Societe Generale thinks Australia’s economy is out of the woods.
The French global investment bank says it expects Australian economic growth “to run at an above-potential rate for the next couple of years”, with a strong pipeline of residential housing activity a key driver of the growth.
Klaus Baader, Asia-Pacific chief economist for Soc Gen and an experienced Australia forecaster, has also described the management of economic transition following the mining boom as “close to perfect”, in a big tick of approval for the RBA and, to some extent, governments which allowed deficits to run up to cushion the blow as resources activity eased off.
Following the once-in-a-lifetime mining investment boom, Australia has escaped the dreaded effects of “Dutch disease”, an economic force that can take hold during mining booms and, through the effects of a high currency, lay waste to sectors of the economy beyond resources, such as tourism and education. The RBA’s rapid reduction in the official cash rate following the end of the mining boom helped to weaken the currency and stimulate borrowing and new activity in non-mining parts of the economy, allowing Australia to continue its record run of growth.
Of course, Australia now has some problems as a result of the record-low interest rates, chiefly the risk to financial stability from the huge levels of household debt that have been accumulated over recent years, fuelling the property booms in Sydney and Melbourne.
Baader notes: “Risks also exist in the housing market: the surging construction of, in particular, apartments in the eastern capital cities has led to fears of a glut, declining prices, cancelled purchases and cancelled building projects, credit stress among developers etc. We regard this scenario as a low-probability risk. The supply side remains overall quite tight in Australia after a long period of under-investment.”
He also notes a slowdown in Chinese economic growth remains a significant risk now that so much non-mining exports are starting to flow to the world’s second-largest economy, and that household consumption has been softening.
In summarising what Australia has achieved, however, Baader writes (emphasis added):
The past four years have been a huge challenge for the Australian economy as the multiyear resource investment boom reached a peak of about 8% of GDP and then, in 2013, turned into a slump. And yet the economy has managed to grow at a rate only slightly below its potential in the five years since then, and the rise in unemployment remained quite limited (see chart). What made it possible was a combination of good policy making – the RBA began cutting interest rates in May 2012 and lowered them by a total of 275bp over four years, and the government allowed a substantial widening of the public sector deficit – and shifts in the economy that were partly related. Chief among these was a reversal in the exchange rate and in the household savings rate, both of which had also helped the economy to avoid overheating during the investment boom. Furthermore, Australia had arguably under-invested in residential housing, and with the additional help of lower interest rates, the sector experienced a renaissance. And the resource investment boom resulted in an export boom once the mines and gas fields were completed.
In other words, partly by luck and partly by design, the sequencing of the economic transition was close to perfect. And in the greater scheme of things, this seems to be continuing. As described above, the drag on growth from the resource investment wind down has almost certainly peaked and will soon disappear altogether. At the same time, the housing investment surge is likely to top out and gradually fade, avoiding an economic overheating. Meanwhile, with the exchange rate at a competitive level and services exports rising, non-resource investment is recovering. It really has been a text-book transition.
Quite a report card.