• Alexander Funds Management
    • Sep 23

The Surprises Keep Coming


Last week we wrote about signs of economic resilience in Q3 with surprisingly strong increases in retail sales and housing activity in July at the start of Q3. Then came the biggest upside surprise so far, the August labour force report, showing a 111,000 rise in total employment (market consensus forecast –50,000) and the unemployment rate falling to 6.8% (market consensus forecast 7.7%) from 7.5% in July.

These strong improvements in national labour force readings for August occurred, notwithstanding total employment in Victoria falling 1.3% m-o-m (more than 41,000 in the month) and Victoria’s unemployment rate lifting from 6.7% in July to 7.1% after the late-July imposition of stage 3/4 lockdowns in regional Victoria and Melbourne.

The weakness in Victoria was more than compensated by strength elsewhere.

Employment lifted sharply in all other states and territories with increases ranging from 0.7% m-o-m in Queensland to 4.6% m-o-m for the Northern Territory. Those states and territories where restrictions within their borders have been relaxed most and for longest showed the strongest increases in employment after the Northern Territory – South Australia, +1.6% m-o-m; Western Australia, +2.4% m-o-m; and ACT +2.7% m-o-m.

In the states and territories where life had returned to something resembling pre-COVID-19 normal in July and August Government income support measures appear to have ramped up activity and employment growth quickly. It will be interesting to see whether this fast improvement in employment is sustained as the main income support measures start to taper-down at the end of this month.

While there are risks ahead to continuing labour market improvement, they are not all downside risks. COVID-19 suppression readings are holding very low in New South Wales and appear to have returned to very low readings in Victoria as well. There is a growing likelihood that restrictions in Victoria might be eased sooner than expected. Border restrictions between Victoria, New South Wales and Queensland may also be lifted sooner than expected if the very promising reduction in covid-19 numbers continue. Earlier than expected easing of Victorian restrictions and opening of state borders will provide a boost to Q4 economic activity and employment in the three big Eastern states.

Another more lasting boost to economic activity may come from the Federal Budget that will announced on the 6th October. The Budget deficit for 2020-21 on existing programs and announcements is forecast to be above $A184 billion (more than 9% of GDP) but with new measures expected to be announced in the Budget including pulling forward of tax cuts and some infrastructure spending plus more income support for pensioners is set to run above $A200 billion (more than 10% of GDP). The impact of tapering JobKeeper and JobSeeker payments may be substantially offset, at least through Q4 2020.

More importantly, the Budget appears to have been framed on forecasts of weaker and slower economic recovery than might be implied by the recent run of much stronger-than-expected July and August economic readings. There is a possibility that the Budget will boost growth already starting to lift at a faster pace than forecast.

Giving greater budget stimulus than later proves to have been necessary is unlikely to cause the economy to overheat and run to higher inflation – at least not in 2021 and probably 2022 as well. While the August labour force report was surprisingly strong total employment in August at 12,583,400 is still 416,600 or 3.2% below the pre-covid-19 peak of 13,000,000 in March 2020. Total hours worked are 5.4% below March 2020 reading and the unemployment rate is 1.6 percentage points higher. Back in March there were no signs of higher inflation implying the economy still had excess capacity before covid-19. It still has much greater excess capacity to use up now.

The next indication of how well the economy has been performing is August retail sales. The preliminary reading is due on Wednesday. Retail sales after collapsing back in April, -17.7% m-o-m have had a very strong rebound since with monthly increases of 16.9% in May; 2.7% in June; and 3.2% in July. The power of the recovery has lifted the annual (y-o-y) change in retail sales from an exceptionally weak –9.2% y-o-y in April to an exceptionally strong +12.0% y-o-y in July. The Victorian lockdown should prove a test for retail sales strength in August. A fall of between 3% to 4% m-o-m seems likely, but if the result is better it will provide further testimony of the stronger-than-expected run in recent economic data.