Half steam ahead
Last week we wrote about the signs of improvement in Australian home buying activity and how that may become a general improvement in home buying and home building activity for 2020. One near certainty, given home buying activity and home prices improving strongly in Melbourne and Sydney, is that the Australian economy will not slip into recession in the near term. Indeed, whenever home buying and house prices started recovering in the past, economic growth gained pace in the following year.
Last week, the International Monetary Fund (IMF) downgraded global economic growth prospects for 2019 and 2020 to around 3%, the slowest pace since the global financial crisis. Weaker international trade prospects were at the heart of the downgrade and Australia’s exposure to China saw the IMF take a bigger cut to Australia’s growth forecasts than the cuts to growth forecasts for most other countries.
The IMF forecast downgrade to sub 2% y-o-y Australian GDP growth in 2019 and 2020 is a reasonable response to the slowing annual Australian GDP growth at 1.4% y-o-y in Q2 2019 and that the combined strength of government spending and exports is struggling against the softness in household spending and business investment spending. Increasing headwinds from moderating global growth and slowing international trade mean that one of the stronger parts of Australia’s economic growth story could falter and start to weigh on Australian growth rather than support it.
The IMF Australian growth forecast downgrade however does not reflect the evidence that Australian quarterly GDP growth has picked up pace in the first half of 2019 (back-to-back 0.5% q-o-q increases in Q1 and Q2, or 2% annualised growth compared with 0.3% q-o-q and 0.1% respectively in Q3 and Q4 2018 or 0.8% annualised growth) or does not show the signs of significant recovery in home buying activity, implying that although household spending growth has been soft, it is very unlikely to stay as soft over the next year.
The RBA Governor, Philip Lowe, quickly voiced disagreement with the IMF’s new Australian growth forecasts, indicating that RBA forecasts still had the Australian economy slowly climbing over the next two years to potential growth (around 3%) and that the three cash rate cuts since June appeared to be working.
Two more Australian data points tentatively point to GDP growth improving slowly. The first is retail sales which after falling 0.1% m-o-m in July, then rose by 0.4% in August. The turn in retail sales in August was comparatively modest but it is a sign that at least some of the Government tax cut (much of which will still have been flowing to bank accounts beyond August as 2018-19 tax returns were completed) is being spent rather than saved. Beyond August, retail sales are likely to have benefitted from continuing personal tax refunds plus the impact of lower home mortgage interest rates.
The second data point is one that the RBA has been worrying aloud about for some time, Australia’s unemployment rate and its drift higher since late last year. The latest unemployment rate reading released last week for September went against market expectations and edged down to 5.2% from 5.3%. Employment growth in September was about as the market expected, +14,700 but with a strong underlying breakdown showing full-time employment up 26,700.
Of course it would be unwise to draw too much from one slightly better than expected unemployment rate reading but when added to moderate improvement in August retail sales and several months of strengthening home sales and prices it is fair to say that the Australian economy is starting to show more signs of improving than deteriorating. These improving signs on balance make the IMF’s Australian growth downgrade seem unreasonable.
The RBA’s economic forecasts will be produced in detail again in the quarterly Monetary Policy Statement due the first Friday of November. What has been said so far by senior RBA officials, is those forecasts are likely to show slow improvement in annual GDP growth to 3% y-o-y late 2020 and in 2021. Wages and inflation are likely to forecast a lift to 3% and 2% over the same period with the unemployment rate around 5%. The forecasts imply an economy slowly gathering pace from around half-steam ahead currently, to nearer full steam ahead by 2021.
If this is the shape of the RBA’s forecasts they imply little pressure on the RBA to cut the cash rate further or on the Government to provide more budget stimulus. However, there are as always possible upside and downside risks to the forecasts and the political strains in many parts of the world are still weighing more towards downside risks. In recognition of those downside risks we still pencil in the possibility of another RBA rate cut in 2020, but if the signs of improvement in the Australian economy continue to broaden and strengthen, RBA’s rate cutting may be finished for this cycle.