December 19 looms as a crucial date for Australian financial markets, and the federal government.
It’ll be when treasurer Scott Morrison delivers the government’s mid-year economic and fiscal outlook, or MYEFO as it is known in short, an update on the budget position for the current financial year along with its forward forecasts.
There’ll be more interest than usual on this event, even if it is just days before Christmas.
It could well be the date that decides whether Australia maintains its AAA credit rating, having been placed on watch negative from Standard and Poor’s earlier this year.
The ratings agency is certainly paying attention, warning this week that any slippage that pushes the expected return to surplus beyond 2020-21 “probably wouldn’t be” consistent with a triple-A rating.
Even with surging commodity prices, Jo Masters, senior economist at ANZ, says the fiscal outlook could be even worse than what was conveyed in May’s federal budget, potentially increasing the risk of an imminent ratings downgrade.
“With revenues under pressure from weak wages and profits, and little progress on the spending side, the MYEFO could well show a worsened fiscal outlook raising the odds of a sovereign rating downgrade, potentially, but not necessarily, in the immediate aftermath of the MYEFO,” she said.
Masters says there has been little progress on passing new savings measures.
She also says that the recent spike in Australia’s key commodity export prices, while encouraging, are “unlikely to feed through to a significantly improved budget profile”.
“The economic assumptions in the MYEFO are unlikely to assume that prices remain elevated, particularly for coal.”
However, the big issue for budget repair is continued weakness in wage growth, something that is currently tracking well below the forecasts laid out in the federal budget.
“The budget forecast the wage price index (WPI) to accelerate to 2.5% in 2016-17 and 2.75% in 2017-18. The disappointing Q3 WPI suggests the risks to this profile are squarely to the downside,” says Masters.
And she expects this trend to continue, stymieing growth in personal income tax, the government’s largest source of revenue.
“We expect wage growth to continue to be dampened by a combination of spare capacity, structural changes, and global factors, suggesting only a very gradual acceleration,” says Masters.
Australia has retained a AAA credit rating with S&P since February 2003.
A decision to reduce that down one notch to AA+ would likely see the Australian dollar weaken, lift longer-dated bond yields and widen the interest rate spread between sovereign debt and less creditworthy borrowers.
It would also put upward pressure on funding costs for Australian banks, potentially laying the foundation for higher mortgage rates.
Should that eventuate, it could also put pressure on the RBA to reduce the cash rate further.
It’s also noteworthy that the other two major ratings agencies — Moody’s and Fitch — both have Australia’s credit rating at AAA with a stable outlook.
A cut by S&P could see those agencies place Australia’s rating on review for a possible downgrade, potentially exacerbating these moves.
While these are all hypothetical outcomes, if they do eventuate, it will impact every Australian one way or another.
It’s easy to see why there’s likely to be a lot of interest, whatever eventuates.