The missing piece of Australia's economic growth puzzle might be about to fall into place

Photo by Chris Hondros/Getty Images

If there’s one part of Australia’s growth jigsaw puzzle that has gone missing in recent years, it’s been business investment.

Households have come to the party of late while exports — on the back of an expected ramp-up in LNG production — are likely to follow suit in the years ahead.

However, even with record-low interest rates and the weaker Australian dollar, nothing has been able to spur the so-called “animal spirits” from Australian businesses that RBA governor Glenn Stevens and others so badly crave.

With mining investment falling off a proverbial cliff in the wake of an unprecedented surge between 2011 to 2014, non-mining firms, as yet, have failed to pick up the expenditure slack.

According to figures released by the ABS, business capital expenditure (CAPEX) came in at $31.941 billion in the final quarter of 2015, down a whopping 16.4% on the levels of a year earlier.

More worrying, the slowdown in expenditure is expected to slow down even further in the years ahead.

In the same CAPEX report, the first estimate for 2016/17 expenditure tanked, falling to just $82.572 billion, down 19.5% on the first estimate offered for the 2015/16 financial year.

Forecast expenditure from other industries – namely services – came in at $41.641 billion, down 2.5% on the first estimate of a year earlier.

No acceleration, not even flat. Actually below expectations from one year earlier, despite improving domestic economic conditions and supportive factors such as lower borrowing costs and a more internationally competitive currency.

Not exactly what the doctor ordered for an economy looking for a boost to growth from non-mining industries.

The chart below, revealing expected expenditure for mining and non-mining firms, tells the story.

The first estimate for capital expenditure was lousy, even compared to downtrodden forecasts. But as anyone who knows the CAPEX report well, early estimates are almost always revised higher. Operating conditions become more clear, allowing firms to make more concrete spending plans.

Not all is lost, even with the dire early estimates for spending.

For a start, operating conditions for Australian businesses — broadly — are now the best seen in many years, according to the NAB’s highly regarded monthly business survey.

Profitability and sales are moving higher and, as a result, activity levels are also ramping up.

According to the NAB, this, along with responses from businesses themselves, suggests business investment might be about to accelerate.

Here’s a snippet from the NAB’s quarterly business survey released earlier today discussing the improvement in capacity utilisation seen in the past quarter. Our emphasis added.

Capacity utilisation jumped even higher in Q1, up to 81.7%, which is above long-run average levels (80.6%) and its highest level since 2010. This is a continuation of the steadily improving trend in utilisation rates over recent years, and coincides with a degree of tightening in the labour market. Reductions in spare capacity could prompt firms to undertake additional investment in capital to ease capacity constraints.

The chart below, supplied by the NAB, reveals the trend in capacity utilisation over the past decade. While still below the levels seen before the global financial crisis, it’s clear that the trend of late is higher.

Although the NAB admits that firms still require “very high rates of return before committing to new capex”, it appears that the improvement in operating conditions, leading to an increase in activity levels, are prompting firms to lift their expectations for expenditure in the period ahead.

“When asked about their future capex plans, firms in the survey remain more upbeat than the ABS capex Survey, although this partly reflects differences in the industry mix across the two surveys,” says the bank. “The NAB capex index for the next 12 months suggests investment growth should already be stronger and holding at relatively elevated levels.”

While the bank admits that mining investment is under-represented in its survey, suggesting the scale of decline in mining sector expenditure may not be fully captured, it does suggest that expenditure by non-mining firms may not be as weak this year as first envisaged.

If that eventuates — something that remains uncertain until the rubber hits the road — it will suggest that the one missing piece of Australia’s growth puzzle may be about to finally fall into place.

The ABS is scheduled to release its March quarter CAPEX report — including the second estimate for 2016/17 expenditure — on May 26.

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