Macquarie Bank isn’t buying the hype.
The bank has downgraded its outlook for Australia’s GDP growth over the coming years, anticipating a further delay in projected business investment driven by a slower US expansion under the Trump administration and continuing uncertainty arising from elections around the world next year.
It is now forecasting GDP growth of 2.1% in calendar year 2017 (previously 2.3%), followed by 2.6% in 2018 (3.2% prior) and 2.7% in 2019 (2.8% prior).
These may be small downward revisions, but Macquarie sees the risks remaining on the downside.
Although the US dollar has strengthened on currency markets, analyst James McIntyre said in a note to clients that the Australian dollar would remain supported by strong commodity prices, containing inflationary pressures.
Macquarie retains its call for the RBA to cut the official cash rate to 1% from the current level of 1.5%. However, the bank has had a risk scenario that sees the cash rate falling to 0.5%, and believes the election of Donald Trump “adds weight to that risk case”.
“Whether additional easing is required will depend on the ultimate trajectory for the A$ (a persistent sub US$0.70 move should act as a shock absorber for the economy) and the response of fiscal policy (action to boost infrastructure and other short term demand stimulus in the economy will counter the extent to which additional rate cuts are needed),” McIntyre wrote.
A sub-1% cash rate would increase policy complexity and potentially require a form of quantitative easing to make sure banks were passing on the full savings from interest rates on to consumers. McIntyre adds:
Below a 1% cash rate the RBA is also likely to employ a combination of other policy
tools. Specifically, to contain the impact of rate cuts and expected population inflows on Sydney house prices, a further tightening, and specific targeting, of macro prudential policy would be likely. And potentially some form of quantitative easing in order to contain any pressures on borrowing costs for the banking sector, to ensure that any desired additional reduction in borrowing costs is delivered to end borrowers (or unwanted increase is averted).
The continuing strength of the construction sector, which has been such an important plank of Australia’s post-mining economic transition, may hinge on confidence levels which are likely to be buffeted by key elections over the coming year, particularly in France, where the far-right National Front is urging voters to follow the examples of Brexit and Trump and upend the political status quo.
“Consumer spending in Australia was already showing signs of slowing in 2Q, and in 3Q indicators thus far (e.g. retail volumes, motor vehicle sales),” McIntyre wrote. “Uncertainty effects may dampen housing construction, although the amount of work in the pipeline should sustain activity, bolstered by rate cuts and population growth.”
So, watch that weakness in the retail sector.
“Much will depend on the evolution of markets’ response to the surprise outcome, and the extent to which questions of ‘what now’ and ‘who’s next’ dampen confidence and induce a risk premium into decision-making by businesses and consumers,” McIntyre wrote. “Risks remain tilted to the downside, particularly on the inflation front, with the avoidance of downside risks dependent on the response of the A$, and of policy makers (monetary, but especially fiscally).”
The global stock market rally late last week has now settled and attention in recent days has turned to bonds, which have been selling off, lifting yields and the long-term inflation outlook. Ray Dalio, the head of the world’s biggest hedge fund firm Bridgewater Associates, believes there is “a good chance that we are at one of those major reversals that last a decade“, with a “significant likelihood that we have made the 30-year top in bond prices”.