August 2021 Economic Roundup
Doubt surrounding whether or not strong global economic growth can continue emerged in August. Countries trying to live with Coronavirus with high vaccination rates experienced high infection rates, although hospitalisation and mortality rates were lower so far than in earlier infection waves, providing hope that regression to lockdowns is unlikely. Economic reports in August for the most part showed very strong Q2 growth topping out. Australia was an exception with much weaker June and July economic reports because of lockdowns affecting nearly half the population. Policy support for growth remained strong and central banks promised to maintain low interest rates in the face of higher inflation that they see as temporary. The US Federal Reserve, still providing crisis-level monetary support to a now robust US economy with high inflation, heralded a two-step exit plan - likely tapering of bond buying starting late this year but no increase in interest rates before the economy reaches full employment.
US economic statistics released in late July and August remained consistent with strong growth but also elevated inflation. On the growth side the second reading of Q2 GDP was up 6.6% annualised although held down by US businesses running inventories lower to help meet strong demand. Q2 final sales in the US, up 7.9% annualised and consumption spending up 11.9% annualised provide better markers of the strength of spending in the US economy during the quarter.
While leading indicators of US economic activity released through August have been less robust (the University of Michigan consumer sentiment index fell to 70.2 in August from 81.2 in July) the fall might be short-lived. US household spending remains underpinned by strong growth in income and wealth. Average hourly earnings were up 4% y-o-y in July, non-farm payrolls rose more than 900,000 for a second consecutive month in July and US share markets are up more than 30% y-o-y and house prices more than 17% y-o-y.
Strong demand in the US continues to challenge supply of goods and services still beset by supply chain problems. Annual CPI inflation at 5.4% y-o-y in July and producer price inflation at 7.8% y-o-y show signs of broadening rather than topping out. The Fed continues to regard the lift in inflation as a temporary problem that will resolve for a period as supply improves. Inflation becomes a persistent problem in the Fed’s view once it is underpinned by high wage growth in an economy operating at full employment. The Fed is effectively promising to persist with deflation crisis monetary conditions risking turning temporary inflation into permanent inflation. At some point US bond yields are likely to rise to reflect the higher US inflation outlook.
China’s annual economic growth rate peaked in Q1 2021 at 18.3% y-o-y moderated to 7.9% in Q2 and continues to fade in Q3 according to the July reports. Annual growth in fixed asset investment spending moderated to 10.3% y-o-y from 12.6% in June. Industrial production moderated to 6.4% y-o-y from 8.3% in June and retail sales to 8.5% y-o-y from 12.1% in June. Export growth also decelerated sharply to 19.3% from 32.2% in June. Despite slowing growth China’s producer prices rose more than expected in July, by 9.0% y-o-y, continuing to feed higher factory gate prices into rising inflation around the world. Looking ahead, China’s growth rate looks set to slow further given less generous support from fiscal and monetary policy settings compared to the US and Europe. Annual GDP growth may continue to slide to around 6% y-o-y in the second half of 2021.
Europe started to take the growth lead position from the US in Q2. GDP rose by 2.0% q-o-q, 13.6% y-o-y. Admittedly Europe is bouncing out of a deeper pandemic recession than occurred in the US, but it has the underpinnings from policy support to extend through the remainder of this year and next barring Coronavirus setback to Europe’s greater freedom to spend and travel established in the northern summer. July and August reports point to strong Q3 GDP growth. July retail sales rose 0.3% m-o-m after lifting 1.5% in June. Manufacturing and non-manufacturing purchasing manager reports in August are holding up around 60. Europe’s unemployment rate fell to 7.7% in June and is down from 8.3% at the beginning of 2021. Strong demand is stretching supply and producer prices in June were up 10.2% y-o-y. The CPI has pushed above 2% (2.2% y-o-y in July) and looks set to push much higher. The European Central Bank like its international peers is saying that higher inflation is temporary and is maintaining its official deposit rate at –0.50%, a more consistent with deflation than a rising threat of inflation.
In Australia, GDP will fall in Q3 but may rebound in Q4 if escalating vaccination rates permit relaxation of lockdowns in New South Wales and Victoria by mid-October. The next GDP report for Q2 is due on Wednesday and the consensus forecast is +0.5% q-o-q, +9.2% y-o-y compared with Q1, +1.8% q-o-q, +1.1% y-o-y. There was some damage to Australian growth in Q2 from the start of lockdowns late in the quarter, but by far the worst of the damage is in Q3.
Monthly retail sales started to fall in June, -1.8% m-o-m, deepening to –2.7% m-o-m in July. Another monthly fall, perhaps bigger than in July is likely in August. Households have income support now as generous as JobKeeper during the current lockdowns but opportunities to spend are constrained with business closures and travel restrictions. Looking ahead the issue is whether and when there will be an elastic rebound in domestic spending? The National Plan calls for significant easing of Coronavirus restrictions once 70% of the population are vaccinated and new near normal living conditions at 80% vaccination rate. If that plan is adhered to, households and businesses are likely to increase spending sharply in November and December. Any backtracking from the plan, however, will delay and reduce the likely size of the lift in spending.
The current weakness in Australian spending provides the RBA with more reason than most other central banks to maintain easy monetary conditions. The RBA is optimistic that spending and growth will rebound strongly beyond Q3, but also recognises the Coronavirus-related risk that growth could stay soft for longer. The RBA like other central banks, will look through the current upward blip in inflation, which in any case is less pronounced than in the US (Australian CPI up 3.8% y-o-y in Q2 but more certain to fall towards 2.5% in Q3). The current GDP downturn also pushes out to 2023 or later when Australia may reach full-employment and wage growth above 3% y-o-y. The RBA’s guidance of no rate hikes before 2024 has become plausible through the turn of economic events in July and August.