Australian economy continues to cool

 This week, the Australian Bureau of Statistics released the latest report card on the Australian economy. It made for sombre reading. The economy slowed significantly over the second-half of 2018, with real GDP rising just 0.2% in the December quarter following growth of 0.3% in the September quarter. In year-ended terms, real GDP growth has slowed from 3.1% in the June quarter to 2.7% in the September quarter and a below-trend 2.3% in the December quarter. While the outturn was only modestly below QIC’s, and the market’s final expectation for 0.3% quarterly growth, it must be noted that these expectations were cut in half in the week leading up to the GDP release after a raft of disappointing partial data started to reveal the extent of the slowdown in the economy.  

As the media has pointed out, adjusting for our rising population (estimated to have increased by around 0.4% in both quarters), Australia has fallen into a per capita recession. This is the first time we have experienced two consecutive quarters of negative per capita GDP growth since the first half of 2006. But let’s be honest – statistics can be misleading. Have we forgotten 2008? At that time, Australia’s per capita real GDP plummeted 1.1% in Q4 2008, a far worse outturn than seen recently, and this followed a decline in per capita growth in Q2 2008. Just because the weakness was not seen in back-to-back quarters, it does not make it any less severe.  

Taking a more holistic approach of the data, the national accounts revealed the weakest six-month real GDP performance since 2008. Real GDP growth rose at a 0.9% annualised pace over the second-half of 2018, a sharp drop from the 3.8% annualised gain seen over the first half of the year. This performance was worse than any six-month period during the mining downturn and is only just above the 0.4% real GDP growth experienced in the second half of 2008.

Looking at the details, the impact of the housing market downturn is particularly apparent. Residential investment dropped 3.4% over the quarter, the worst outturn since the start of 2017. Real consumer spending remained sluggish, up just 0.4% in the quarter. In year-ended terms, consumption growth slowed to a 2% pace down from a 2.8% pace at the end of 2017. Lower exports (-0.7% q/q) and a contraction in farm GDP (-4% q/q) due to the drought also weighed on the economy. 

Across the states, the NSW economy deteriorated in the December quarter, with state final demand dropping 0.1%. This was largely due to the downturn in the Sydney housing market, with consumption growth sliding to just 0.1% in NSW over the quarter and dwelling investment dropping 3.7%. WA and NT remained under pressure due to the last legs of the mining investment downturn, with state final demand dropping 0.3% and 2.5% respectively over the quarter. Elsewhere, the economy fared better, with state final demand rising at a reasonable pace in VIC (+0.6%), TAS (+0.7%), SA (+0.8%), QLD (+0.9%) and ACT (1.4%) over the quarter.

Although the national accounts were disappointing, there were some positive aspects. Increased government spending, due to the rollout of the NDIS and the public infrastructure boom continues to support the economy. Public final demand (ex asset sales) rose 1.6% in the quarter to be up 6.1% over the past year. Private new business investment also rose 0.7%, with signs of increased spending on computer software and engineering construction. There were also some signs of better income trends, with real household disposable income rising 0.6% over the quarter and the terms of trade advancing 3.2%.   

So where to from here? In our view, the extent of the slowdown in activity is at odds with other economic indicators, particularly the labour market. Employment growth remained strong in the second half of 2018 and the unemployment rate continues to trend lower. We expect the improving labour market conditions will help to slowly deliver better income growth, helping consumer spending counter the negative impacts of lower house prices. Surveys of investment intentions suggests the recovery in non-mining business investment should continue. Increased policy stimulus in China should also help our external sector, while a boost to LNG exports following the ramp-up of new facilities should also support growth. Strong public spending is also likely to continue to drive the economy given the work in the pipeline, while forthcoming tax cuts and election sweeteners should also help boost growth.     

Nonetheless, following the release of the national accounts, we have lowered our annual average real GDP forecast for 2019 from 2.7% to 2.2% and lowered our forecast for 2020 from 2.8% to 2.7%. However, it is important to note, that much of the downgrade to 2019 reflects the weaker second-half of 2018. Through the year forecasts (i.e. December quarter on December quarter) imply a pick-up in growth from 2.3% in 2018 to 2.7% in 2019. Should this materialise, we would expect the RBA will keep rates on hold at 1.5%. But if the economy doesn’t show signs of improvement soon, the risks are building that the RBA may be forced to cut rates to support the economic outlook. Reflecting this, we raised the probability of a rate cut by the RBA from 30% to 45% this week. Still not our central case, but it is becoming a very close call.

Table 1: Financial market movements, 28 February – 7 March 2019

Equity index

Level

Change

10-yr government bond

Yield

Change

Foreign exchange

Rate

Change

S&P 500

2,748.9

-1.3%

US

2.64%

-7.6 bps

US Dollar Index (DXY)

97.67

1.6%

Nikkei 225

21,456.0

0.3%

Japan

-0.01%

1.5 bps

USD-JPY

111.58

0.2%

FTSE 100

7,157.6

1.2%

UK

1.17%

-13.0 bps

GBP-USD

1.309

-1.3%

DAX

11,517.8

0.0%

Germany

0.07%

-11.6 bps

EUR-USD

1.119

-1.6%

S&P/ASX 200

6,263.9

1.5%

Australia

2.09%

-1.8 bps

AUD-USD

0.702

-1.1%

 

For economic update by region, click here. 

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