• Ignore US budget shutdown and debt ceiling woes: global growth continues to improve. China appears to be through the worst of its slowdown, US recovery is becoming ever more solid, Japan’s juggle hasn’t come a cropper, and Europe’s core is growing again. Although the latter list is mostly one of fading negatives rather than rising positives, it still points to firming global growth in the next two years. The risks to that include just how well central banks manage the withdrawal of their ‘emergency support’ to global growth, as well as lingering doubts over China’s medium term outlook.
• But Australia’s outlook remains below trend. China has cheered up, interest rates could move even lower (and then stay low), the dollar is off its peaks (and may ease down further over time), while business and consumer confidence is lifting. And the better part of a trillion dollars spent on getting minerals and gas out of the ground is now paying off as increased export volumes. Or, in short, there are many more reasons to be happy than most Australians have realised, with some ‘big guns of growth’ pointing in a positive direction. Yet there is one big negative: the spending on mega mining construction projects which generated most of the growth in Australia’s economy in recent years has already peaked, and the fall from that peak will strip the better part of a year’s growth out of the next three years. Even so, there are so many other positives – especially higher exports, but also lower imports and a dose of better news on retail and homebuilding – that the overall pace of economic growth won’t be much below trend. However, ‘below trend’ is still the bottom line, and that is where we’ll stay through to late 2015.
• Inflation isn’t a near term risk. Wage growth is tepid and, despite the popular perception, productivity gains have pepped up. That mix helps keep inflation in check. So too does the state of domestic demand – business conditions are modest enough that they aren’t generating pricing power for businesses. Capacity utilisation is just too low for that to happen. And although the fall in the $A has raised some prices, it isn’t make or break for the inflation outlook. Add in the possible abolition of the carbon tax, and inflation ranks as the last of Australia’s worries (and shouldn’t overly trouble the RBA). That said, it is unlikely that wage growth will stay near its record lows of the moment, although we don’t project it to recover particularly fast.
• Quantitative easing (QE) will soon start to be wound back. Although it will happen slowly, that had to happen some time – the emergency that prompted the ‘emergency support’ of recent years is fading as US recovery gathers momentum. And although we’d have liked the US to act a little later, the key question is the extent to which markets (especially in emerging economies) suffer blowback from the limits soon to be put on liquidity. Here at home, variable mortgage interest rates could fall further, but perhaps due to banks trimming margins rather than the RBA cutting further. And, either way, with QE winding back, the $A will remain under pressure.
• There’s a lot to like in current trade trends, which look good. But China is now the destination of a third of Australian exports of goods. That share tripled in the last seven years, making China more important to Oz than Japan was in the late 1970s or even than the UK in the late 1940s. Simply put, that means that, if China sneezes, Australia’s trade accounts will catch pneumonia.
• A soft economy is being mirrored in job markets, with gains in 2013 to date pretty modest – and virtually non-existent among full-timers. Yet economic weakness is only part of the story, with the rapid pace of baby boomer retirement also playing a role. The first of these factors (weak demand) is adding to the ranks of the unemployed, and the latter (weak supply) is cutting them. On balance we see the unemployment rate continuing to creep up, passing 6% as it does so, but not by too much. The news on the job front may improve as housing construction gradually gets its mojo back, but the peak in the cycle of the latter isn’t expected to arrive until 2016.
• Recent months saw Treasury revise away much of the remaining benefits of the boom to the Budget bottom line, as well as the new Government signing on to expensive new policy costs in disability care, schools, paid parental leave and subsidies for building submarines in Adelaide. Existing policies are also set to cost much more. For example, hospital funding will grow fast, while the same is true of Medicare, disability pensions, age pensions and the aged care system. Or, in other words, about a third of the Budget is already promised to grow at a rather rapid rate, with the bulk of that pain falling just beyond the current Federal forward estimates. Doing all that and getting a sustainable Budget surplus will be a Herculean task – and a thankless one.
The big levers of sectoral growth are on the move
• The big levers which can move sectoral growth relativities – the likes of interest rates, the $A, commodity prices and the mining-related construction cycle – are all on the move. To date that hasn’t had heaps of impact on sectoral growth rankings, but it will. In fact construction’s growth has already stalled. And although homebuilding will lift from here, the drag from sagging mining-related work will consign construction to the bottom of the pack over the next five years.
• At the good news end of the sectoral scale, the huge construction outlays of recent times will be propping up rapid growth in mining output over the next five years as more mines come onstream, while health spending – now also assisted by a deluge of DisabilityCare dollars – will travel fast too. Even education, which is clawing its way back from a 2011 slowdown due to falling numbers of foreign students, is set for rather better times.
• At the same time low interest rates will be good news for the finance sector, as well as for retail and homebuilding, while the recent fall in the $A will help to limit the bleeding in manufacturing, and contribute to faster growth in tourism too.
• Yet it is still early days in the reshuffle of the sectoral pack – and too early to call an end to the ‘two speed split’ in sectoral fortunes. However, there’s no doubt that sectoral differences are starting to even up, and that trend should continue over the next few years. That softening of the split should be assisted by interest rates (which we see as staying low for a time) and by the $A (which we think will fall further).
State growth differentials will narrow further
• Australia’s States still show a ‘two speed split’, but that split is already narrowing, and we see further narrowing in the next couple of years as the ‘construction cliff’ saps strength from the likes of Western Australia and Queensland, whereas lower interest rates and exchange rates generate some better news for the likes of NSW and Victoria. To be clear, this is a narrowing of the split, rather than its abolition for all time – WA and Queensland have grown faster than the rest of Australia for a decade, and that’s still likely to be true over the coming decade too. However, the super-charged gains of the Sunbelt States in recent times are on borrowed time.
• History is moving NSW’s way. The Premier State wasn’t a big beneficiary of the resources boom, but it is lapping up lower interest rates and a more moderate $A, while NSW’s portfolio of industries also looks better suited to the sectoral growth drivers of the next two decades.
• Victoria still has the lead of a high $A in its saddlebags, but it has less to fear from the coming ‘construction cliff’ than do other States (such as WA and Queensland), while the abolition of the carbon tax would be good news for Victoria – a State with a bunch of heavy emitters.
• Queensland is through the worst of its cocktail of coal-and-State-sector cutbacks, leaving gas development as its key driver of the moment. Yet this too shall pass and, despite a big export dividend, it will be vital for interest rates to get some action going in retail and homebuilding.
• The two speed economy that has bedevilled growth in South Australia for so long is starting to become less of a drag on its prospects. Yet although the drivers of growth are shifting, that shift may have come too late to stave off further job losses in SA’s manufacturing sector.
• Western Australia’s growth is still magnificent. Yet that can’t last. Although the current spend on construction is huge, there simply isn’t further growth in those dollars waiting in the wings. Costs are still too high for the State to be particularly competitive in landing big new projects.
• Tasmania has been on the wrong side of Australia’s ‘two speed economy’ in recent years, but the $A is already off its peaks, and it could fall further, while interest rates are at historic lows. Even so, the State’s growth looks likely to stay stuck in the slow lane for a while longer yet.
• Relative to the size of its economy, the value of engineering construction work underway in the Northern Territory is simply massive: it is larger than that for Queensland and Western Australia. Even better, today’s construction surge will last longer than in those other States.
• Canberra is ‘one big mortgage belt’, and that’s been great news for the ACT’s economy. Yet it is even more true to characterise Canberra as a ‘one company town’, meaning that public sector cutbacks – Labor’s recent ones and the Coalition’s new ones – will hurt ACT growth.
21 October 2013