Thursday, July 29, 1999

1999-2000 Economic Survey. Growth, imports set to rise

Phillip Hudson:

Australia can look forward to a sustained period of high growth and low inflation, but the unemployment rate will remain stuck around 7.2 per cent and the nation faces a continued tough time on the trade front, according to the Age half-year economic survey.

Home loan interest rates are expected to remain unchanged, the dollar is predicted to rise and the stockmarket tipped to be largely unchanged amid nervousness about the high prices of Wall Street stocks.

While the current-account deficit is tipped to reach $35 billion, some economists have raised the prospect that it could climb to 7 or 8 per cent of national output without sparking a Banana Republic-type crisis - a view that was previously considered unthinkable.

The survey of 32 economists from business, academia and the financial sector predicts economic growth will average 3.4 per cent in 1999-2000 - well above the Government's May Budget prediction of 3 per cent.

It is also a massive increase from the 2.6 per cent average forecast by the Age panel in the previous survey published six months ago. It reflects the significant shift in the economic outlook for Australia and the expectation that the Asian economic crisis will not have a savage effect on the economy.

Looking ahead to 2000-01, the panel believes growth will largely hold up at around 3.3per cent - slightly below the Treasury's 3.5 per cent projection.

The optimist in the survey is Mr Peter Summers, from the Melbourne Institute of Applied Economic and Social Research, who predicts growth of 5.2 per cent this financial year and 4.8 per cent next year.

"Australia's external environment should improve, with US growth remaining strong, and Europe and Asia (especially Japan) experiencing accelerated growth," he said.

Five economists take a pessimistic line: Professor Neville Norman from the University of Melbourne, Mr Ric Simes from Rothschild, Mr Michael Blythe from Commonwealth Bank, Mr Joseph Capurso from Econotech, and Mr John Kyriakopolous from J.P. Morgan. They predict growth will drop to 2.75 or 2.8 per cent this year.

Mr Blythe said that although the economic performance had been exceptional, a period of slower growth lay ahead.

"Some imbalances are now emerging that point to slower growth. The pace of activity is increasingly reliant on the consumer and increasingly leaking into imports. Neither of these trends is sustainable over the longer term," he said.

But the most bearish is Ms Shangitha Rajendan, from the National Institute of Economic and Industry Research, who says growth will tumble from 3.3 per cent this year to just 0.8 per cent in 2000-01 - the year of the Olympics, the $12 billion tax cuts and the GST.

The panel predicts employment will grow by 2 per cent but the unemployment rate will average 7.2 per cent. But, within the group there is a massive divergence of opinion.

Mr Richard Robinson, from BIS Shrapnel, predicts the national jobless rate will fall to 6.3 per cent and Dr John Edwards, from HSBC, tips 6.6 per cent. But Mr Bruce Hockman, from Deutsch Bank, and Mr Blythe say it will rise to 8 per cent.

For those with a job, the average wage is tipped to rise by 3.6 per cent while prices rise by 2.2 per cent.

Asked about the outlook for inflation, the panel said the introduction of the GST could pose a threat if wage claims were made by workers seeking extra compensation. Professor Norman said "wage retaliation" could push inflation above 3 per cent and cause the Reserve Bank to lift interest rates.

The panel predicted that home loan interest rates would not change significantly.

The dollar, which was yesterday trading at 64 US cents, is forecast to have a more stable 12 months than last year when it tumbled to a record low. The panel expects it to average 67 US cents in the next six months.

Most economists said one of the key risks for investors in the year ahead was Wall Street's overpriced stocks.

The panel said the All Ordinaries Index, which closed yesterday at 3059.8 points, was expected to be 3068 at the end of the year and 3151 next June.

The trade outlook will continue to be grim, with imports expected to outstrip exports.

GST may push inflation over 3%

The GST could pose a threat to low inflation - and force up interest rates - if workers chase wage claims to compensate for tax changes, according to economists.

The Age's panel of economists believes inflation will average 2.2 per cent in the year to June - well below the Reserve Bank's medium-term comfort limit of 3 per cent. The prediction is bang on target with the Government's Budget forecast of 2.25 per cent.

But despite the Bureau of Statistics yesterday saying inflation was still at historic lows and sitting at an annual rate of 1.1per cent, some economists are nervous about the introduction of the 10per cent GST on 1 July.

The Government will deliver $12 billion in income tax cuts plus increased social security and family payments as a sweetener. The Reserve Bank has said it will ignore the expected one-off inflation jump of 2 per cent.

However, some unions have suggested they will seek higher wages to compensate for the GST. The ACTU has said it believes the tax cuts will not even return bracket creep of the tax scales for the past decade.

The Age asked the panel what the risk was of Australia's inflation rate rising above 3 per cent.

Dr Barry Hughes said the key issue was wages. "If there is a significant wage flow-on in compensation then the Reserve Bank will worry and hike rates," he said. Dr Hughes rates this a 25 per cent chance.

Professor Neville Norman, from the University of Melbourne, also warned that "wage retaliation" would pose a significant chance of inflation rising above 3 per cent.

Dr Steven Kates, from ACCI, said underlying inflation would rise above 3 per cent "if wage increases rise to compensate for the perceived increase in the cost of living".

8% deficit is safe, say economists

The current-account deficit could climb to 7 or 8 per cent of national output without triggering an economic crisis, according to economists.

In a significant shift of market sentiment from the panic of the 1980s and early 1990s, economists surveyed by The Age said a current-account deficit of 6per cent of gross domestic product - the same level that caused the Banana Republic crisis in 1986 - was manageable.

Mr Des Moore, from the Institute for Private Enterprise, said he believed Australia's more flexible economy could cope with a current-account deficit as high as 8per cent of GDP as long as it was fuelled by productive investment. "It could reach 8 per cent if it was investment-driven and it was clear that it was productive investment and not investment in real estate or speculative assets," he said.

"If the US is chugging along OK, 8 per cent with an investment surge would be acceptable by financial markets, but if it is consumption-driven it will be a major risk."

Mr Peter Horn, from Credit Suisse First Boston, has the most pessimistic current-account forecast for the year ahead, predicting that the deficit will be $42.1 billion or 6.7 per cent of GDP.

This is well above the panel's average prediction of $35 billion and $10billion higher than the Federal Government's May Budget forecast of $32 billion.

Mr Horn said he believed low commodity prices would continue to cause problems, and while sales would increase to Asia as the region recovered from the economic turmoil, Australia could find lower-volume sales to many of the new markets developed last year. He believed it was possible for Australia to run a current-account deficit of 7 or 8 per cent but it would need tight interest rate and Budget policies.

The Reserve Bank has indicated that interest rates are set to encourage expansion and the Government is preparing to loosen the Budget purse strings to help fund its $12billion GST-tax cut sweetener.

Mr Horn said that if the current-account deficit stayed at high levels after the tax cuts were paid next July "then monetary policy may need to be tightened". Mr Paul Brennan, from Salomon Smith Barney, also suggested financial markets could wear a larger balance of payments problem.

"It would need to push towards 7 per cent of GDP accompanied by further measures that reduced the Budget surplus (for there to be a crisis)," he said.

Commonwealth Bank's Mr Michael Blythe says Australia's high current-account deficit is "the price we have to pay for a strong domestic economy at a time when our major trading partners have been pretty subdued".

The survey revealed that economists and the markets had largely accepted the case put forward by the Treasurer, Mr Peter Costello, and the Reserve Bank governor, Mr Ian Macfarlane, that the deficit was beyond Australia's control but it was not out of control.

"It is only a crisis if international financial markets decide it is," said Telstra's Mr Geoffrey Sims. "So far they have been quite accommodating and have recognised that, unlike past blowouts in the current-account deficit, this one has been caused by demand contraction in Australia's major export destinations rather than overly strong domestic economy," he added.

But the Australian Industry Group's Ms Heather Ridout took a different view saying that the critical issue was whether the deficit stayed at 6 per cent of GDP. "If, as forecast, domestic demand slows and moderates imports and export markets recover this shouldn't happen," she said. "However, the possibility cannot be excluded. The need for strategic action to address the current-account deficit remains: increasing national savings and further diversifying our export base are key issues."

Dr Steven Kates, from ACCI, said the deficit was of less concern than in past years because the Federal Government was not borrowing money and had returned its Budget to surplus. The debt was entirely private sector and commercially based.

"However, with recovery in Asia expected, export volumes and prices should begin to rise and the current-account deficit fall to more acceptable levels. A current-account deficit of 6 per cent is not sustainable in the long term," he said.

Mr Geoff Bills, from the Housing Industry Association, said there was no crisis if the funds to finance the deficit were invested wisely. "But they usually aren't and if investors or lenders fear they aren't then the dollar will fall and interest rates rise," he said.

J.P. Morgan's Mr John Kyriakopolous said a deficit of 6 per cent was not sustainable and "could make Australia vulnerable to sharp swings of investor sentiment towards domestic financial assets".

BIS Shrapnel's Mr Richard Robinson was one of the few economists to say 6 per cent was a crisis level. "It will add to foreign debt, or worse, force us to sell more of the farm (local companies and assets). This will add to foreign interest payments and profit repatriation and ultimately worsen the current-account deficit," he said.

Mr John Edwards, from HSBC, predicted the deficit would drop, but stay above 4 per cent of GDP this year. He said it continued to underline the nation's savings problems.

Mr Ric Simes, from Rothschild, said such a high deficit was "a clear sign that something is seriously out of kilter". "Policy needs to be directed at boosting national saving and to do so quite aggressively over the next few years. Disturbingly, Government policy on superannuation has gone backwards over the past few years," he said.

Recession unlikely, say tipsters

The pace of economic growth in Australia will slow in the next two years but the risk of a recession is low, according to most economists surveyed by The Age.

But there are one or two predicting a post-Olympic slump.

"If interest rates are not raised, if public spending is not increased, and if protection levels do not go up, the risk of recession remains minimal," said the Australian Chamber of Commerce and Industry's Dr Steven Kates.

Mr Peter Horn, from Credit Suisse, rates the chance of a recession at less than 10 per cent. He said Australia's economy would be supported by a pick-up in global growth, the GST-linked tax cuts, worth $12billion next year, and the Sydney Olympics.

Mr Steven Wojtkiw, from the Victorian Employers Chamber of Commerce and Industry, agrees. He also believes the privatisation of a further 16per cent of Telstra, continued low inflation, and the increased social security benefits that flow from the GST package are reasons why growth will continue.

However, Colonial State Bank's Mr Craig James sounded a warning about a switch in economic conditions in early 2001. "A post-Olympics slump in construction is expected in Sydney," he said. "Further, in New Zealand and Canada monetary policy was kept overly tight on the introduction of a GST. A similar risk exists with Australia."

BIS Shrapnel - one of the survey's most accurate tipsters - says there is only a 5 per cent chance of a recession in the next 18 months. But after that? It's more likely than not.

Colebatch: Rough time for our economics tipsters

For four years the economics tipsters in The Age survey were hitting smoothly down the fairways of forecasting. Then came 1998-99: the Carnoustie of financial years for a forecaster.

Most of our tipsters' growth forecasts for 1998-99 ended up in the rough, half-buried in waist-high grass. A couple landed in the lake, and a few got some bunker practice. No one overshot the green.

Only two landed on the fairway. Dr Peter Summers, of the Melbourne Institute, went in the right direction with his forecast of 3.6 per cent, though he might wish he had used a stronger club. (Actual GDP growth in 1998-99 is estimated at 4.7 per cent).

And the one tipster on the edge of the green is the reigning champion: Richard Robinson, of BIS Shrapnel. The firm's uncanny record in the "90s continued in 1998-99; its tip of 4.1 per cent was easily the most accurate.

In July 1993, Shrapnels were among the few to predict the imminent boom. In the five years since, on average, its tips have been out by less than 0.5 per centage points, a gold medal achievement.

This year, too, it has struck out boldly. Apart from Shrapnels and the Melbourne Institute, our other forecasters tip growth to slow sharply, to around 3.25 per cent. But Shrapnels predict another boom year, with the economy growing 4.3 per cent. It tips extraordinary growth in employment, with almost 400,000 new jobs, and unemployment plunging to 6.3 per cent by June 2000.

The Melbourne Institute, our silver medallist, is buoyant too, tipping 5.2 per cent growth in 1999-2000. But Dr Summers sees most of this coming from investment and productivity growth, with unemployment still 7.5 per cent in mid-2000.

In a welcome return to form, our new bronze medallist is the Federal Treasury. It, too, undershot last year, tipping 3 per cent growth, but that was better than most. In the past five years, Treasury's tips on average have been within 0.6 percentage point of the actual growth.

For 1999-2000, Treasury has repeated its 1998-99 forecasts: 3 per cent growth, unemployment at 7.5per cent, and the current-account deficit held to just $32 billion. It stuck to these numbers in last week's quarterly roundup, although its comments seemed to imply stronger growth.

EXCHANGE RATES: Last year the panel tipped the dollar to be worth 65.58 US cents at 30 June. It ended up at 66.01 US cents. Bruce Hockman, of Deutsche Bank, and Barry Hughes both hit the bull's-eye, and many others came close. Hughes and Hockman both tip the dollar to reach 69 or 70 US cents by June 2000.

Last year's yen guru was Bruce Freeland, of Commonwealth Bank, who hit the bull's-eye with his 80-yen forecast; everyone else tipped the yen to be weaker by now.

INTEREST RATES: Last year the panel tipped the 90-day bill rate to be a tad below 5.25 per cent at mid-1999; it ended up a tad below 5 per cent. Not a bad outcome, given that in four of the previous eight years, the actual outcome was outside the entire range of forecasts.

Several hit the bull's-eye, including Paul Brennan, of Salomon Smith Barney, Chris Cheatley, of the EIU, Saul Eslake, of ANZ Bank, and Barry Hughes (again!). All four tip 90-day rates to be virtually unchanged in a year's time.

A year ago our panel tipped the major banks' mortgage rate to be 6.62 per cent by now; it is actually 6.55 per cent. The gold medal will go to the tipster who best answers the question: if we have real competition in banking, how come all four major banks charge the same mortgage rate?

No one can fault our panel on business ethics. Disdaining the chance to use insider knowledge, our tipsters from Commonwealth, National and Westpac declined to predict the mortgage rate in mid-2000. Only ANZ's Saul Eslake took a punt: no change.

Last year the panel thought 10-year bonds would end June 1999 at 6.22 per cent; in fact, they ended at 6.27 per cent, a stellar performance for the team. Des Moore earns the gold for his tip of 6.25 per cent.

BUDGET: Our panel last year thought Treasury had overestimated the Budget surplus. Thanks to "the Australian miracle", it underestimated it, and the gold medal in this class goes to: Treasury (along with Commonwealth Bank and VECCI, which took Treasury at its word).

UNEMPLOYMENT: The panel thought jobs would grow by 130,000 and unemployment would stay at 8.1per cent. The tipsters underestimated jobs growth and the fall in workforce participation rate, which cut trend unemployment to 7.3 per cent in June. Econtech was closest, tipping 7.4 per cent. It predicts a rebound to 7.7 per cent in June 2000.

INFLATION: As usual, the panel was far too pessimistic; the CPI rose 1.1 per cent, less than half our team's 2.4 per cent forecast. Mike Nahan, of the Institute of Public Affairs, hit the bull's-eye; but then, Mike also tipped a recession.

CURRENT-ACCOUNT DEFICIT: Treasury tipped a deficit of $31billion. The panel tipped $32.7 billion. That looks like being very close to the final figure due on 30 August. We will take a punt and provisionally award the gold to Bill Evans, of Westpac, for his tip of $33.2 billion.