Maxim Market Insights by Greg McKenna

• The RBA remains upbeat on growth for the Australian economy but recently downgraded its inflation forecasts such that it expects to undershoot the bottom of its inflation target band for the next 4 years.
• That combination, and residual concerns about the outlook for the Australian household sector, has caused the market and local economists to push back their forecasts for an RBA rate rise.
• But it’s still concerned about households, wages growth, slipping house prices, and about consumption which continue to occupy the minds and worry many economists.


The RBA is upbeat on the prospects for Australian growth


RBA assistant governor Luci Ellis gave a speech earlier this month which again highlighted the RBA’s positive outlook for the economy. It was a speech which supported the forecasts the RBA had issued the previous week but the way she concluded her speech is worth repeating because it is important in the national conversation about the outlook. And for the outlook facing Allure Media’s clients and advertisers.

Ellis made the point that the idea that Australia is simply the beneficiary of external drivers of growth – like China - is incorrect. She ended her speech saying “next time somebody asks you ‘where’s the growth going to come from?', you can answer: ‘from all of us, trying new things, and gradually getting a bit better at what we do.’ We don't need to wait for something external to make it happen”.

That’s a structural view of an economy that is more dynamic than many observers, economists, forecasters, and even companies participating in the day to day life of the Australian economy, its slings and arrows and when you look at the RBA’s forecasts for growth in the years ahead, you can see that it is quite bullish on the outlook for the economy.


Of course, for many years inflation was the bad guy in the global economy. Governments and central banks wanted to drive it lower and maintain price stability so inflation doesn’t threaten the economy. In that way businesses and consumers could make investing and consumption decisions in the knowledge that prices and interest rates would be roughly stable – within a range. But, since the GFC, inflation has largely been absent globally and Australia is no exception. So the RBA is forecasting solid growth without inflation.

But the minutes from the RBA’s November board meeting highlight the RBA understands the challenges being faced by many Australian workers and businesses – especially in retail. “Members noted that the outlook for inflation would be influenced by the persistence of heightened competitive pressures, the outlook for wage growth and the speed with which wage costs might flow through to higher prices. They observed that competitive pressures had led food and other retailers to alter their business models in an effort to reduce their cost structures. These competitive pressures on both retail margins and costs were expected to continue for quite some time,” the minutes said.

Were it not for house prices and household debt levels, the RBA may ease rates. Indeed, even with a solid outlook for the economy, these two factors may yet force them down that path.


Consumer retrenchment


It’s a difficult time for Australian households right now. Lulled by low interest rates and a fear of missing out, many Australians have stretched themselves into the property market and in doing so, taken on more debt than they perhaps otherwise would have with the benefit of hindsight and reflection.

Indeed, just this month Wayne Byers, the chairman of Australia’s banking regulator – APRA, highlighted this noting just how Australian’s had been caught in this trap.

“In an environment of seemingly ever-rising house prices and low interest rates, an increasing number of borrowers had become comfortable maintaining high debt levels. To exacerbate this, lenders’ practices made it easy to refinance or extend interest-only terms, making it relatively simple for a borrower to avoid paying down their principal debt over an extended period of time,” he said.

That troubled APRA and the RBA from a financial stability point of view so they worked together to rein in investor and interest only lending which is falling and has stopped house prices from rising.


It has also had a demonstrable impact on household spending by forcing borrowers away from interest only loans and back toward principle and interest loans. Byers said, “We see this switching as positive for the risk profile of loan portfolios, as it has increased the proportion of borrowers that are paying down principal on their loan and therefore working to reduce overall indebtedness”.

Laudable as that may be – and I agree with the regulatory moves wholeheartedly – what that switch back to P&I means is that a bigger proportion of income now goes toward the servicing and repayment of debt.  

So, is it any wonder that retail sales have been under pressure with year on year sales growth falling to 1.4% below the rate of inflation. That’s a tough environment for the sector, those who work in it, and those who service it.

Indeed, as we run up to Christmas the special question Westpac asks each year in its consumer sentiment survey is disquieting. Westpac chief economist, Bill Evans, said this month that question revealed (my emphasis), “54% expecting to spend about the same and just 11% spending more – the lowest proportion since we began running this question in 2009. Overall the net balance of ‘more minus less’ is marginally more negative than last year, suggesting we’re in for a repeat of last year’s lackluster Christmas spend”.

Readers know the winning game over recent years has been to play the glass half full game when it comes to the economy. That is likely still the case in aggregate. But in some sectors like retail and consumer sectors, severe headwinds are building.


What a difference a couple of months makes


In September I wrote that with the level of strength in the economy and with the NAB business survey so strong the RBA could lift rates in 2018.

I have done a complete backflip on that idea as the weak retail sales, low inflation, and lack of wages growth have all combined to more than balance out what is a thriving business sector – in aggregate – across Australia. Trading, profitability, conditions, and confidence are all strong by historical standards for Australian business.

But the evolving question many economists are asking is just how much of a hand brake on domestic growth the factors affecting Australian households and consumers will be.

The consensus has settled on the tension between business and consumers keeping the RBA on hold until 2019.

Written by Maxim's "Economic Expert", Greg McKenna 


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