Economic prospects brighten, while world interest rates tumble

At home and overseas there are currently mixed signals on the economy. But the prospects for future growth are cautiously promising.

In KPMG Australia’s latest Quarterly Economic Outlook we forecast that domestic annual GDP growth will rise to 1.9 percent in the second half of 2019 after bottoming out at 1.4 percent growth for the year ended 30 June 2019.

Importantly, the labour market remains quite healthy with nearly 300,000 new jobs (seasonally adjusted) added to the economy over the 12 months to June 2019. Forward indicators, however, signal soft labour demand, while spare capacity remains.

It is concern over job market conditions and low wage growth that has sparked the RBA’s two recent rate cuts – after nearly three years of stable rates – and the minutes of its last Board meeting suggest the RBA will cut its cash rate again by at least 25bp by the end of this year. It is conceivable, though I believe unlikely, that could happen as soon as next week.

In the short term, growth in household consumption is expected to remain soft – due to low employment growth, negative wealth effects associated with falling house prices and marginal real wage growth.

But these negatives will be offset to an extent by the rate cuts and the government’s recent tax cuts. This fiscal stimulus will support economic growth and inflation (1.3 percent as at the March quarter 2019) as the year progresses.

Housing investment is expected to continue falling until the middle of 2022 – and this will mean house prices will soon start to edge upwards.

Business investment is expected to turn around into 2020 with growth turning positive and rising as business confidence regains momentum. We expect M&A transactions to lift – buoyed particularly by foreign buyers who see investments in Australia as good value, given the low A$.

Looking ahead over the next three years, we anticipate the Australian economy will continue to gradually improve – albeit soft and uneven growth – through to 2022, where it reaches 2.6 percent. Government consumption and investment will continue to support growth but unless new programs are announced will dissipate towards the end of 2022.

Further afield, the global economy is in the late stages of the current cycle with GDP growth expected to increase marginally, driven mainly by emerging markets and developing economies. World economic growth is now forecast to be around mid-3 percent towards 2023.

Geo-political uncertainties are likely to continue being a drag on business investment and to increase downside risks to the global economy. These include the ongoing US-China trade tensions and an increased likelihood of a hard Brexit at the end of October 2019, following the appointment of Boris Johnson as UK Prime Minister.

Even if the US does not follow through with its tariff threats, the existing tariffs have weighed on global trade. At the end of Q2, the trend in world trade continued to slow down with weaker merchandise trade.

The trade tensions have taken a toll on the Chinese economy with both exports and imports declining in the first half of 2019, while domestic demand has also weakened. Japan too experienced subdued growth and weak inflation despite very low levels of unemployment.

But Japan is leading the way in one area – monetary policy, where interest rates are currently negative, and the central bank will be engaged in a program of Quantitative Easing for the foreseeable future.

Low or ultra-low rates are spreading around the world. Policy makers have turned more dovish to fight off risks of an upcoming recession and falling inflationary expectation. Central banks across advanced economies and emerging market economies are expected to loosen policy.

We expect the European Central Bank deposit rate to be cut and there is a real possibility of a resumption in quantitative easing in Europe too.

In the US, the Federal Reserve has just cut rates for the first time since the GFC and we expect at least another 25bp rate but by Q1 2020.

China, India and of course Australia are also going down this route. Yet the effectiveness of monetary easing around the world at this point is still questionable, especially in light of the US-China trade impasse.

The key is whether businesses are optimistic enough to increase investment in response to lower rates. It has to be said the jury is still out on that question.

Read the full report:  Quarterly Economic Outlook


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