Australia's Diamond-Hard Economy

The Australian National Accounts present what might seem like a dull result for the September quarter. Seasonally adjusted, the national economy grew by 0.2%. On the more reliable trend measure, it was 0.7%. These numbers result from the very esoteric accounting conventions involved in removing the price figures from the output of national economy. In financial markets, we deal with companies that report earnings in current dollar terms. For the economy that confronts financial markets, we need to put back those price effects to find out what is actually happening in the Australian economy.

AUSTRALIAN ECONOMY, YEAR TO SEPTEMBER 2005
GDP (Trend)	2.80%
GDP Deflator (including exports)	5.00%
Total Final Consumption Expenditure deflator	2.70%
Difference (price effect)	2.30%
Real net national disposable income Add GDP 2.8% 2.3% (price effect)	5.10%
Source: ABS 5206.0

On the more reliable trend basis, the Australian economy grew by 2.8% in real terms for the year to September. The reason the GDP numbers look so soft is because the GDP deflator (an inflation indicator) is so high '” 5% for the year to September. The reason for that is because the statistician includes in the deflator the rapidly rising price of exports. Excluding them gives us the Total Final Consumption Expenditure deflator, which tells us that domestic prices in Australia rose just 2.7% in the year to September. The difference between domestic prices and the GDP deflator is 2.3%. When we add back that difference to the published GDP number then 2.8% GDP plus 2.3% (price effect) is 5.1%. This number is published on the front page of the National Income Expenditure and Product (ABS 5206.0) as Real Net National disposable income.

If the economy was really growing at 2.8%, then unemployment would have been rising a bit over 1% each year for the past two years. It is not. Unemployment has been falling each year for the past two years. So what we are getting is an accounting distortion, which severely understates the growth rate in the Australian economy. The actual growth rate, in my judgement, is best stated by the Real Net National disposable income, which is growing at a rate of 5.1%.

The Australian economy is moving from being driven by housing growth to being driven by investment growth. The numbers on a trend basis for private gross fixed capital formation for the year to September are really quite glittering.

New investment in machinery investment rose by 15.4% in the year to September. Including used machinery, this generated an increase in total machinery and equipment investment of 14.7%. Non-dwelling construction is especially strong. New building rose by 14%. New engineering construction rose by 22.7%. That meant that total non-dwelling construction rose for the year to September by 18.2%. All of this generated a total increase in private business investment of a sparkling 14.5% for the year to September. Michael Knox

TREND, YEAR TO SEPTEMBER 2005
Private gross fixed capital formation
Private business investment
Machinery and equipment
New	15.40%
Total	14.70%
Non Dwelling Construction
New building	14.00%
New engineering construction	22.70%
Total non dwelling construction	18.20%
Total private business investment	14.50%
Dwellings
New and used	– 0.30%
Alterations and additions	– 1.10%
Total dwellings	– 0.70%
Total private gross fixed capital formation	8.50%
Source: ABS 5206.0

Now we know the dwelling sector is soft and the figures confirm it. New dwelling construction fell by 0.3% and alterations and additions fell by 1.1%. Total investment in dwellings declined for the year by 0.7%. Even so, because business investment is so strong, total private fixed capital formation grew by 8.5%. Where is the Australian economy strong? It is entirely obvious that it is having a commodities boom at the same time as it is having a housing slump. We shouldn’t be surprised that the fastest-growing states are where the resources are, and the softest-growing states are where the over-investments in dwellings are. Table 3: State Final Demand

STATE FINAL DEMAND
Trend Annual % Change September 2004 to September 2005
Northern Territory	13.20%
Western Australia	6.10%
Tasmania	5.90%
Queensland	4.20%
Victoria	3.70%
South Australia	3.40%
New South Wales	2.70%
ACT	0.80%
Australia	3.80%
Source: ABS 5206.0

In terms of state final demand, there is quite spectacular growth in the smaller states, on a trend basis. For the year to September, the final demand in the Northern Territory grew by 13.2%. The NT economy had been going nowhere for the previous five years but this year it is catching up rapidly.

In the boom state of Western Australia, final demand grew by 6.1%. In Tasmania, because of new investment, growth was 5.9%. Queensland did better than the national average with 4.2% growth. Even Victoria put in a quite reasonable 3.7%. South Australia was 3.4%. The slowest growing major state, which is where most of the investment in housing has been concentrated, is New South Wales with 2.7%. Michael Knox

CONCLUSION

When we adjust the price effects in the numbers for the Australian national economy, instead of a dull 2.8% growth, we get a sparkling 5.1% growth. That growth is because of very powerful growth in private business investment which has overwhelmed the declining housing sector. The Australian economy is in really good shape. Instead of being dull or soft, this economy is as hard as diamond.