Outlook: David Bassanese
There are challenges here and overseas but the economy is muddling along
The economy came to a shuddering halt in mid-2016 but the good news is that it appeared to have recovered its footing by year end. Looking into the year ahead, the economy is likely to remain challenged, with growth positive enough to avoid recession but insufficiently fast to reduce higher-than-desired unemployment and lowerthan-desired inflation.
The recent cause for concern was the September quarter national accounts, which revealed the economy contracted by 0.5%, reflecting across-the-board weakness in business investment and consumer spending. A bout of poor weather also held back some construction projects and export shipments. But underlying retail sales volumes bounced back strongly in the December quarter, and the value of exports has also rebounded. Especially in NSW, state government infrastructure projects are also growth supportive. All up, even if business investment remains subdued, these factors should at least ensure the economy does not experience a second quarter of negative economic growth, or a “technical recession”.
The challenges, however, remain. Home building approvals continue to trend down, implying the pipeline of housing construction projects that has supported the economy through the pullback in commodity prices and mining investment in recent years will start to dry up. Mining investment, meanwhile, still has further to fall, with the completion of our remaining major offshore natural gas projects later this year. Non-mining investment, meanwhile, is showing flickering signs of life but so far only in the relatively strong non-mining states of NSW and Victoria.
Although coal and iron ore prices lifted strongly through 2016, reflecting Chinese policy stimulus, few analysts expect these prices to last. As a result, the high commodity prices of late are not expected to quickly turn around the slide in mining investment or employment, nor provide the federal government with enough of a revenue windfall to cut income taxes (unlike during the mining boom).
In early February, moreover, the Chinese central bank nudged interest rates higher to check the strong growth in credit and excessive housing construction.
On the positive side, the consumer and business services sectors continue to display strong growth, helped by a flexible labour market that is at least offering more part-time work opportunities.
All up, the outlook still suggests the bias on local official interest rates remains to the downside, even though the Reserve Bank remains acutely concerned with ever-rising Sydney house prices driven by local and foreign investors. The RBA’s lingering “easing bias” should help cap the rise in bond yields, despite upward pressure on yields from the ongoing recovery in the US economy and higher US official interest rates from the Federal Reserve.
As for Australia’s equity market, low bond yields allowed outright price-toearnings valuations to remain at aboveaverage levels through last year, with market gains reflecting a modest lift in earnings due to upgrades in the resources sector. Accordingly, provided bond yields don’t rise too far and commodity prices don’t fall too far, the prospect of at least a modest gain in equity returns this year – as was the case in 2016 – appears good.
Externally, focus will remain on the so-far erratic nature of Donald Trump’s
The prospect of a modest gain in equity returns appears good
presidency. His promise of fiscal stimulus and industry deregulation are positive factors, while his geopolitical and trade hostilities are clear risks. On balance, though, Trump’s pro-business positives seems likely to outweigh the negatives, helping the US financial, defence and construction sectors in particular.
Other key global factors to watch include looming European elections, which could give rise to further anti-EU sentiment. The degree to which China feels the need to tighten credit conditions further poses downside risks for coal and iron ore prices and, by consequence, the sharemarket performance of Australia’s resources sector.