NAB: Lower Australian population growth may reduce the need for more rate cuts

Australia’s population growth has slowed dramatically in recent years with the ABS reporting growth of 1.35% in the 12 months to Q1 2015, down from 1.6% a year earlier and 1.75% two years ago.

It is now growing at the slowest rate seen in nearly a decade, and will have implications for economic growth, unemployment and, as a result of the two, the outlook for domestic interest rates.

Tapas Strickland, economist at the NAB, has produced an excellent note this afternoon that investigates the factors driving the slowdown in population growth, along with the implications it will likely have on the broader Australian economy as a consequence.

Strickland notes that there are two factors working in tandem to lower population growth – a slowdown in net migration and the natural rate of increase, simply the number of births measured against deaths.

“Population growth has slowed primarily due to lower rates of net migration,” said Strickland.

“Around 173k people entered Australia in net terms in the 12-months to March, down from the 240k recorded in 2013.”

Alongside the slowdown in net migration, something that is likely a result of slower economic growth impacting the ability of migrants to find work, he also notes that the natural rate of population increase has also been slowing due to factors such as increased economic uncertainty, slower incomes growth and a deterioration in housing affordability, something that many young people are experiencing first hand across Australia’s eastern seaboard.

As the chart below reveals, the states that have recorded the strongest levels of house price growth in recent years – New South Wales and Victoria – have seen birth rates decline in recent quarters. Interestingly, the decline occurred despite these states also outperforming the broader Australian economy in terms of economic growth.

As a result of the slowdown in migration and natural increase, Strickland believes that some assumptions for future population growth, including from the RBA, are “looking optimistic”.

He also suggests the slowdown in population growth has implications for markets, both in interpreting economic data – particularly employment growth and GDP – but also for the outlook for monetary policy.

“Slower population growth, if sustained, lowers potential economic growth over time,” notes Strickland.

With population growth currently running below RBA forecasts, he suggests that potential growth in the future, also known as trend growth, may be even lower.

“The RBA has recently downgraded what it thinks potential growth is to around 2.8% – down from the 3-3.25% previously. The RBA’s new assessment of potential growth has population growth at 1.5%. We note in this context that population growth in Q1 was 1.35%, so it is quite conceivable that potential growth could be even lower without a sustained uplift in productivity.”

With slower population growth acting to drag down potential trend economic growth, Strickland notes that labour market slack may also be less prevalent than previously thought.

“With population growth lower, monthly employment growth does not need to be as strong each month to keep a lid on the unemployment rate,” he says.

“We estimate that only 14-15k jobs a month are needed to keep the unemployment rate from rising, down from the 15-18k previously.”

With slower population growth placing downside risks on potential trend growth, something that may lower spare capacity in the labour market, it also suggests that there may be less need for the RBA to lower interest rates further as a consequence.

In simpler terms, if Australia’s economy is generating enough jobs to keep the unemployment rate steady, there is less need for the RBA to cut interest rate further in order to boost economic activity.

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