Buried in yesterday’s minutes from the May board meeting of the Reserve Bank is a warning that the Australian economy faces a slowdown over the rest of this year.
It was the most explicit warning of a slowdown from the central bank for some time.
The minutes said; "… the Board noted that overall growth in coming quarters was likely to be below trend given expected slower growth in exports, the decline in mining investment and the planned fiscal consolidation.".
Slowing investment, cuts to government spending, lower volume growth in iron ore and coal exports (along with weaker prices) and weakening household consumption (with retail sales slowing noticeably) will leave the economy dependent on housing for support in coming months.
Coming as world iron ore prices drop past $US100 a tonne, and local investors get nervous, it is the central bank telling us (well before iron ore prices got to $US100 a tonne), that we can expect an even more sluggish economy over the rest of 2014.
The drop in the iron ore price and the RBA’s comments didn’t worry local investors – they chased the sharemarket higher after an early weakness. But the Aussie dollar fell under 93 USc for the first time in three weeks.
And with consumer confidence taking a hit (as we saw with the Roy Morgan/ANZ survey results yesterday), Australian business, markets and investors could be in for a worrisome few months or more.
While it’s too early to forecast anything concrete, growth could possibly fall by up to 0.5% or more (annualised) over a couple of quarters or more. The fall will be more noticeable given the bank’s belief the economy hit trend growth in the March quarter (that’s around 3% to 3.25%).
The use of the phrase "overall growth in coming quarters was likely to be below trend" allows us to estimate the size of the possible fall given that trend growth in the economy is 3% to 3.25%. "Below trend” puts growth at an annual 2% to 2.75%.
The bank doesn’t forecast jobs growth, but yesterday’s minutes remarked that "the demand for labour remained subdued and was likely to remain so for some time”.
The bank said recovery in the labour market was likely to be “protracted”, which matches the forecast in the budget for unemployment to edge up to 6.25% next financial year from the 5.8% at the moment.
And then there’s the impact of the slide in iron ore prices. With that in mind, it will pay to reread what the RBA said in its recent Statement of Monetary Policy.
"Further slowing in Chinese demand for steel would provide a downside risk to iron ore and coking coal prices, and hence the terms of trade.
"It could also lead to the closure of some higher-cost Australian coal producers and the cancellation of a number of coal investment projects.
"If the exchange rate was to depreciate with the decline in the terms of trade, there would be some offsetting boost to service and manufactured exports from a lower exchange rate, but any substantial weakening in Chinese steel production could be expected to reduce GDP growth over the forecast period," the RBA said earlier this month in its second Statement on Monetary Policy for The Year.
The key remains in the performance of the Aussie dollar – it eased yesterday under 93 USc as traders reacted to the detail in the minutes, which was negative for those who reckon interest rates are going to rise, as well as the slide in iron ore prices and the weak stockmarket.
The RBA board minutes point out that in Australia we can’t expect the rapid pace of iron ore exports to continue for much longer (especially to China and which have been responsible for the return of our trade account to surplus, helped by weaker imports).
"The volume of iron ore and coal exports had risen strongly over recent months. Additional capacity for these commodities was still coming on line, although exports were expected to grow at a slower rate than in 2013.
"Overall, the pace of economic activity had increased over the previous six months, with the economy looking to have grown at around its long-run average pace in the March quarter, driven by especially strong growth of exports.
"With this pace of export growth unlikely to be sustained, output growth was expected to be somewhat slower over the next few quarters," the minutes forecast.
This slowing in iron ore (and coal for that matter) export growth will coincide with the economy’s forecast slowing as this year wears on.
This will also occur at a time when the impact of the federal and state budget spending cuts start to have an impact – not much at first, but building and large enough to be noted by the RBA several times this year.
Looking to other parts of the economy, the bank tells us not to expect a continuation of the solid rebound in consumption seen in late 2013 and the early months of this year. That will be another factor that will see economic growth slow in coming months (and the loss of consumer confidence won’t help either).
"Following strong growth at the beginning of the year, retail sales growth appeared to have moderated somewhat more recently. Low interest rates and rising housing prices continued to support household consumption and, notwithstanding recent volatility, measures of consumer sentiment remained around long-run average levels," the RBA minutes read.
That will leave housing to carry the economy.
"The housing market continued to be an area of strength in the economy. Although the most recent data had indicated a decline, dwelling approvals remained at high levels and the flow-on to commencements pointed to strong growth in dwelling investment in the first half of 2014.
"Across Australia, housing price inflation had eased somewhat in recent months from the earlier rapid pace, with auction clearance rates edging back and housing loan approvals stabilising. Other indicators, such as turnover, first home owner grants and loan approvals for new housing, remained consistent with strong demand for both established and new housing," the RBA said.
So it’s no wonder the minutes concluded:
"Given this outlook for the economy and the significant degree of monetary stimulus already in place to support economic activity, the Board considered that the current accommodative stance of policy was likely to be appropriate for some time yet."
