Key insights from the week that was.
This week, updates for business conditions and consumer sentiment as well as the labour market highlighted how challenging Australia’s outlook is. Offshore, US trade relations and geopolitical tensions remained in focus ahead of the FOMC’s June meeting.
For the business sector, this was the first post-election reading for the NAB business survey, with interviewing beginning on 20 May, straight after the poll. Confidence certainly rallied on the election result and ahead of the June RBA cut, rising 7pts to +7 – a level just above the long-run average. By state and industry, the lift in sentiment was broad based with the exception of manufacturing, where sentiment was little changed. The two subsequent RBA rate cuts we see in August and November will provide support for confidence hence. However, this easing is occurring because the economy is weak. On this point, business conditions actually deteriorated in May, falling 2pts to +1 – a level well below the long-run average. The election may have biased this outcome down as elections can create a lull in new orders and activity while the sector awaits the result. That said, the weakness in conditions was broad based across the states and industry, and is consistent with other partial data to hand.
Turning to the consumer sector, the Westpac-MI consumer sentiment index fell 0.6% to 100.7 in June despite the RBA rate cut. From the detail of the report, it is apparent that household finances remain under significant pressure. While there is an expectation that rate and tax cuts will provide relief, it is difficult to foresee this benefit having a meaningful impact on consumers’ willingness to spend, with ‘time to buy a major household item’ well below average. A large portion of said benefit is instead expected to be saved, particularly if expectations around the labour market deteriorate.
On the housing market, price expectations certainly responded to the June rate cut and expectations of more to come. However, this index still remains well below average, and the response of ‘time to buy a dwelling’ to the rate cut was subdued versus history. This highlights that concerns over affordability and general uncertainty will remain lasting headwinds for housing.
Then to the labour market. The May labour force report was a real mixed bag. Employment exceeded expectations, rising 42k. However, hours worked contracted 0.3% in the month and the unemployment rate remained at 5.2%, the latter as a result of a further increase in participation. The important point to note here is that, if offset by an increase in participation, strong employment growth does nothing to reduce labour market slack. Notably, the underemployment rate (which measures the share of workers who are willing and able to work more hours) now sits at 8.6%, 1.1ppts above the level seen post-GFC.
This highlights the considerable challenge before the RBA as they seek to lift wages, and consequently GDP growth and inflation. To our call for two more rate cuts in this cycle, risks are clearly to the downside. While offshore in Europe and the UK, Westpac Chief Economist Bill Evans had extensive discussions with investors over these risks and the implications for policy, particularly the possible introduction of QE in Australia.
Looking offshore, our latest Market Outlook highlights the deterioration seen in trade and global growth over the past year, in large part because of US trade policy. This is a global headwind which is unlikely to dissipate anytime soon. While President Trump has “indefinitely suspended” his threat to tariff Mexico, we have since seen the President make new threats against Europe, while the US also continues to investigate other countries such as Japan and India. The good news is that monetary and fiscal policy can and will respond in the US and China respectively, and that these actions will most likely sustain robust growth. For Australia, the risk is that the two rate cuts we expect in the US to end-2019 reduce the effectiveness of the RBA’s own policy easing, limiting the downward pressure lower Australian rates have on our dollar. We still believe that the Australian dollar will fall to USD0.66, but now not until the first half of 2020, after the FOMC halts rate cuts and as domestic risks to Australia’s economy linger.
