Watch out Australia: There's a flood of dismal economic news on the horizon

Wed, 01 May 2019  |  

This article first appeared on the Yahoo Finance website at this link: https://au.finance.yahoo.com/news/watch-out-australia-theres-a-flood-of-dismal-economic-news-on-the-horizon-211110783.html

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Watch out Australia: There's a flood of dismal economic news on the horizon

The Australian economy is in trouble and Scott Morrison and the Liberal Party government need to come clean and acknowledge this and outline a framework how this period of economic funk is to be addressed if they win the 18 May election.

The Liberal Party is campaigning in the election on a “strong economy” and being “good economic managers”, bold claims that fly in the face of the latest score card for the economy.

That scorecard shows a flood of what is, frankly, disappointing or even dismal economic news. Australia is going through a very rare recession in per capita GDP terms and last week saw data showing zero inflation in the March quarter. Contribution to these indictors of economic funk is the fact that well over half a trillion dollars of householder wealth has been destroyed as house prices have tumbled.

Add to that the fact reported by the Australian Office of Financial management last week that gross government debt is $543 billion, almost double the level that the Coalition government inherited in September 2013, and the scorecard is looking very ratty indeed.

As the ad man used to say, “but wait, there’s more”.

For the last four years, wages growth has been weak and at one stage fell to the lowest level on record. Then there are falling job advertisements, business investment as a share of GDP is at a 25 year low and over 13 per cent of the workforce is either unemployed or underemployed. It is a scorecard for the economy that under Morrison’s watch must be rated an “F” for fail.

Of course, it must be noted, the Australian economy experiences cycles, up and down.

But Australian economic history shows that in every other period of weakness, the slump has been driven by a mix of weaker global economic conditions and / or a severe downturn in commodity prices for the bulk of commodities we export. When we check how these forces have fared in the last year, they show global growth strong and commodity prices booming. This goes to show, quite plainly, that this is home-grown economic malaise.

Indeed, without the extremely positive influences from overseas, Australia’s current per capita recession would be something even more problematic, that is, growth and inflation would be even lower and the labour market weaker. One way these problems are almost certainly going to be dealt with is interest rates.

Such is the fragile nature of the economy that financial markets are pricing in the Reserve Bank of Australia needing to slice official interest to less than 1 per cent, yes, under 1 per cent, in an effort to arrest this increasingly poor economic performance. Further than this, there are some well respected economists starting to actively consider Australia needing negative interest rates and money printing to overcome the disinflationary problems confronting consumers and business, especially if the house price fall continues and crunches into an already soft economic underbelly.

While negative interest rates and quantitative easing remain highly unlikely, it was the policy response implemented by many countries during the depths of the global financial crisis when those economies were struggling to cope with deep recessions.

There is also discussion about the new government, after the 18 May election, needing to rollout fiscal policy stimulus, mainly in the form of additional government spending in an effort to underpin growth. This may be needed if things get worse. Either way, almost all economists are increasingly concerned about the lack of strength in the economy and just how far away it is from achieving above trend growth, full employment, a lift in wages growth and a return to a healthy rate of inflation between 2 and 3 per cent.

The economy is not strong, the labour market is still weak and inflation is well away from the target and falling.

Morrison needs to acknowledge that and to say what he will do about it if he wins the election.

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The RBA admits it stuffed things up – sort of

The Reserve Bank of Australia needs to be congratulated for publishing research which implicitly confirms that it made a mistake when setting monetary policy in the period mid-2017 to early 2019.

Not that the research explicitly says that, but the RBA Discussion Paper, Cost-benefit Analysis of Leaning Against the Wind, written by Trent Saunders and Peter Tulip, makes the powerful conclusion that by keeping monetary policy tighter in order to “lean against” the risk of a financial crisis, there was a cost to the economy that is three to eight times larger than the benefit of minimising the risk of such a crisis eventuating.

The costs to the economy includes lower GDP growth and higher unemployment, that lasts for at least for several years.

A few terms first.

According to the Saunders/Tulip research, “leaning against the wind”, a term widely used in central banking, is “the policy of setting interest rates higher than a narrow interpretation of a central bank’s macroeconomic objectives would warrant due to concerns about financial instability”. In the RBA’s case, the “narrow interpretation” of the RBA’s objectives are the 2 to 3 per cent inflation target and full employment.

In the context of the period since 2017 and despite the RBA consistently undershooting its inflation target and with labour underutilisation significantly above the level consistent with full employment, the RBA steadfastly refused to ease monetary policy (cut official interest rates) because it considered higher interest rate settings were appropriate to “lean against” house price growth and elevated levels of household debt.

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The weak economy is turning higher

In the space of a couple of months, the rhetoric on the economy has gone from strong to weak.

Curiously, both assessments are wrong.

The economy was actually weak during the first half of 2019 and, if the leading indicators are correct, late 2019 and 2020 should see a decent pick up in economic activity.

It is not clear what has caused this error of judgment and the about face from so many commentators and economists, including importantly the Reserve Bank. A level-headed, unbiased look at economic data confirms that in late 2018 and the first half of 2019, the economy was in trouble. There were three straight quarters of falling GDP per capita, house prices were diving at an alarming rate, there was a rise in unemployment, wages growth remained tepid and low inflation persisted.

These are not the dynamics of a “strong” economy.

Only now, in the rear view mirror look at the economy, are these poor indicators gaining favour, leading to generalised economic gloom.