Abbott stumbles into a surplus of luck

A strengthening global economy and rising commodity prices suggest a return to surplus could come sooner than expected. But monetary tightening will be essential to stave off an inflation spike.

US stocks are up about one per cent this morning, Asian stocks were up be an even larger amount yesterday and the economic news continues to show more and more signs of strength.

Tony Abbott not only won the election by a thumping margin, but it looks like he won the prize of forming government at a time when the world economy is on a synchronised upswing, commodity prices are trending higher and the current easy domestic policy settings will propel Australian economic growth to a level not yet anticipated by Treasury.

This will be great news for the unemployment rate which by 2015 could well be looking to break toward five per cent or lower and the revenue flows to the government will result in a likely early return to budget surplus and then move to quite hefty surpluses after that. This will only be enhanced with any cuts in government spending that Abbott will deliver in the months ahead (No time for Abbott to hover with the knifeSeptember 10).

The political downside, as there always is in economics with just about everything that happens, is that interest rates are soon to be moving higher – perhaps quite a lot – and the Australian dollar is also likely to appreciate and have a look at parity with the US dollar at some stage in the next year or so (The dollar rolls away from the RBASeptember 5).

This tightening of monetary conditions will be essential if Australia is to avoid a troublesome lift in inflation.

The recent data flow from China over the weekend and yesterday showed a clear bottoming in the cycle and perhaps the early hints of a lift in growth without worrisome inflation.

The trade surplus in China was driven by solid seven per cent plus growth in both exports and imports. This lift in Chinese trade flows suggests that global trade is also strengthening, which is always a reliable, coincident indicator for the health or otherwise of the global economy. China’s monthly trade surplus was $US28.6 billion ($31.1 billion).

The inflation data in China were also quite benign. The rate of decline in the producer price index eased, dropping 1.6 per cent in the year to August – a little firmer than the annual decline of 2.3 per cent last month. The consumer price index was also well behaved, rising 2.6 per cent, which was spot on expectations and a touch lower than the 2.7 per cent inflation rate recorded the previous month.

This low inflation climate is critical news for the authorities in China, especially the People’s Bank of China, which can hold policy at an easy setting until the economic pick-up gains more traction and then lock in an expansion for GDP growth at between seven and eight per cent.

In Japan, it appears that the super-stimulatory policies of Prime Minister Shinzo Abe are working. GDP growth in the June quarter rose at an annualised pace of 3.8 per cent, a sharp upward revision from the initial estimate of 2.6 per cent. This stellar growth rate for Japan, which is the fourth largest economy in the world, follows economic growth of 4.1 per cent in the March quarter.

So solid is the growth momentum in Japan that the government is considering raising the sales tax rate from five per cent to eight per cent as it addresses the very obvious fiscal problems which are summed up in Japanese government debt levels above 200 per cent of GDP.

Today, China sees data on retail sales and fixed asset investment. Further momentum in these indicators would help lock in the optimism about a lift in growth in the second half of the year.

Reinforcing the view of better economic conditions around the world also shows up in my favourite indicator, commodity prices. In board terms, they continue to move higher despite the massive increase in output that is unfolding as a result of the global mining investment boom. There is something going on in the world with the prices of iron ore, copper, gold and a range of other commodities being up rather than down when compared to prices a couple of months ago. 

All of this is great news for the Australian economy, which remains closely entwined in the global economy and to changes in commodity prices. With housing activity already marching higher, consumer sentiment at a decent level – even before the election – and exports on a roll, it is to be hoped that Treasury and the Reserve Bank will be revising their GDP forecasts higher and the unemployment outlook lower over the next few months.

The good economic times are starting to unfold.

For a different take on the economic circumstances and our new government faces, read today's article from Steve Keen: Why this is a bad time to win an election.

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