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Aussie economy faces significant downside risks in early 2017

2016 is coming to an end with the economy muddling through – at best. Indeed, as the year has progressed, things have got worse across a broad range of indicators which suggest there are some significant downside risks into the early part of 2017.

Importantly, GDP growth was negative in the September quarter and annual growth slipped to a tepid 1.8 per cent which is a rate of growth rarely recorded in Australia. It’s bad news. At the same time, the unemployment rate has been stuck near 5.75 per cent having threatened to break lower earlier in the year. Any jobs that are being generated are overwhelmingly part-time which is a further signal that all is not well with the economy. It is simply not growing fast enough.

The most recent data also show a further weakening in wages growth, to a record low in fact, which is putting pressure on household budgets and dampening new consumer spending. In simple terms, it is difficult for households to build spending when wages growth is barely keeping up with inflation.

The wall of economic worry also had news of record low underlying inflation, a sharp drop in new building approvals and the ongoing free-fall in business investment. One saving grace is export volume growth which is also being giving a helping hand at the moment with the recent jump in commodity prices.

It was little wonder, therefore, that when Treasurer Scott Morrison update the budget numbers earlier this week, there was a series of high budget deficits in the pipeline, the forecast of a budget surplus in fours years, framed around a very rosy look for the economy over the next few years and net government debt is projected to hit a 60 year high of 19.0 per cent of GDP.

Bizarrely, it was seen as good news that the major credit rating agencies did not downgrade the government’s triple-A rating.
That said, all ratings agencies sent a blunt warning that there needs to be tangible progress towards lower budget deficit and lower government debt by the time the 2017-18 Budget is handed down in May. A mix of policy changes to boost revenue and trim spending will be needed from the government if the downgrade is to be avoided.

But here in lies a further problem.

If the government does in fact cut spending and / or hike taxes into an economy that is recording weak growth, there will be risks that growth slows further, the unemployment rate edges back up towards 6 per cent and the general malaise evident in recent months continues into the new year.

For the Reserve Bank, it seems clear that there will be pressure to further cut interest rates to free up the cash flow of businesses and householders with debt and to encourage credit growth for investment. It might even help to lower the Aussie dollar (a bit) which would be no bad thing at a time when the export sector would benefit from a bit of a free kick.

All up, the economy is not in great shape. It is wrong to suggest a recession is likely – it isn’t. But growth is simple too weak to generate strong jobs and incomes growth and while ever that is the case, the government will struggle to balance the budget and interest rate cuts will remain on the cards.