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Australian GDP Outlook Deteriorates as Inflation Softens Amid Loose Policy

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A slowdown in inflation and the disinvestment in the mining sector have rendered the Australian economy exposed to recessionary dynamics in the near-term, resulting in the central bank maintaining accommodative policies, and a devaluation being a possibility.

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Kristian Rouz – Australia’s economy is facing mounting downward pressures, which could potentially snap its longest  among the advanced economies run without a recession.

Since June 1991, the nation’s GDP has continuously expanded defying the challenges of the Asian crisis of 1997, the dotcom crash and the Global Recession, both originating the US, and the European debt crisis of the 2010s. Now, as the inflation steadily softens, Australian consumers are not providing enough momentum to the economic expansion.

Australian inflation unexpectedly declined in the second quarter of this year, and has remained below the Reserve Bank of Australia’s (RBA) target for six consecutive quarters, stirring fears of a possible economic downturn.

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Australia’s household consumption drives some 57.8 percent of the GDP, according to the World Bank, and the softening inflation suggests the broader economy is poised to slow further, as consumers are likely to abstain from spending in the absence of the projected price pressures.

The nation’s Consumer Price Index (CPI) increased just 0.2 percent in the second quarter, and 1.9 percent year-on-year, which is below the earlier projections of a 2.2-percent increase. Core inflation advanced by 0.5 percent.
Subsequently, the RBA said they would abstain from soon interest rates hikes as such a move could further complicate the economic growth outlook.

Earlier this month, the RBA Governor Philip Lowe said the cash rate would remain unchanged at the accommodative 1.50 percent.

“GDP growth slowed in the March quarter, partly reflecting temporary factors,” Lowe observed. “At the same time, consumption growth remains subdued, reflecting slow growth in real wages and high levels of household debt.”

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Australia’s significant reliance of commodity exports, primarily, industrial metals, and the related exposure to mainland China’s manufacturing sector dynamics, have resulted in a decline in the mining sector investment in the past two year. Subsequently, the Australian economic growth slowed, and the ongoing structural realignment of the Australian economy suggests only gradual economic improvements over time.
Downward factors to Australia’s GDP growth are, however, explicitly present at this point.

The nation’s consumer confidence is tepid despite the limited improvements in the labour market. Wage stagnation, a characteristic of many advanced economies, is well pronounced in Australia as well, and is interconnected with the slowdown in inflation rate.

“Rent increases are the slowest for two decades. Growth in housing debt has outpaced the slow growth in household incomes. The recent supervisory measures should help address the risks associated with high and rising levels of household indebtedness,” RBA’s Lowe said.

Australia’s GDP growth slowed to 0.3 percent in 2Q17, compared to 1.1 percent in the first quarter, and a 0.4-percent contraction in 4Q16.
These developments have all contributed to the slowdown in price growth, and another factor is the perceived strength of the Australian dollar.

A commodity-exporting economy, Australia benefits when the national currency is weaker, rendering its exports more competitive in the international market. At the same time, a weaker Aussie would spur consumer price growth in Australia, as most items available on the domestic market are imported. This is part of the reason the RBA would leave rates unchanged rather than raising borrowing costs – higher central bank rates push the national currency FX rate higher, which in the current circumstances would slash percentage points off the GDP growth.

Australia’s household debt has advanced above 200 percent of net disposable income in 2015, according to OECD data, and has increased ever since, thus undermining the Australian consumer’s purchasing power. In the US, household debt to earnings, albeit also high, is just above 100 percent, whilst in the UK it is 150 percent, just below 100 percent in Italy and Germany, and 275 percent in the Netherlands.

Loose monetary policies of the RBA have allowed the Australian economy to rebalance after the commodity price crash in 2013-2015, returning some capital into the services sector. However, the slowing inflation is currently affecting the services sector sustainability, along with the high household indebtedness. Therefore, unless Australia is able to find the new sources of growth, a devaluation and/or a recession seem a likelier near-term probability.

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