Tuesday 05 September 2017 by Craig Swanger Opinion

Green shoots for the Australian economy

…There is some encouraging data being released but it’s early days and there are a number of potential shocks that could disrupt the Australian economy 

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Business investment data in Australia is collected on a combination of actual (past) and forward looking forecasts by the businesses sampled.  The Australian Bureau of Statistics (ABS) collects seven estimates ranging for 18 months in advance to 1-2 months in arrears. Obviously the last estimate which is completely historic is the most accurate and the others have varying degrees of accuracy. 

This is quite unique as far as economic data goes as almost all other data is backward looking.  It doesn’t mean it is accurate, but it does provide some indication of the business sector’s confidence - the more they forecast for future investment, the more confident they must be. 

Last week, business investment data came out and showed a welcome outlook for the next few months.  The mining sector’s capital investment is naturally lower than last year, but manufacturing and “other selected industries”, which is largely the services sector, showed the strongest jump since 2005.  

Why do we care?

Business investment drives jobs. It doesn’t matter whether it is property, plant or technology, all investment requires people to manage, install, integrate or construct the asset being invested in.  Jobs growth is at the very heart of the problem for the Australian economy in recent years.  GDP growth has been strong, but mostly due to export growth, leaving employment growth weak, wages growth at its weakest on record, and as a result, consumer confidence and spending particularly weak. 

At a time in which Australian household debt is at record highs, this is the sort of stimulus the consumer sector needs, more so than government spending or an interest rate cut.  

What could it mean for the economy overall?

While it is just the intention to invest, history suggests that there is a strong link between intention and actual business investment, albeit subject to severe shocks such as the GFC, Asian Financial Crisis and therefore, a China hard landing or military action against North Korea. But in the absence of such a shock, it looks like the services sector and even the manufacturing sector will be contributing more to the domestic economy in the coming months.

On the other hand, while this trend has turned positive for the first time in several years, Australia still faces an unavoidable decline in residential property investment, mining investment will decline further as the gas projects are completed, and the risk of a sudden slowdown in China still looms very large. 

Furthermore, consumer spending remains very weak and until it recovers, the business investment cycle is likely to end well below the sort of peaks Australia normally experiences. Inventories, for example, experienced very weak growth in the June quarter and will create a drag of 0.3-0.4% on the June quarter GDP figure due for release this week. 

On balance, we need to see another quarter of strengthening investment from the business sector, a continuation of employment growth, wages start to grow above the rate of inflation and a slowing in consumer debt, all while avoiding a housing market correction or a hard landing in China. That combination, with these early positive signs for the return of business confidence, will see Australia’s domestic economy finally start to recover from the end of the mining boom.  

What could it mean for investors?

These initial green shoots are encouraging, but they will not impact the RBA’s decisions around increasing interest rates yet.  Remember that the RBA has been banking on this response from the business sector, for some time.  Its optimistic rhetoric with regard to a recovery in employment conditions and wages is yet to be matched by reality.  We are one step closer and hopefully the real Australian economy will catch up to the RBA’s optimism, but until it does rates will remain on hold.

 

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