RBA's view of a flat landscape

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RBA's view of a flat landscape

By Michael Pascoe

The Reserve Bank’s November statement on monetary policy is a good news/bad news routine. The primary good news is that the RBA thinks Australia’s economic growth bottomed in the last quarter. The primary bad news is that growth won’t accelerate until early 2015.

The view from Martin Place is one of growth stuck around 2.5 per cent for some 18 months, as shown on the accompanying graph. That’s a deterioration from the August statement caused by expectations that investment in the resources industry will decline faster than previously expected and by our dollar remaining stubbornly high.

A lower dollar is likely to be needed, the RBA says.

A lower dollar is likely to be needed, the RBA says.

The potential good news though is that it wouldn’t take much to improve that outlook. The bank’s modelling is based on a couple of key set assumptions, including that the unpredictable exchange rate will remain where it is for the duration – in this case, 95 US cents.

“A lower exchange rate is likely to be needed to achieve balanced growth in the economy. A lower exchange rate, if it came about, would also see growth strengthening sooner than forecast and place some upward pressure on inflation for a time,” says the bank.

Growth is stuck ... RBA's expectations.

Growth is stuck ... RBA's expectations.

The immediate direction of the Aussie remains more a matter of US than Australian monetary policy, as governor Glenn Stevens has previously observed. If the Americans stop debasing their currency, it would quickly appreciate against ours.

The statement holds out some hope though that the reduced expected investment in resources projects could weaken the Aussie – one of the factors pushing it up has been foreign capital being converted into Australian dollars to pay for digging mines and drilling wells.

There is other good news in the statement balancing that flat overall landscape.

Shopkeepers have been telling the bank on the quiet that at least some areas of retail sales continued to rise last month after the reported September pick up. On top of positive consumer sentiment, the impact of the wealth effect – higher housing and shares prices – is yet to work its stuff on consumer spending.

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On the other hand, the continuing soft labour market means low wages growth – “some measures of wages growth are around their lowest in a decade” – which limits the upside for spending. (When domestic sector employers complain about wages being too high, they tend to only mean the wages they pay – they need everyone else’s wages to stay high so people can buy their stuff.)

The statement soft-pedals that employment has been stagnant for the past six months, preferring to note that, while employment growth has been 0.8 per cent over the past year, hours worked have grown by 1.6 per cent as employers work existing staff longer rather than hire more bodies.

Building approvals, including non-residential construction, are continuing to rise as the big bet on dwelling investment paying off. Given the overall outlook, the RBA definitely isn’t worried about the uptick in housing prices. Says the bank:

“In aggregate, building approvals are expected to increase further over the period ahead, aided by a continued recovery in the established housing market, relatively high rental yields, low lending rates and government support to first home buyers that is increasingly directed towards purchases of newly built, rather than existing, dwellings.”

There’s an interesting insight that the Australian Bureau of Statistics capex survey doesn’t capture some large and increasingly important investment:

“The ABS capital expenditure survey for the June quarter (which predates the recent pick-up in business sentiment) continues to suggest that non-mining investment covered by the survey will decline in 2013/14 . However, in coming years non-mining investment not covered by this survey – such as investment in agriculture, forestry & fishing and healthcare & social services – is expected to grow faster than investment included in the capex survey, particularly in the healthcare industry.”

Of greater potential importance is the global outlook for 2014. For the first time since the GFC hit, all major economies are expected to be growing, albeit weakly in Europe’s case. Our main trading partners will be leading the way at or above trend and the rising volume of our exports, even at reduced prices, will be the star contributor to our GDP growth.

On the other hand, there’s the public sector – government spending not just weak, but very weak indeed:

“The weak outlook for growth of public demand is consistent with the fiscal consolidation underway and that which is planned. The forecasts imply that growth of public demand over the next few years will continue to be the weakest seen for at least 50 years. It is possible that with below-trend growth in the economy in the near term, governments will not restrain spending growth to the extent assumed.”

So the RBA suspects federal and state governments won’t cut spending as much as they have claimed when faced with the economic reality. The mandarins are too careful to say it, but maybe they have in mind the way Joe Hockey is letting the deficit blow out since becoming treasurer.

There are potential rewards for keeping the faith at this stage of the cycle. While that damned dollar is keeping growth below trend through next year, there is the forecast of quite strong growth through 2015:

“The forecast for growth to pick up about a year from now is based on the stimulatory effect of low interest rates, the expectation that growth in Australia’s trading partners will be close to, if not above, average, further strong population growth and the need to add to the capital stock after a long period of subdued investment (outside of the resources sector). The recent improvement in sentiment, if sustained, bodes well for the willingness of businesses to invest and expand their operations.”

Michael Pascoe is a BusinessDay contributing editor

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