WESTPAC: Australian economic growth may undershoot expectations

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The medium-term outlook for Australian economic growth remains below trend according to the latest Westpac-MI leading index for September.

The index is a summary measure and includes information from a number of domestic markets, international activity, and consumer expectations about activity and unemployment.

Westpac reports that the surveys six-month annualised deviation from trend growth rate, a gauge on the likely pace of economic activity three-to-nine months into the future, increased from –1.14% in August to –0.35% in September. While a small improvement, the negative figure indicates that the economy is likely to grow below trend in the first six months of 2016, not that it will actually contract.

Westpac’s chief economist Bill Evans notes that growth in the leading index has now been below trend for the past five months, the banks forecast for annual growth of between 2.75% to 3% next year is looking “a little vulnerable.”

“Over the last six months the six month annualised growth rate in the Leading Index has slowed from being 0.16% above trend to 0.35% below trend,” said Evans in a research note released earlier this morning.

“The key components driving this slowdown have been: S&P/ASX 200 (–0.64ppts); dwelling approvals (–0.50ppts); the Westpac-MI Consumer Expectations Index (–0.06ppts); aggregate monthly hours worked (–0.05ppts); and US industrial production (–0.05ppts). Partially offsetting these have been the yield curve (0.38ppts); commodity prices in AUD terms (0.23ppts) and the Westpac-MI Unemployment Expectations Index (0.21ppts).”

Despite the subdued growth outlook, something that suggests the RBA’s current economic growth forecast of 3% next year may be slightly optimistic, Evans believes that the RBA will not cut interest rates when they next meet in November, putting Westpac at odds with the likes of Macquarie Bank, Goldman Sachs, Morgan Stanley and UBS, who suggest that the bank will likely ease monetary policy further at this meeting.

“The minutes from the October Board meeting emphasised that the Bank is comfortable with the outlook for the labour market and the apparent slowing in the housing market. It will take some time to assess the size and impact on the economy of any tightening in financial conditions that might be associated with independent increases in mortgage rates from banks,” said Evans.

While he suggests that the RBA will likely leave the cash rate at 2% until at least the end of 2016, Evans notes that risks to this call are now to the downside.

“The risks to our current view that rates will remain on hold for the remainder of 2015 and 2016 are to the downside,” he says.

“A rate cut in early next year would require the Bank to be forecasting growth in 2016 to be 2.5% or less without a policy response. The Leading Index is signalling a somewhat lower growth outlook in the first half of 2016 than our 2.75% and the RBA’s current forecast of 3% for the whole of 2016, pitching rate risks to the downside.”

The RBA next meet on November 3 with cash rate futures currently pricing the odds of a 25 basis point rate cut at just 22%.

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