Saturday, February 03, 2018

2018 Economic Survey. Dismal, but no disaster: how the panel sees 2018

The Reserve Bank board will confront a cheerless outlook when it meets for the first time this year on Tuesday.

The latest Fairfax Media Scope economic survey predicts barely adequate economic growth of 2.7 per cent, growth in living standards (real net disposable income per capita) of just 1.8 per cent, and barely any real wage growth.

The surveyed economists see further slides in housing investment and Sydney home prices, a sharemarket whose price growth will struggle to keep pace with continued low inflation and an Australian dollar that will remain stubbornly high at 75 US cents.

It amounts to an argument to leave interest rates where they are, and that is exactly what the panel expects for the first half of the year, predicting an unchanged cash rate of 1.5 per cent in June. That would make the period from August 2016 to July 2018 the longest stretch of steady rates since the Reserve Bank began publishing records.

But then in the second half most of the surveyed economists predict a hike, the first rate rise forecast by the panel since 2010.

The Scope panel is made up of 26 leading economists from financial markets, academia, consultancy and industry. Over time, its average forecasts have proven to be more accurate than those of any of its individual members.

New entrants this year include Macquarie Group’s Ric Deverell and Sarah Hunter of BIS Oxford Economics, the renamed BIS Shrapnel.





Although on balance the panel expects 2.7 per cent economic growth, the forecast range is weighted to the downside. Perennial pessimist Steve Keen picks 1 per cent, Sally Auld of JP Morgan tips 2.2 per cent, Paul Dales of Capital Economics picks 2.3 per cent, and Stephen Anthony, Stephen Koukoulas and Su-Lin Ong expect 2.4 per cent.

Last year’s forecaster of the year, Bill Evans, sees growth a little higher at 2.5 per cent. The highest forecast, from Janine Dixon, Jakob Madsen and Neville Norman is just 3.1 per cent.

The chance of a recession within the next two years is 15 per cent, which sounds bad, but is an improvement on the aggregate forecast of 20 per cent mid last year.

Stephen Anthony, a former forecaster of the year, assigns a 30 per cent probability to a recession within two years.

“This current housing boom is easily the greatest in the history of our major capital cities, and history shows that the deepest recessions tend to follow real estate busts,” he writes. “The key risk to the domestic economy in 2018 and 2019 is depressed spending on the back of a property slump in eastern Australia combined with record household debt and rising borrowing costs.”

Mardi Dungey, Sarah Hunter, Stephen Koukoulas, Neville Norman, and Julie Toth assign a zero or negligible probability to a recession.

Koukoulas says what would raise the possibility is a severe and sudden slump in house prices, which would hurt the household sector and banks.

“The experience in many countries during the global financial crisis shows how a sharp fall in house prices devastates an economy,” he writes.

The other risks are global; the Chinese economy faltering and geopolitical issues from Brexit, China, the US, North Korea, Middle East or elsewhere, which can’t be sensibly assessed.

The University of Tasmania's Saul Eslake makes the point that the risk of a recession is unrelated to how long it has been since the last one .

“Suggestions that we are ‘due’ for one have no foundation.,” he says.

“Recessions are the result either of a policy mistake, or an external shock. There is no compelling reason to think that policy-makers have made, or are about to make, a mistake of the sort that could precipitate a recession.

"My estimate of a one-in-six chance of a recession reflects my assessment of the probability of an external shock, most likely emanating from policy mistakes in the United States."

Offshore growth

The world economy is picking up.

The panel expects global growth of 3.7 per cent, a touch below the International Monetary Fund’s forecast of 3.9 per cent.

Some on the panel led by Eslake are predicting much higher growth in the US, as is the IMF, on the back of the Trump tax package. Others are sceptical. The average forecast is for unchanged US growth of 2.5 per cent.

The panel expects Chinese growth to hold up at 6.5 per cent and for the iron ore price to hold up at $US65 per tonne, down on the present $US72 per tonne, but still relatively high.

It should keep nominal GDP growth high at 4.5 per cent. Nominal growth is what matters for the budget. It is a measure of the number of dollars coming in rather than the number of tonnes sold.

But this is unlikely to translate into noticeable income growth for families. Real net disposable income per capita is expected to climb just 1.8 per cent throughout 2018, meaning growth is positive (at times it was zero or negative in 2014 and 2015) but nowhere near as high as it has been.

In the year to September 2017 it was 4.5 per cent. In the year to December 2016 it was 7 per cent.

Household spending is forecast to grow 2.2 per cent, not many points above population growth of 1.6 per cent.

The unemployment rate should close the year little changed at 5.4 per cent.


With home prices peaking (the panel expects further growth of only 2.1 per cent in Melbourne and a decline of 0.9 per cent in Sydney) investment in housing is expected to slide a further 2.2 per cent.

Mining investment is expected to slide a further 3.9 per cent, dashing hopes that the slide is about to end. Non-mining business investment, which climbed a welcome 9 per cent in the year to September, is expected to grow more slowly, by 6.4 per cent.

Wages and prices

Real wages are expected to barely grow for the fourth consecutive year, climbing by between 0.1 and 0.3 percentage points. The panel expects the wage price index to grow by 2.2 per cent while the consumer price index grows 2.1 per cent and the underlying price index climbs 1.9 per cent.

The forecast implies that much of the 1.8 per cent growth in real net disposable income per capita won’t flow through as wage growth.


The panel expects the ASX S&P 200 to close the year at 6205, an increase of just 2.3 per cent on December 2017.

It’s well down on the increase of 7 per cent in the year just past, barely more than inflation, but the upside is that our panel picked just 2.25 per cent last time and were proved wrong.

The local sharemarket has a habit of taking forecasters by surprise, being particularly susceptible to what happens on overseas markets.

The Australian dollar, at present uncomfortably high at 80 US cents, is expected to decline to 75 US cents, increasing the competitiveness of Australian industry somewhat, but not as much as many would like.

Julie Toth of the Australian Industry Group is amongst those predicting hardly any fall in dollar, picking 79 US cents. Paul Bloxham of HSBC is predicting 84 US cents and Michael Blythe of the Commonwealth Bank is predicting 83 cents.

Like the sharemarket, the dollar is at the mercy of what happens in the US, but in the other direction. If the greenback is falling against other currencies, it tends to make the Australian dollar rise.

Government infrastructure investment, not forecast in the survey, is expected to be high, and the good news for it is that government borrowing rates are expected to stay low. The panel expects a 10-year bond rate of 2.9 per cent in December, only a few points above where it is now. It hasn’t been above 3 per cent since 2014.

In The Age and Sydney Morning Herald


A Bill market - meet the forecaster who owned 2017

No-one got 2017 as right as Bill Evans.

The Westpac veteran picked economic growth of 3 per cent, pretty close to the 2.8 per cent we’ve got so far (for the year to September) and much closer than previous forecasters of the year Stephen Anthony and Renee Fry-McKibbin who picked 1.6 and 1.8 per cent.

More importantly and less commonly, Evans picked nominal growth of 5.4 per cent, way in excess of the 3 per cent that prevailed when he made the forecast and the sort of jump not seen since the mining boom. Nominal growth is measured in actual dollars of income, the kind that matter for the budget. A surge in iron ore prices (which Evans also picked) pushed up nominal growth to 5.9 per cent, more than the highest of the forecasts this time last year, but within range of the 5.4 per cent picked by Evans and also Paul Bloxham of HSBC.

To forecast that the Reserve Bank would keep its cash rate steady for an entire year notwithstanding the surge in national income required restraint and a reading of the bank that has made Evans, a former research manager at the bank, one of the best at predicting when it will and won’t move. For what it’s worth, in today’s survey he is predicting the second year in a row without a move in the 1.5 per cent cash rate, something that, if it happens, will be the longest period of steady rates since the bank began publishing its decisions in 1990.

Bloxham, another Reserve Bank alumni, also correctly picked 2017 as a year without rate moves and is expecting that to continue into the second half of this year, although this isn’t reflected in the published survey results that show him tipping an increase to 1.75 per cent. He has since revised away that increase in the wake of the tame inflation figure published after the survey deadline. Bloxham might have been named forecaster of the year along with Evans were it not for his over-optimistic prediction for headline economic growth of 3.4 per cent.

Only seven of our 27 panelists predicted a turndown in housing investment, Evans among them. Most correctly predicted a further slide in mining investment, but few picked the scale of the lift in non-mining investment which in the year to September recovered 9 per cent. The closest were Stephen Koukoulas (up 10 per cent), Richard Yetsenga (up 9 per cent) and Su-Lin Ong (up 8 per cent).

The Australian dollar came in much higher than Evans and the bulk of the panel had expected at 78 US cents and has since climbed to 80 cents. The average forecast, and Evans forecast, was 72 cents. The closest were 77 cents (Jakob Madsen), 76 cents (Besa Deda and Bill Mitchell) and 78 cents (Neville Norman).

The 10 year bond rate came in lower than expected at 2.6 per cent. The panel had picked an average nearer 3 per cent as had Evans. The most accurate forecasts (and bond rates are one of the key things market economists are paid to forecast) were by Saul Eslake, Fry-McKibbin, Koukoulas, Madsen, Mitchell and the National Australia Bank’s Riki Polygenis.

The ASX 200 closed the year up 7 per cent, better than the average forecast of 2.25 per cent, close to the gains of 5 to 6 per cent predicted by Evans, Koukoulas and Norman, and very close to the gain of 6.5 per cent predicted by Julie Toth of the Australian Industry Group.

Evans doesn’t work alone. He has a team of six Australian economists who toss ideas around and play devil’s advocate. Although they can use computer models, they are wary of them.

Senior economist Matthew Hassan says mechanical models go wrong during major shifts. The latest iron ore price boom was one. The model said it would boost consumer spending.

Evans and his team thought that it would at first, but then incorporated detailed insights from their consumer sentiment survey which told them the relationship had broken down. They are not afraid to change their forecasts, and they issue announcements when they do, which often move markets.

But they are also prepared to stick with a view. Hassan says they’ll do it longer than others if they think they are right.

In The Age and Sydney Morning Herald