Saturday, July 04, 2015

2015 mid-year survey. Real estate the only bright spot

First, the good news. None of the BusinessDay forecasting panel expects a recession this coming year. But Australia's terms of trade are set to dive further and wage growth will be so low it won't match inflation, sending real wages backwards.

Unemployment will be contained, house prices will climb for at least another year, business investment will slide much further, the dollar will slip, there will be a chance of another cut in interest rates, and the budget deficit will almost certainly be worse than forecast. It'll be 2014-15 all over again: another year of drifting, without much of an economic or budget recovery.

The 25 forecasters who make up the BusinessDay panel are leaders in the diverse fields of market economics, academia, consultancy and industry economics. Several are former Treasury forecasters. Over time, their average forecasts have proved to be more accurate than those of any individual member.

Whereas this year's budget forecast a lift in economic growth from 2.5 per cent to 2.75 per cent between 2014-15 and 2015-16, on average the panel scarcely expects a lift at all: 2.4 per cent in 2014-15 and 2.5 per cent in 2015-16.

"Outside of housing markets, there isn't a lot that provides optimism," says National Australia Bank's Alan Oster, whose forecasts are close to the average.

Some of the forecasts are dire. Four have growth deteriorating; Europe-based Steve Keen expects growth of just 0.5 per cent; and Monash University's Jakob Madsen expects growth of 1 per cent. It would be easy to dismiss their concerns if each hadn't previously won the title of BusinessDay forecaster of the year (and in Keen's case, several times).

The most optimistic of the growth forecasts is 3.2 per cent, from Stephen Koukoulas. If achieved, it would do no more than return growth to its long-term trend.

None of the panel expects a boom.

On balance, the panel expects the iron ore price to hold fairly steady at $US59 ($78) a tonne. The only extreme pessimist is Saul Eslake, who expects $US45. There's broad agreement that China's economic growth rate will be maintained at around 6.8 per cent, with the United States hanging on to its gains at 2.6 per cent. Only Keen expects particularly low US growth, punting on 1 per cent.

After sliding 12 per cent in the past year, Australia's terms of trade are expected to fall further in 2015-16, slipping another 7.3 per cent. Only Bill Mitchell of Newcastle University is extraordinarily pessimistic, predicting a slump of 22 per cent.  Nigel Stapledon of the University of NSW is alone in expecting a terms of trade rebound, of 5 per cent. 

The slower deterioration in the terms of trade will allow an improvement in nominal gross domestic product. Nominal GDP is what people notice. It's the amount of money produced in the economy rather than the volume of goods and services used to produce it. Nominal GDP grew by just 1.15 per cent in the 12 months to March as export prices fell -- the lowest result since the global financial crisis. The panel sees a recovery to 3.5 per cent, a brighter forecast than the budget's, but still well down on the heady growth of up to 10 per cent during the mining boom.

The extra income won't flow through into wages. They'll climb by less than prices in 2015-16: by 2.4 per cent rather than 2.5 per cent, sending buying power backwards. Only seven members of the panel expect real wages to grow, five expect zero growth, and 12 expect real wages to fall.

Unemployment should remain contained somewhere between 5.8 per cent and 7 per cent, in part because of slow wage growth. If workers are costing their employers less in real terms, they are easier to carry. Economic modeller Renee Fry-McKibbin, in her first appearance in the survey, goes for an unemployment rate of 5.8 per cent. She says Australia is well-placed to benefit from demand in emerging economies as the dollar falls.

But businesses will continue to walk away from investment opportunities. Mining investment will plunge 25 per cent in the year ahead, on top of 15.5 per cent in the year just passed. Non-mining investment will scarcely grow at all. The budget forecast a rebound in non-mining investment of 4 per cent, the long-awaited "rotation" away from mining as a source of growth to something else; the panel is forecasting a lift of just 0.7 per cent, although that average is weighed down by one extremely pessimistic forecast - from Jakob Madsen, who expects a slide of 20 per cent. Without Madsen's forecast, the average forecast growth in non-mining business investment is still pitifully weak: 1.7 per cent. We wouldn't have much of a rotation at all.

Housing investment is the only really bright spot, with the panel forecasting an acceleration in growth to 7.5 per cent in the year ahead. Curiously, only one of the panel expects housing investment to fall -- but that member is Shane Garrett, of the Housing Industry Association, so his views ought to be given weight.

The panel expects Sydney house prices to surge a further 10.3 per cent in 2015-16, and Melbourne prices a further 6.4 per cent. Beyond that, most expect little growth. Six members expect prices to stay flat, and four expect Sydney prices to slump (by somewhere between 5 per cent and 12 per cent from their peak). Nicki Hutley, of Urbis Consulting, has the most restrained forecast for 2015-16: price growth of just 2 per cent in Sydney and 4 per cent in Melbourne. She says what bubbles there are will "deflate rather than burst".

The Reserve Bank's cash rate is, in the panel's view, more likely to stay still than be cut again. On average, they expect a cash rate of 1.9 per cent by this time next year, little changed from the present historic low of 2 per cent. Because the Bank moves in increments of 0.25 points, this means that, on average, the panel is ascribing a 20 per cent probability to another cut, and an 80 per cent probability to rates staying still. Nicki Hutley, Saul Eslake and Chris Caton are the only panel members who expect an increase, to 2.25 per cent in the first half of next year.

Six of the panel expect rate cuts: Bill Mitchell and Jacob Madsen to 1.75 per cent; Su Lin-Ong, David Bassanese and Stephen Anthony to 1.5 per cent; and Steve Keen to 1.25 per cent.

The panel expects the dollar to slide further, in part because the flow of money into the country will slow. The panel sees the 10-year bond rate staying near its present 3 per cent. Saul Eslake has the highest forecast (3.75 per cent) and Paul Bloxham the lowest (2.7 per cent).

On average, the panel expects the Australian dollar to slide from $US0.76 to $US0.725. But there's a wide range in the forecasts, from a dive to $US0.65 (Paul Bloxham and Saul Eslake) to a resurgence to $US0.83 (Stephen Koukoulas). BIS Shrapnel's Richard Robinson says the forecast slide won't be enough: the dollar would need to fall to $US0.70 to help some trade-exposed industries, and to $US0.58 to help others.

The sharemarket is anyone's guess. The central forecast is for the S&P/ASX 200 to inch ahead only 3 per cent to 5755. But at one extreme, Neville Norman and Nigel Stapledon of Melbourne University and the University of NSW expect a jump of 13 per cent to 6300. At the other extreme, Jakob Madsen expects a dive of around 20 per cent to 4500.

As usual, the budget deficit should be worse than officially forecast. This year's budget predicted $35.1 billion; the panel is picking $39 billion. Stephen Koukoulas is the most optimistic, picking suggesting $24 billion partly on the back of a much higher iron ore price. The pessimists say the deficit could blow out to $55 billion or $60 billion. If it does, it'll be because Australia's pay cheque has shrunk with declining terms of trade. It'll be a bad year in which to hold an election.

In The Age and Sydney Morning Herald

Arise Steve Keen, forecaster of the year

What was it Jesus said about a prophet being accepted everywhere but in his home town?

Australian expatriate Steve Keen was by far the most successful of last year's BusinessDay economic forecasters. He did it by being the most pessimistic of the 25, but hardly ever too pessimistic.

None of the others thought our terms of trade would collapse by more than a few per cent. Keen picked 10 per cent. We got 12.25 per cent. The pay cut rocked the budget deficit, but not by as much as most predicted. Keen went for $40 billion. The budget papers say it'll be $41.1 billion.

Wage growth slipped to a new low of just 2.3 per cent. Most of the panel couldn't see it coming, many going for 3 per cent or more. Only Keen and also University of Newcastle economist Bill Mitchell picked 2 per cent. Tom Skladzien, of the Australian Manufacturing Workers Union, deserves an honourable mention as well. With his ear to the ground he picked 2.5 per cent.

The Reserve Bank cut its cash rate twice in response to the slide in national income. None of the bank economists expected it. Only Keen and Mitchell went for a cut, to 2.25 per cent.

The lower rates spurred a sharemarket boom which pushed the S&P/ASX 200 to near 6000 in February before it fell back in May and June to close not too far from where it started at 5459. Keen picked 5500 – far closer than the much higher forecasts of the panellists who didn't see the interest rate cuts coming.

On the bond market the economists employed by banks embarrassed themselves. Instead of climbing as they all expected, Australia's 10-year bond rate slid to an all-time low before edging back up to 3.01. Keen picked 3.5 per cent, the only forecast anywhere near reality.

He says he takes private debt seriously unlike others who treat it as largely irrelevant to economic outcomes, a "consenting act between adults". Given the historically unprecedented levels of private debt worldwide, rates "simply can't rise without causing deleveraging and a crash".

Keen can rightly claim to have foreseen the events in the US which led to the global financial crisis and to have wrongly picked a collapse in Australian house prices in its wake, famously losing a bet and walking from Canberra to Mount Kosciuszko wearing a T-shirt that said: "I was hopelessly wrong about house prices, ask me how.".

Unwanted by the University of Western Sydney, he was snapped by Kingston University in London where he is gaining a reputation as one of Europe's leading economic thinkers.

He didn't get it all right this year. Bill Mitchell (another non-orthodox economist) was more accurate about economic growth, and almost everyone was more accurate about the US economy, expecting something closer to 3 per cent growth than the 1 per cent Keen forecasted. But Keen is doubling down and predicting 1 per cent again this year.

There's a chance he knows what he is doing. It's the third time he has won the title of BusinessDay forecaster of the year.

In The Age and Sydney Morning Herald