According to the economics teams at three leading investment banks, the Australian economy is slumping right now and will continue to worsen well into 2009 at a rate lower than the forecasts from Treasury and The Reserve Bank.
The economics teams at Goldman Sachs JBWere and Merrill Lynch have slashed their estimates of 2008 and 2009 economic growth for Australia and are now predicting recession.
And ABN Amro reckons the economy is stalling right now and growth is close to zero.
They all agree that as a result the Federal budget will go into deficit, unemployment will rise to 7.5%, and the Reserve Bank will cut interest rates to a low of 3.5%, a point suggested late last week as well by Macquarie Bank interest rate strategist, Rory Robertson.
He and the two teams now say we will get a 1% cut in interest rates from the Reserve Bank at its meeting next Tuesday, which will take the cuts since September to 3%, a measure of how seriously the RBA views what is happening in the economy.
But debt futures market are tipping the RBA to cut the cash rate by a massive 1.25% next Tuesday, which if it happens, would be the largest official rate cut since the 1990 recession.
ABN Amro’s chief economist Kieran Davies said a shrinking Australian economy, falling asset prices and recession-like levels of business confidence will make the RBA more inclined to cut rates aggressively.
"The wealth effect of falling asset prices is snowballing and the Chinese economy is slowing very sharply. Also, we think the economy is contracting now. We are close to zero.”
A 1.25% rate cut in December would take the cash rate to 4%.
The cash rate was at 4.25% in late 2001 and has not been below that level since the RBA began publishing its cash rate target in 1990.
Economists point out that the debt futures market is signalling a cash rate low of around 3%, which would be the lowest level for rates since 1960, when the credit squeeze hit that year and
Federal Treasurer Wayne Swan still claims the budget won’t go into deficit: the forecasts reckon it will, and they were supported by the latest update from the well-connected Access Economics team in Canberra.(Source).
Goldman Sachs JBWere’s downgrade follows one in the US from their economics group there for the US on Friday:
Goldman Sachs said US GDP was shrinking at a 5 % annual rate in the current quarter and will drop 3% and 1% in the next two quarters.
It said in a note US unemployment will reach 9% by this time next year. In contrast the US Fed reckons unemployment will get to 7.6% next year (it’s 6.5% at the moment).
This morning in a note to clients sent out over the weekend, Goldman Sachs JBWere said:
"We have revised down our economic growth forecasts from 2.0% in 2008 and 1.7% in 2009, to 1.8% in 2008 and 1.0% in 2009.
The new forecasts incorporate a deeper recession through 2H08 than we first forecast in early October and a shallower recovery path through 2H09.
"We have also revised our interest rate forecasts, with the RBA now expected to cut the cash rate to 3.5% by March 2009 (75bp lower than our previous forecast).
"The combination of dramatic financial wealth destruction, debilitating tightness in money markets, rapidly slowing credit growth, sharp falls in commodity prices and evidence that Australian house prices are declining led us to formally adopt a recession in Australia as our base line view on 12th October.
"Since that time our conviction that Australia is poised for its first recession in 17 years has strengthened.
"The reduction in commodity prices by our resource strategy team suggests that Australia’s terms of trade will decline ~20% year on year by end- 2009, sufficient to strip around 3.0% from domestic demand growth.
"We now expect business investment to decline 7.0% in 2009 (was -1.7%) and domestic demand growth of just 0.6% in 2009 (was 1.8%). As such, we have also raised our estimate of the unemployment rate from 6.5% by end-2009 to 7.5%.
"We believe economic growth will contract -0.5% in the September quarter, -0.3% in the December quarter and -0.1% in the March quarter.
"This would be sufficient to see GDP decline -0.6%yoy in the March quarter 2009 and -0.3%yoy in the June quarter 2009 before an acceleration to +3.25%yoy by December 2009 as the combined effects of the interest rate cuts, A$ weakness and fiscal stimulus coagulate in 2H09 and drive a rebound in demand.
"We remain convinced that the Australian economy faces a debt-deflation cycle. The risk of deflation was brought home to all policymakers by the sharp fall in US inflation in October.
"In essence, we believe the threat of deflation (no matter how small) will accelerate plans of interest rate cuts and we now expect the RBA to cut interest rates 100bp in December, 50bp at its next meeting in February and a further 25bp in March.
"This will take the RBA cash rate to 3.5% by March 2009, a 375bp cutting cycle since September 2008.
"We believe the government should worry less about protecting an underlying surplus and more about providing the conditions to promote aggregate demand growth.
"We have downgraded our Market Forecasts reflecting a reality check due to the current market turmoil as well as incorporating the recent revisions to our commodity forecasts and domestic economic growth forecasts.
"Reduced our Industrial top-down FY09 EPS forecast from -5.0% to -15.0% (bottom-up forecast
