Economic challenges ahead



The Reserve Bank and government need to do more to stimulate Australia's sluggish economy after recent interest rate and tax cuts have had little positive impact, according to two leading economists.

The RBA has already cut official interest rates twice in June and July to new record lows while households have received around $7 billion in tax cuts, however business conditions remain muted in the face of weak household consumption.

"What you’ve got is a consumer that is scared, and we don't see that going away and we don't see the tax cuts causing any sort of momentum," National Australia Bank Chief Economist, Alan Oster, said at the AIC 2019 conference.

"Even though we're the largest business bank, we're finding it really difficult to get credit away, and so we're really worried about the private sector not really improving much, in total."

The NAB Monthly Business Survey in August revealed growth in the private sector has continued to deteriorate with business confidence falling three points to +1 index point and business conditions dropping two points to +1 index point.

Westpac Institutional Bank Managing Director and Global Head of Economics, Bill Evans, said it's unlikely Australia will return to trend growth, despite the RBA's expectations.

"I'm not seeing a recession, but I am seeing a long period of below trend growth."

Fiscal policy needed

Oster said the economy needed more fiscal policy, such as bringing forward the next round of tax cuts. NAB's data analysis shows that households, still concerned about weak wages growth, are spending less than 20% of current tax cuts.

"It's stupid to be using interest rates. From a bank's point of view, customers don't change their behaviour in paying off [their mortgage] and so you lose that liquidity effect completely."

The RBA has also suggested that government infrastructure investment and structural reform would be more effective than cutting interest rates. Evans said the government could upgrade existing infrastructure, which would push money into the economy quickly, but it was unlikely.

"I think they're really hung up with this election promise surplus," Evans said.

Oster and Evans both expect the RBA to cut rates again later this year, with Evans suggesting they should move immediately given weak economic data.

"We're still seeing quite strong growth in health, education, and tourism," Oster said. "It's just that the traditional areas that rely on the consumer, they're in recession, let's face it. I've got readings in the business survey and retail that I've got to go back to 1990 to get worse readings. So, I don’t care what Gerry Harvey or anyone says – they’re in recession."

US-China trade stoush drags down growth

Oster said the US and China – the two economies with the biggest impact on Australia – were both slowing although he did not expect either to fall into recession. The trade war between the two countries has created significant uncertainty and is already dragging down economic growth as tariffs continue to climb.

"I'm hoping that it doesn't get worse, but I'm not expecting it to get better," Oster said.

Evans said China is slowing but it can still pull economic levers such as housing. Trump remains the swing factor in the trade war – he may change tack if it becomes a political liability although markets would be suspicious.

"I think China will play the long game," Evans said. "I think they'll absolutely be looking towards the next US election."

Trade uncertainty and slowing global economic growth prompted the US Federal Reserve to cut interest rates by a further 0.25 percentage points in September – its second cut this year. Prior to the rate cut announcement, Evans predicted three cuts by the Fed this year with more to come in 2020 as the China-US trade stoush continues.

"I would expect that as long as you don't see any major financial imbalances, and it doesn't look as if they are emerging in the US, that the Fed can be quite aggressive," he said.

However, he also expected the US to avoid recession with the inverse yield curve – historically a signal of recession – distorted by very low German and Japanese bond rates.

Europe looking at extended recession

While the US, Chinese and Australian economies are slowing, Europe is unlikely to avoid recession.

"We could argue that Germany is on the precipice of one now," Evans said, "Italy has probably been permanently in recession for a long time and of course, Brexit is going to impact Europe as well."

The European Central Bank cut its benchmark deposit rate by 10 basis points to -0.5 per cent in September and announced plans to re-start quantitative easing in an effort to revive the eurozone economy.

Evans said negative interest rates had devalued the Euro but its main aim – to force banks to lend – had failed.

"Now it's just a tax on banks because the sort of people that want to borrow from them, they don't want to lend to."

Meanwhile, Britain's exit from the European Union has yet to be resolved under new Prime Minister Boris Johnson, adding more economic uncertainty to markets. Evans said he would not be investing in Britain and predicted further falls in the value of the Sterling.

"I think the Sterling could go well below $US1.20. Some people are talking about parity with the US dollar – I don't believe that, but I wouldn't be investing in the UK at this stage."