Australia’s economy: The past decade
Australia has not had a recession in 27 years. This is an incredible statement, that cannot be said for most other developed countries. In fact, Australia has only experienced 3 different quarters of negative GDP growth: in 2000 during the dot-com crash, in 2008 during the subprime mortgage crisis and finally, during 2011 due to the Queensland floods.
This stability has resulted in strong growth. Being a stable economy with high disposable income, Australia has attracted many SMEs and fosters a healthy startup environment. In fact, SMEs are incredibly important to the Australian economy – they’re the lifeblood and backbone of employment.
Since 1992, Australia has seen an average population growth of 1.37%. This has also contributed to Australia’s strong yearly growth. Average GDP growth has been 3.2% from 1992 to 2017. This is among one of the highest of developed countries. It is higher than New Zealand, Sweden, Norway, the UK, Netherlands and many others. Ireland however has seen over 5%, and Israel and Luxembourg also have had better growth.
Annual average GDP per capita growth has also been strong, at just under 2%. This sits around average among the large economies, but is this time beaten by a few more countries such as New Zealand, Poland and Hungary.
The strengths of the Australian economy
2018 wasn’t the greatest economic performance by Australia, though it was still far from a recession. GDP per capita fell for two quarters in a row, though. The expansion of the mining industry has been important to Australia, as they are home to some valuable commodities.
For example, coal mining grew at an annual average of 4.3% since 1992. This has led to almost 200% growth overall. Now, it contributes 9% to Australia’s total GDP growth. This is one of the most important industries for growing the Australian economy.
Another important industry is construction. With the rising population, it’s understandable that construction has been booming. Construction has seen an average annual growth of 4.5%, which contributed 9.3% to the total GDP growth.
These are two industries that go back a long way in Australia’s economy. What’s slightly more new is the booming financial and insurance service industry. This has grown 222% since 1992, and contributes 10.6% to GDP growth. This industry has seen fintechs popping up, small business loans expanding and a generally positive attitude towards startups. Also, with Brexit soon approaching, the UK looks unstable and some businesses have relocated to Australia.
The current struggles of the Australian economy
First and foremost, the Royal Bank of Australia have broken the same record of lowest interest rates several times in the past year or so. They currently sit at 0.75%, with speculation they may be cut again in 2020. This bodes well on the short-term housing market, but along with quantitative easing, it seems that it could create future problems such as a speculative bubble. Ultimately, the rates are unsustainable. They were arguably a knee jerk reaction to the housing crash in 2018, and it is hard to see them not climbing again within the next couple of years. On top of this, the US will likely raise their rates within the next couple of years too, which can have adverse consequences on Australia.
Australia has also been subject to tragic, nationwide bushfires. These have spread around the country, are on-going, and have so far claimed 30 lives. The fires will no doubt have negative repercussions on the Australian economy, with small businesses being destroyed as well as houses, crops and the surrounding nature.
Low-interest rates not likely to be sustainable
- The Reserve Bank of Australia (RBA) cut interest rates to a record low of 1.50% in August 2016 and rates have been unchanged since then.
- The low level of interest rates will continue to provide important support to the domestic economy in the short term with solid momentum, but with expectations that conditions will become gradually less favourable.
- A critical market factor during 2018 will be whether low-interest rates are sustainable. If the RBA can maintain a supportive policy, demand growth will remain firm in the short term. In contrast, there will be a high risk of recession if the Reserve Bank is forced to tighten monetary policy aggressively.
- Inflation has remained low with the headline rate only recently returning to the 2-3% target range, and inflation will not trigger a short-term increase in rates.
The jobs market in focus
- The employment data has remained strong with the latest data recording an increase in employment of over 54,000 for August compared with consensus expectations of below 20,000.
- This report revealed the most substantial monthly increase since October 2015, although the unemployment rate held at 5.6% as more workers entered the labour force.
- Overall earnings growth has been tepid despite the strength in employment. If wages growth remains subdued, there will be reduced pressure for the Reserve Bank to tighten monetary policy.
The housing sector will also be crucial
- Developments within the housing sector will continue to have a very important impact during the year ahead. The low level of interest rates has been crucial in boosting the housing sector with low borrowing costs encouraging increased credit demand.
- Although there has been some tentative evidence of stabilisation, there is still a serious risk of over-heating within the sector, especially with prices already close to record highs.
- If there is strong evidence of overheating, there will be an important risk that the Reserve Bank will have to tighten monetary policy aggressively to curb financial stability risks.
- Overall, interest rates are liable to edge higher during the first half of 2018 with the potential for more aggressive tightening later in the year.
U.S. Federal Reserve likely to increase rates
- Developments in the Federal Reserve (Fed) policies will inevitably have a significant impact on the Australian outlook.
- The Fed has continued its policy of gradually increasing interest rates with an increase in the Fed Funds rate to a 1.00-1.25% range at the June meeting. The Fed remains committed to a policy of gradual policy normalisation following the extended period of meager interest rates following the 2008 financial crisis.
- There have, however, been increased doubts whether there will be a further rate increase this year. A restrained Fed policy would be relatively benign for the Australian economy. There is, however, a significant risk that the Fed will have to tighten more aggressively, especially if the Trump Administration finally passes substantive tax cuts.
- If the Fed tightens more aggressively, there would be an increased risk that the Australian Reserve Ban would have to raise interest rates.
- A tighter Fed policy would also have an important impact in triggering less supportive financial conditions, which would pose significant risks to the global economy.
China developments will also remain pivotal
- Chinese economic developments will continue to have a meaningful impact on the Australian economy, especially given the crucial factor of commodity exports to China.
- Immediate concerns surrounding the Chinese outlook have eased with increased confidence that the People’s Bank of China (PBOC) can control the very high level of debt within the economy.
- There are also reduced concerns surrounding the banking sector, even though the burden of bad debts has increased steadily.
- If the Chinese economy continues to expand at a firm pace, there will be strong demand for Australian exports, which will provide critical protection to the economy as a whole.
- There is, however, a serious threat of complacency over the Chinese outlook as countries historically have found it extremely difficult to deflate a credit bubble on the scale seen in China without triggering a domestic recession and significant downturn.
- If there is a sharp downturn in China, there will inevitably be a substantial adverse impact on the Australian outlook, and this is a significant risk to the forecast growth outlook.
Geopolitical risks important
- The situation surrounding North Korea will continue to be an important focus during the year ahead.
- Political tensions will inevitably continue surrounding the Pyongyang regime as the country continues to develop its nuclear programme, which puts it on a collision course with both the U.S. and China.
- As long as stakeholders avoid military conflict, the overall impact should be limited. There will, however, be some risk of a serious miscalculation by either North Korea or the U.S. which would risk some form of military conflict.
- In these circumstances, there would be the risk of severe damage to the Asian economy, which would inevitably have adverse consequences for the Australian economy.
Australian dollar liable to slip
Tighter global financial conditions are likely to undermine the Australian dollar during 2018, especially with a further increase in U.S. interest rates. Slow depreciation would tend to be benign for the Australian outlook, especially as there would be a modest boost to exports. A sharp slide in the currency would, however, be damaging, especially as there would be upward pressure on inflation, which would increase pressure for the RBA to raise interest rates at a faster pace.
Most Recent UPDATE: Australia economy sputters in 1H 2019, but no recession (yet)
As of May 2019, the Australian economy has not descended into a recession. However, growth has been anemic, with annualised growth of only 1% over the last two quarters. To the average person, however, it does feel like a recession. Assessed on a per capita basis, the GDP actually contracted 0.6% over the last six months.
What is responsible for the slowdown? A few prominent factors are at play, but many analysts are pointing fingers at the housing market. It appears a crash is underway – in Sydney, nearly 133 billion AUD in value was wiped from the market in Q4 2018 alone. Prices fell 3.7% quarter-to-quarter in Australia’s biggest city, Melbourne declined 2.4%, while Brisbane prices slid 1.1%.
Why has this happened? Over the past 20 years, wage growth has been tepid, while housing prices have exploded. Nowadays, the average house in Sydney costs more than eight times the median income. When prices plummet, housing starts to diminish and renovation activities slow. The sudden dive in home values has cooled household discretionary spending, with the growth of this figure declining to just 0.4% in Q4 2018.
As dismal as this sounds, the diversity of the Australian economy has kept it afloat. In 2019, it has added net jobs every month, even as the unemployment rate has crept up to 5.2%. A rise in the labour force participation rate is another positive sign – in April 2019, it rose 0.2% YoY to 65.8%.
So far, so good – but will it last?
*Update 2020 – it seems that because of the COVID-19 epidemic, the entire world will enter a recession, Australia included.
Will the Australian economy grow in the second half?
Winter is coming to Australia – but will the same hold true for the economy? While the ongoing housing downturn will play a big role in how 2H 2019 turns out, so will interest rate decisions in America. Over the past three years, the Federal Reserve has steadily increased its lending rate. It now stands at 2.5% – but after near-constant increases, Federal Reserve Chair Jerome Powell has signalled his intention to keep rates stable through the rest of the year.
However, President Trump disagreed with Mr. Powell, calling for an interest rate cut. This development may allow the Reserve Bank of Australia to cut rates for the first time in two years. It has been stuck at 1.5% since August 2016, when the U.S. Federal Reserve started its tightening cycle. Doing so would make it cheaper to borrow capital, providing sluggish sectors of the economy with badly-needed support.
If the RBA cuts Australian interest rates in 2H 2019, Australia may avoid a recession. If Governor Philip Lowe stands pat, Australia’s housing downturn could spread to the broader economy.