Here's A Perfect Snapshot Of The Risks Facing The Australian Economy

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Treasurer Joe Hockey gave Australia the bad fiscal news with the MYEFO update on Monday. Amongst the noisy politics of the debate it is sometimes difficult to gauge the true impact of the fall in commodity prices on the economy.

UBS economist Scott Haslem has a report out which shows that even though the resource sector, at 8.5% of Australia’s value-added GDP, is swamped by a consumer sector making up 55% of GDP, the changes in the resource market are enough to cause serious headwinds as the government tries to get the budget back in surplus.

Haslem says:

According to the Treasury, a USD10/tonne fall in iron ore prices leads to a 2% fall in the terms of trade, in term, leading to a 0.5% reduction in nominal GDP one year ahead. A 0.5%pt reduction in nominal GDP growth costs the budget almost $3bn per year (0.2% of GDP). Company profits (where mining has a 15% share) are 19% of budget revenue. Resource companies make up 19% of the ASX 200 market capitalisation

The bad news for the economy is that a large chunk of the falls has happened in the past six months, which means that there is some weakness to continue to wash through the economy.

But the good news is that Haslem says Australia’s terms of trade will only “fall a further 4% in 2015, before stabilising in 2016”.

Having said that however the outlook is still prone to substantial downside risks with Haslem highlighting the linkage with Chinese economic growth and commodity prices. With real GDP in China forecast to fall it implies that Australain GDP, in nominal terms, is also under pressure as was highlighted in MYEFO earlier this week.

But the risks don’t end there because while Chinese GDP links closely with Australian GDP via the strong trade ties, and the impact through prices on national income, as Australia’s dominant export destination Haslem also highlights that there remains a key risk for Australian growth in that China may have “a more significant property-led downturn add downside risks to the outlook”.

If that happens then the 4% fall in the terms of trade will likely be too low and the Treasurer may still yet face another downgrade in grwoth.

It all highlights the need for a lower Aussie dollar to do some of the economic adjustment work but it also highlights that as the bad news filters through the economy consumers are likely to remain subdued.

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