The Reserve Bank board meets next week on September 2. There will be no policy change and we expect the governor’s statement to repeat the key themes, "the most prudent course is likely to be a period of stability in interest rates” and “the exchange rate remains high by historical standards, particularly given the declines in key commodity prices, and hence is offering less assistance than it might in achieving balanced growth in the economy."
Of course the board will not be in a position to conduct its deliberations with knowledge of growth in the June quarter. The June 2014 GDP Report (National Accounts) will not be released until the day following the board meeting.
The August Statement on Monetary Policy includes the bank’s growth forecasts out to December 2016. In the statement, the bank forecast that growth in the year to June 2014 will be 3 per cent. With growth in the first nine months being reported as 2.6 per cent we can conclude (unless the Bank is assuming some revisions to the last three quarters) that the bank is expecting June quarter GDP growth to print at 0.4 per cent. That follows 1.1 per cent growth in the March quarter and a 3 per cent annualised pace through the second half of 2013.
From our perspective, that "0.4 per cent" looks to be about right. We are also forecasting 0.4 per cent. There are some clear reasons behind the likely low print for GDP in the June quarter.
The most important reason is a 2.1 percentage point 'turnaround' from net exports. Whereas in the March quarter exports grew by 4.8 per cent we expect exports to be flat in the June quarter. The main reason for this lopsided configuration has been an unusually strong seasonal lift in resource exports in the March quarter (mainly due to no floods in Queensland (coal) and no cyclones in Western Australia (iron ore). Overall, we assess the 'pace' of export growth to be around 2 per cent per quarter so the flat June quarter would mean average quarterly growth of 2.4 per cent in the first half of 2014, not too far from the assessed trend.
Following a 1.4 per cent fall in the March quarter imports are estimated to have lifted by 3.7 per cent in the June quarter. The main sources of the strong lift in imports in the June quarter were capital goods and services. While the relationship is not precise the strong performance in capital goods imports is consistent with our expected more moderate slowdown in engineering investment (a fall of 2.1 per cent in June compared to 5.5 per cent in March) and a sharp lift in outbound tourism. The tourism effect is partly due to the late timing of Easter (moving from March to April).
In turn, this tourism effect is likely to partly explain the 'puzzle' of the very weak retail component of consumer spending (up only 0.4 per cent) in the March quarter despite a strong 1.3 per cent lift in real retail sales. The national accounts are designed to capture the spending of all Australians either domestic or offshore. The retail report only covers domestic retail sales regardless of whether they are to 'locals' or tourists. With this swing to offshore tourism in the June quarter we are forecasting a lift in real retail in the national accounts of 0.3 per cent despite the retail sales report printing a -0.2 per cent.
With services estimated to be up 0.8 per cent (0.6 per cent in the March quarter) and motor vehicle sales up 2.7 per cent (-0.4 per cent in March) we have settled on a 0.5 per cent lift in consumer spending in the June quarter -- the same as the increase in the March quarter.
This forecast on consumption spending is probably the most difficult given the signal from retail sales and the difficulty in tracking offshore tourism spending. Of the $1.60 billion in increased GDP we are forecasting for the quarter, $1.05bn is coming from the forecast lift in consumer spending. If, for example, consumer spending only grew by 0.2 per cent then the consumer sector would only add $0.4bn to overall GDP, reducing the growth in GDP from 0.4 per cent (estimated) to 0.24 per cent.
New residential investment growth is likely to have slowed from 6.4 per cent in March to 3.2 per cent in June, while overall business investment is likely to decline at a slightly slower pace: a forecast -0.5 per cent for the June quarter compared with an outcome for March of -1.2 per cent.
When we see a sharp turnaround in the growth contribution from net exports there is usually a partially offsetting effect from inventories. This ‘number’ will be released on September 1 (two days before the national accounts print). Current inventory levels are the lowest since September 2011. With such a surge in goods imports it seems likely that total inventory levels will lift likely contributing 0.8 percentage points to growth compared to the 0.6 percentage point subtraction from growth in the March quarter when inventory levels tumbled by $2.7bn.
Overall we see GDP growth of 0.4 per cent in the June quarter compared to 1.1 per cent in the March quarter. That ‘slowdown’ is mainly explained by the increased net contribution from inventories/net exports in March relative to June. We are expecting growth in domestic final demand to hold at the 0.3 per cent level that printed in the March quarter. Consequently, it is unlikely that the Reserve Bank will be either surprised or concerned by the expected sudden slowdown in GDP growth.
It is more important to consider the outlook for the second half of 2014. The bank’s forecasts imply that it is expecting growth in the second half of 2014 to be 1 per cent (2 per cent annualised). That growth rate is significantly below trend (3.25 per cent) and seems to be a very cautious forecast. We are expecting growth in the second half of 2014 of 1.4 per cent (2.8 per cent annualised) and most importantly we are forecasting growth in consumer spending of 1.4 per cent.
Strengthening balance sheets; booming housing construction; and rising confidence as the politicians reach an acceptable compromise over the budget will be key sources of the consumer spending boost.
From a policy perspective, the growth outlook for 2015 is even more significant: for the year to June 2015 we are expecting growth of 3.1 per cent compared to the bank’s forecast of 2.5 per cent (markedly below trend). If we believed the bank’s June 2015 forecast we would be supporting a call for lower rates. We expect rates to be ‘on hold’ over that financial year given our ‘slightly below trend’ overall growth outlook.