Monday, January 08, 2001

2001 Economic Survey. Rates cut to soften landing; economy to grow far less than officially forecast

Josh Gordon:

Australia's private forecasters believe the economy is coming in to land after a period of soaring growth and this could see the jobless rate shooting back towards 7 per cent before next Christmas.

The half-year economic survey by The Age has found that an overwhelming consensus predict that the Reserve Bank will cut interest rates this year - possibly by as much as one full percentage point - to cushion the landing.

The economists have also tipped a modest recovery of the Australian dollar, a slowing world economy and a continuation of the housing construction slump that hit the industry after the GST was introduced.

The survey of 25 economists from business, academia and the finance sector predicts the economy will expand by 3.18 per cent in 2000-1 - far below the federal government's November budget up-date forecast of 4 per cent growth. It is also less than the growth rate of 3.50 per cent forecast by The Age panel in the previous survey, published six months ago. Looking ahead to 2001-2, the forecasters predict the economy will grow by 3.12 per cent - again well below Federal Treasury's forecast of 3.75 per cent growth.

The survey reflects a substantial change in sentiment about the economy following a string of economic signs pointing to slower growth. But most said a recession, which would technically require two quarters of negative growth, was unlikely. There were, however, some dissident voices.

The major pessimist was Duncan Ironmonger, from Dun and Bradstreet. He predicted that a recession would hit the economy in 2001, with GDP contracting by 0.4 per cent in 2001-2 on very weak private investment and a slowing world economy.

Richard Robinson, from BIS Shrapnel said he did not believe there would be a recession in 2001, "just a major down-turn" and tipped the economy would grow by 1.5 per cent next financial year.

Others were very optimistic, with five economists forecasting the economy would grow by 4 per cent or more in 2001-02.

Rothschild's Alan Siew, who tipped 3.8 per cent growth in 2001-2, said the GST, higher interest rates and soaring oil prices had weakened the economy, but growth would return to a solid pace as these factors disappeared over the next few months.

One forecaster, Shane Oliver from AMP, took a jab at his own kind and warned, "Economists, almost without exception, are notoriously bad at forecasting recessions".

The tipsters were at particular odds with the Federal Government about the outlook for Australia's jobless. Federal Treasurer Peter Costello believes the unemployment rate will fall below 6 per cent before next June on 3 per cent employment growth. For the Treasurer to be right, about 25,000 jobs would need to be created each month.

According to the panel, this could be a brave prediction. The consensus was that the decade low of 6.3 per cent unemployment achieved in October would be as good as it gets for the jobless. Seven of the economists tipped that unemployment would be at or over 7 per cent by Christmas, while on average the forecasters predicted a jobless rate at 6.75 per cent with very modest 1.27 per cent employment growth.

A year ago, many of The Age panelists were worried that workers would chase pay rises as extra compensation for the GST. However, the latest survey shows this concern has diminished. Wages growth should be solid, but not a major threat to inflation. Average weekly earnings were tipped to rise by 4.24 per cent and the more reliable wage cost index by 3.48 per cent over the year to December.

There was also optimism that economy would continue to take the GST in its stride. Most felt that by the September quarter its inflationary effects would well and truly have washed through the economy. On average, the panel forecast that annual inflation would be a benign 2.59 per cent in December, comfortably within the Reserve's 2 to 3 per cent target band. Two of the economists, Shane Oliver from AMP and Steven Kates from ACCI, predicted the official interest rate would be 5.25 by December, a full percentage point lower than the current level.

However, some warned that oil prices and the dollar were still a la+.1major threat to interest rates.

The panel also saw the dollar shrugging off some of its weakness in 2001, with predictions that the investor love affair with the US would begin to turn sour. By December, the dollar would be trading at 61.19 US cents, 66.21 Yen and 62.16 Euros. .

Almost all of the economists surveyed said the dollar had been extremely undervalued. But many, including Bruce Freeland from the Commonwealth Bank, urged caution, arguing a recovery could not be guaranteed since the dollar was no longer trading off Australian economic fundamentals.

The survey predicts the account deficit will shrink to $26.45 billion for the calender year. Exports will by boosted by the low dollar and imports constrained by the slowing domestic economy. Australia's net foreign debt is expected to rise from about $268 billion in the June quarter last year to $298.35 billion by December.

Changing conditions to keep lid on CPI

Three months ago, with the release of better-than-expected inflation data for the September quarter, local businesses were hailed as the saviour of a potential CPI blowout.

This year, leading economists in The Age's half-year economic survey are predicting that it will be lower oil prices, a stronger Australian dollar and a global economic slowdown that will keep inflation under control.

While many analysts expect that at least part of the raft of additional costs absorbed by business in the September quarter - GST, rising oil prices and higher import costs - will be passed on to consumers this year, changing economic conditions should counter any substantial increase in the CPI.

The consensus view from the survey is that by the end of 2001, underlying inflation will be at 2.59 per cent, well within the Reserve Bank's target band of 2-3 per cent.

"The most important factor for CPI-inflation over the next 12 months is oil prices. We assume the price of oil in Australian dollars will begin to fall shortly due to a nominal appreciation of the Australian dollar and a drop in world prices," said Philip Adams of Monash University's Centre of Policy Studies.

"Importantly, the risk of a sharp acceleration in wages growth has not yet materialised and labor market conditions are expected to ease during 2001 as a lagged response to the sharp fall in job ads," said Macquarie Bank senior economist Andrew Hanlan.

While economists predicted that the effect of the GST was largely a "one-off" and would not boost inflation, the effect of higher import prices had five economists surveyed tipping inflation would exceed 3 per cent by the end of December.

"December quarter 2000 and March quarter 2001 will exhibit quite strong increases reflecting the flow through of higher import and export prices," said UBS Warburg chief economist Mark Rider.


Pundits forecast strong trade

The low dollar will boost exports while the slowing economy will limit imports and this will help shore up Australia's trade position over the new year, according to The Age half-year economic survey.

Despite predictions of a modest recovery of the Australian dollar, most economists said it would be a strong year on the trade front.

The annual current account deficit is tipped to narrow to $26.45 billion by December, compared with $33.68 over the year to June 2000.

Some even predicted a sustained run of trade surpluses.

Shane Oliver from AMP said: "Thanks to the low Australian dollar, export growth should be solid and imports restrained over the next 12 months.

"This will help hold up growth and should also ensure a trade account near balance. This does imply that we will see several monthly trade figures in surplus."

Bill Evans from Westpac agreed, and said even if the dollar recovered to 60 US cents it would still be a very competitive exchange rate and would continue to deliver a windfall to exporters.

The Federal Government believes the economy will grow by 4 per cent this financial year.

This prediction, which is regarded as highly optimistic by most private sector economists, is based on the assumption that strong exports will keep the economy humming. Australia's exporters have already received a windfall from the stunningly competitive dollar and a strong world economy.

Over the year to September 2000, the value of Australia's exports soared by 40 per cent, and in September and October the trade balance was in surplus for the first time in three years.

According to the private sector forecasters, the key risk to Australia's exports will be a hard, rather than soft, landing for the global economy.

Geoffrey Sims from Telstra said the trade performance would critically depend on the extent and timing of the US slowdown.

"With the global economy more highly leveraged to the US economy than ever before, the looming US slowdown will have a more pronounced impact on the global economy and hence demand for Australian exports," Mr Sims said.

Despite strong exports, some economists warned that imports would pick up over the year, ensuring the trade balance remained in deficit.

Alan Siew from Rothschild said: "To achieve sustained trade surpluses next year would need a slump in imports, which in turn would only occur with a recession. This is very unlikely."

Anthony Thompson, from HSBC, said there was a risk that imports would pick up if business investment recovered more rapidly than the pessimistic business surveys suggested.