Economic reports released and still to be released in July are likely to show the depth of the recessions in the US and Europe in Q2 but also show a large bounce off the bottom mid-Q2. China first in to the COVID-19 downturn is first out registering positive GDP growth in Q2, +3.2% y-o-y after falling 6.8% in Q1. Australia’s downturn is shaping up as being much less severe than in the US or Europe mostly because stimulus measures supporting household and business incomes in the COVID-19 crisis have measured up well by international comparison.
July so far has seen a disturbing rise in COVID-19 infections around the world including in Australia where a large part of Victoria has returned to stage 3 restrictions, the border with New South Wales has been closed and small clusters of infections in New South Wales are creating uncertainty about whether increased restrictions in that state will be needed. In July, the risk has risen that hard-to-contain COVID-19 could temper the size of the initial bounce out of recession internationally and in Australia. At worst it may lead to the development of a double-dip recession.
There have also been developments in July that counter the potentially negative economic risks from rising COVID-19 infection rates. At least 20 projects around the world developing a vaccine are showing promise, with some in advanced stages of human testing. Also, many Governments and central banks (including in the US and Europe) re-affirmed their commitment in July to maintain and extend stimulus programs. In Australia, the Government announced extension of its JobKeeper and JobSeeker programs beyond end-September, albeit at tapering payment rates.
All told, the current economic environment makes economic forecasting much more difficult than usual. The future course of the COVID-19 pandemic is opaque, creating uncertainty for households and businesses. The pandemic is adding to geopolitical risks, notably the deteriorating relationship between China and the US and its allies. At the same time the shift to policy stimulus around the world, including Australia, on a scale not seen since World War II will boost economic activity eventually.
Returning to economic readings during July, US Q2 GDP due to be released later this week is forecast to show an extraordinary annualised quarterly fall of 34.0% compared with –5.0% in Q1. The worst of the Q2 fall occurred early in Q2 with a bounce off the bottom starting to show later in the quarter as government support payments started to flow and lockdowns in key parts of the country eased. Evidence of the bounce is clear in payrolls data showing more than 20 million jobs lost in April but followed by gains of 2.7 million in May and 4.8 million in June. The unemployment rate after peaking near 15% in April fell to 13.3% in May and 11.1% in June.
Spending in the US economy started to respond to stimulus payments in May and June. Most June indicators of household spending built on strong gains in May. Retail sales rose 7.5% m-o-m in June after lifting 18.2% in May. Existing home sales in June rose 20.7% m-o-m, new home sales by 13.8% and pending home sales by 15.3% on top of a 44.3% gain in May. US housing activity appears to be in strong recovery phase with housing starts rising in June by 17.3% m-o-m after lifting 8.2% in June and the July National Association of Homebuilders’ index lifting in July to a very strong 72 reading from 58 in June.
The strength of US economic readings in May and June provide the base for a big GDP lift in Q3 but with risk of renewed fade in Q4. US growth prospects face headwinds from a very high COVID-19 infection rate potentially setting back progress re-opening the economy in some states. Political fracturing and uncertainty ahead of the November presidential election present another potential headwind. Already, the strength in some indicators such as consumer sentiment is starting to fade. On the positive side, the Federal Reserve made it clear in July that it will not even start to think about the conditions that might lead to higher interest rates in the foreseeable future.
In China the bounce off the bottom of the covid-19 economic downturn has started. GDP rose 3.2% y-o-y in Q2 after falling 6.8% in Q1. June month economic readings show most parts of the economy responding to Government initiatives other the key part the authorities would like to see lift - retail sales. Exports and imports rose respectively 0.5% y-o-y and 2.7% y-o-y in June. Industrial production has shown the biggest improvement post covid-19 shutdown rising 4.8% y-o-y in June from 4.4% in May. Fixed asset investment made some progress in June but was still down by 3.2% y-o-y. Retail sales remained weak in June and were down 1.8% y-o-y still a far cry from pre-covid-19 readings running closer to +10% y-o-y. China’s efforts to rebalance its key economic growth drivers towards domestic spending have become more important as its trading relationships with the rest of the world continue to sour.
In Europe, preliminary Q2 GDP is due later this week and is forecast to fall 11.2% q-o-q, and 13.9% y-o-y (Q1 –3.6% q-o-q, -3.1% y-o-y). If Europe’s forecast Q2 GDP fall is annualised US-style it would be almost –45% providing a better comparison of the relatively more severe European contraction than occurred in the US. The re-opening of European economies in June and July has provided a bounce off the bottom starting late-Q2, but a less pronounced bounce so far than has occurred in the US. Europe is starting to show some advantages, however, compared to the US. Covid-19 infections in EU countries are mostly running lower than their peaks earlier in the year and appear more stable. There appears to be more chance that Europe can stay open compared to parts of the US experiencing record and rising infection rates. The EU have also secured in July a large additional fiscal stimulus in aimed at assisting recovery in member states.
In Australia, Q1 GDP released early in June showed a fall in the quarter of –0.3% q-o-q (-1.2% annualised US-style) and while Q2 GDP will not be released until early-September there are some promising signs in the bounce in May and June economic readings that the fall in Q2 GDP will be modest by international comparison. Retail rose 16.9% m-o-m in May and the preliminary June report showed a further 2.4% increase with sales up 8.2% compared with June 2019. International trade has held up very well too with the preliminary June report showing an increase in the monthly trade surplus to $8.4 billion from $8.0 billion in May driven mostly by an 8% lift in exports in June. Household consumption does not look as weak as feared in Q2 while net exports may make another positive contribution to growth. At this stage the fall in Q2 GDP is probably at worst in –3.0% q-o-q to -4.0% q-o-q (-12% to –16% annualised US-style) still bad but much better than the annualised expected Q2 GDP growth figures in the US, -34% expected and Europe, -45%.
In Q3 assured household income should lift GDP to small positive quarterly growth even with the headwind from Victoria returning to stage 3 restriction through most and possibly all the quarter. Household income growth will be supported during the quarter by JobKeeper and JobSeeker payments at respectively full rate $1,500 a fortnight and $550 a fortnight supplement and beyond with the certainty of continuing payments, albeit at lower rates to respectively March 2021 and end-2020, and possibility of further extensions after.
Whether positive GDP growth can be sustained beyond Q3 will depend mostly on whether the Victorian rise in COVID-19 infections (and any other outbreaks elsewhere in the country) are suppressed to the point of permitting confident reduction of restrictions. However, the Government’s flexibility in being prepared to respond with policies even at substantial near-term cost to the Budget that support income during the COVID-19 crisis and help to boost the recovery beyond provides reason to expect GDP growth to lift over the second half of 2020 and in 2021. The Government will be aided by the Reserve Bank that has again committed in July to capping the cash rate at the current 0.25% for possibly years to come when the economy has eventually grown to the point of using up excess capacity and higher inflation is a genuine threat.