loyalty (especially for basics—consumer goods, telecommunications, and energy providers) (Exhibit 10).

Questions businesses can ask themselves to meet the changing and evolving needs of consumers:

• Are you providing the right offerings with a focus on value and convenience to this specific group of personas that will drive larger basket size or decrease churn for services?
• How do you quickly realign your pricing architecture to meet the needs of value- and price-conscious consumers (for products and services)?
• Are you refining your product line in response to the current needs of customers to improve retention (for example, promotions or discounts on telecommunications products, new-bundled propositions, and extending product lines with more affordable options)?
• What are the potential adjacencies (for instance, pharmacy, bundled services in telecommunications, banking and utilities, laundry, and places to socialize) that will build loyalty and convenience and create value to this persona, which will increase frequency and basket size for retail?
• What percentage of your physical retail network is located in a convenient location? Is it optimized to have a strong focus on value (for retail or consumer goods)?
• How do you maintain the availability of the loved brands in the period of broken supply chains (for retail)?

Implications for Australian consumer businesses

For Australian consumer-facing businesses, we trust it’s been useful to look at how a national impact (cost of living) is playing out in a granular way at generational and income levels.

With our peak retail season approaching, the optimism that 2022 may finally deliver our first true post-COVID-19 Christmas is tempered against cost-of-living concerns that are affecting all consumers, but some far more heavily than others.

In terms of “what to do next”—as well as the specific implications outlined above—we believe there are six no-regret moves for Australian consumer-facing businesses in the current situation. You will know you are doing enough if you are doing the following:

1. You know how to design and deliver breakthrough, personalized customer journeys, leveraging real-time insights that can create 2 to 3 percent revenue growth and 10 to 15 percent uplift in customer LTV and retention.
2. You have a defined approach to deploy complexity management or DtV to decrease costs and build consumer-centric products, aiming to rationalize the SKU count by at least 10 percent and improve margin by three to eight percentage points.
3. You have a defined approach for smart pricing and revenue management to protect net margins while limiting volume impact with targeted results of 4 to 8 percent return on sales increase.
4. You have a plan to remove inefficiencies across spend and capture cost savings to reinvest in growth (for instance, marketing and media and commercial-spend optimization), bringing 5 to 15 percent of incremental revenue growth.
5. You have a plan to drive profitable omnichannel growth and reduce cost to serve by focusing on continuous, data-driven improvement and rethinking the end-to-end supply chain, aiming for a 5 to 15 percent revenue uplift and three to seven percentage points less churn rate.
6. You have a plan to increase familiarity, purchase frequency, and retention of the loyalty programs by introducing personalized content for consumers to improve and differentiate the online or in-store experiences, expecting impact of 5 to 15 percent basket-size uplift and three to ten percentage points churn reduction.