The RBA thinks Australia’s economy will accelerate this year — and recent data suggests it may be right

  • The latest Westpac-MI Leading Index suggests Australian economic growth will be well above 3% in the first half of 2018.
  • The RBA’s latest forecasts are for GDP growth of 3.25% in 2018.
  • Bill Evans, Chief Economist at Westpac, is unconvinced that growth will be anywhere near as strong as what the index and RBA currently suggest.

Australian economic growth may be about to accelerate sharply, according to the latest Westpac-MI Leading Index.

The indexes six-month annualised growth rate, a guide to the likely pace of economic activity in Australia looking three to nine months into the future, surged to +1.3% in February from +0.68% in January.

Source: Westpac Bank

As its name suggests, the index, using eight separate leading economic indicators, aims to predict what Australian economic growth will do in the future, measuring how far or below economic growth will sit compared to Australia’s trend GDP growth rate, widely perceived to be around 2.75%.

So in February, according to the index, GDP growth could accelerate to well above 3% in the first half of the year, an outcome that will no doubt please the Reserve Bank of Australia (RBA) given its what the bank currently expects.

“The level of the index is well above trend indicating improving prospects for growth in the first half of 2018,” said Bill Evans, Chief Economist at Westpac.

As seen in the table below, seven of the index’s eight components made a positive contribution to the headline reading in February, led by US industrial production and commodity prices in Australian dollar terms.

Source: Westpac Bank

However, while that indicates a broad-based improvement in recent economic indicators, Evans cautions that the internal results are not as strong as the headline index would have you believe.

“The contribution to growth from the eight components of the index emphasises the disproportionate impact of international factors,” he says.

“US industrial production and commodity prices explain 0.93 percentage points (ppts) of the overall 1.30ppts reading.

“It is disappointing that only 0.18ppts are contributed by the domestic components of the index — consumer and employment confidence, dwelling approvals and hours worked.”

In his opinion, the growth level indicated by the index in February is unlikely to be matched in reality.

“While Westpac has modestly lifted its 2018 growth forecast from 2.5% to 2.7% it retains its 2.5% forecast for 2019,” he says.

As such, Evans thinks growth will fall short of the RBA’s forecasts for 3.25% this year, ensuring that interest rates will remain at current levels until 2020 at the earliest.

“Westpac confirms its forecast that rates will remain on hold in both 2018 and 2019,” he says.