Fears for Europe have faded but, despite its shift to stimulus, concerns about China have intensified (while some other emerging superstars such as India and Brazil have a few problems of their own). Moreover, even if the US dodges the big bullet of the ‘fiscal cliff’, there’s still going to be some fiscal headwinds in the US in 2013, and those same austerity effects mean that Europe won’t be making a Lazarus-like leap off its sick bed any time soon. Add that up and, despite some big central banks cranking the printing press handle, it’s situation normal, with global recovery continuing, but dogged by difficulties that leave global growth below trend in 2012 and 2013.
We’ve still got a lot of Asian Tiger in Australia’s growth tank – output gains in the next two years will benefit from a bunch of big mining projects that got the go ahead a few years back. But the next round of project approvals will be a pale shadow of the last lot, so the current driver of output growth – the strong bit of Australia’s ‘two speed economy’ – won’t be as strong in a couple of years. Besides, output growth isn’t how we ‘feel’ the economy is performing: the latter is better captured in national income growth. On that front the times are a changing. Rising world prices for iron ore and coal underwrote a lot of the gains in Australian incomes in the past decade. But those prices have fallen through 2012, and there’s a risk of a pothole in growth in 2014-15 as the surge in mining construction finishes before rising gas export volumes hit their straps. Or, as the Treasurer puts it, the “easy yards” of slipstreaming Asia’s boom have passed. That’s not the end of the world, but it suggests the difficult business environment of the last couple of years won’t disappear any time soon. And although it’s not what we think is most likely to happen, it is worth noting that the consensus view of a relatively rapid rebound in China and in its insatiable demand for commodities may prove too complacent.
Inflation prospects are less worrying, though that says more about the modest growth outlook than anything else. Even though central bankers around the world are splashing around more funny money, key deflationary impulses are evident both globally (China is making ‘too much’, generating discounting in world markets, while the US and others are exploiting cheap gas) and here at home (with commodity prices lower, sentiment soggy, and business pricing power weak).
A new surge of ‘funny money’ from the central banks of the US, Japan and Europe is handy, but it underlines continuing financial fragility around the globe. And it also helps keep the $A ‘higher for longer’, leaving it ahead of its fundamentals for the first time in a while. (The $A is strong for the same reason Steven Bradbury won a gold medal: the other alternatives have fallen over.) With inflation in the groove, the $A proving problematic for many businesses, and fiscal headwinds strengthening further, interest rates could move even lower in coming months.
There is a lot of import spending locked in to feed into massive resource construction spending this financial year and next, leaving a relatively high floor under short term import spending. But that isn’t true of exports, as recent commodity price falls remind us. And although falling mining profits will trim payments to the rest of the world (foreign owners got the upside, now they’re getting the downside), the overall current account deficit is already back on a worsening trend.
Unemployment has stayed low despite anaemic job growth, but partly because workers have been discouraged by those weak job gains – meaning more Australians are retiring or otherwise staying out of the job hunt. Yet that buffer was only a respite, and we see unemployment drifting up as governments and even the mining sector tighten their belts. Even so, we stick to the view that unemployment will top out in this cycle at 5½% – which is worse than today, but not bad.
Both the Feds and the States are scrambling to repair broken Budgets. Problems built up over a decade as the rise of emerging Asia sent commodity prices (and hence the tax take) soaring. Governments of all stripes responded in the time honoured tradition of “spending the lot” – the Feds via tax cuts and family benefits, while the States raised public sector wages and took their eye off the efficiency of service delivery. But a shockwave in commodity markets means the tax take will stay soggy, so Premiers are now finding courage for the first time in years – they have to – and the Feds are fiercely defending their surplus. In effect, recent developments revealed the Budget repair task is bigger than governments realised. And that is a task that shouldn’t be shirked. Yet neither should it be rushed. Governments need to pay their way over time, but we still think that a surplus in 2012-13 is partly a political target rather than an economic necessity.
Some of the fast bits of our two speed economy may not stay as fast in coming years
A supply surge in commodities coincided with weaker demand from China to crunch what we thought would be two or three years of commodity price falls into two or three months of price free fall. But the $A hasn’t yet cycled down alongside China and commodities. And that mix – commodities down but the $A still riding high – means there are now headaches across the industrial landscape. Some miners are losing money, and mining services, previously ‘boom central’, is now feeling the pressure of cost cutting. These pressures aren’t universal – engineering construction still has an enormous job ahead of it, and mining output is set to surge for years to come – but the challenges are now rather more widespread.
That means new sectors are joining the ‘already in trouble’ list, with the latter featuring the likes of manufacturing, the utilities and retail (though the news on the latter is better than generally realised). The biggest short term swing in the outlook is for the public sector, where now both the States and the Feds are jumping on the anchors, with State cutbacks also weighing on the education outlook, and having an impact on health too. At the other end of the scale the news has been getting better in tourism, where the $A has been so strong for so long that it is losing some of its sting, while housingconstruction may end its hibernation in coming months.
There are two key questions for the sectoral outlook – will the $A follow its fundamentals down (and, if so, how fast)? And will Federal and State cost cutting throw some new spanners into the works?
The State leader board won’t change – or not yet
China’s recent slowdown won’t reshuffle the State leader board in the next year or so, with this year and next still dominated by surging resource investment spending. However, the seeds of slowdown in the sunbelt States have been sown, while the deadly duo of strength in exchange and interest rates that has haunted the other States is already starting to unravel – interest rates have been falling and, with a lag, the $A is forecast to follow suit. Hence the ‘two speed split’ among the States will remain notable through to 2013-14, but may narrow somewhat thereafter.
China’s slowdown is bad news for Australia, but will be relatively less bad for NSW, especially once the $A stops defying gravity. Yet for the moment growth is still slowing amid a lack of capital spending by businesses, and it will take better news on the $A for growth to recover.
In a grumpy nation, Victorian sentiment is notably sour for both businesses and families. And while Victoria’s growth is still good, it is ebbing due to an $A which is “public enemy #1” for many businesses. It needs to fall off its perch for the State’s growth to begin to recover during 2013.
Big falls in world coal prices are bad news for Queensland, meaning the biggest area of good news for the economy – the pace of resource development – now looks a little less impressive. But the massive pipeline of gas projects in the works will cushion the impact on State growth.
Cheer up. Although South Australia lost a boost to demand from an early Olympic Dam go ahead, it will also gradually gain from a loosening of the exchange and interest rate noose which has been slowly strangling other sectors. That’s a net negative, but not a big one.
Bad news for China is even worse news for Western Australia, but not any time soon. Despite headline hugging project cancellations, there are only modest impacts on short term prospects as WA was already struggling to keep up with a project pipeline that’s bigger than Christmas.
Tasmania’s in trouble, shedding jobs despite worryingly high unemployment, with population growth down to decade lows. Then again, recent developments in China point to the potential for the ‘two speed gap’ haunting this State to start to close – even if it won’t fully disappear.
The Top End’s economy has travelled more slowly than you’d expect through what have been lotus years for the rich resource provinces of the world. Yet the Northern Territory has now hit its stride – albeit doing so just as China got a case of the collywobbles.
Housing construction in the ACT will soon turn down, while the biggest employer in town is now pulling in its horns. Yet the local economy has good momentum as it enters this tricky patch, and interest rate cuts are yet to fully feed through to the capital’s consumers.
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