Economic activity trackers

Our Australian Economic Activity Tracker bounced back a bit over the last week as the disruption from flooding receded. Overall, it points to a continuation of economic growth this quarter albeit at a much slower pace than in the December quarter. Our US Economic Activity Tracker pushed a bit lower, but our European Tracker was again surprisingly little changed despite the war.

Major global economic events and implications

US economic data was mostly strong. Manufacturing conditions fell in the New York region but rose strongly in the Philadelphia region. Retail sales rose by less than expected in February, but this was offset by a big upwards revision to the previous month. Industrial production growth was solid. Home builder conditions were a bit weaker than expected but were still strong and housing starts saw a strong rise. Jobless claims also fell. Price pressures remained high in business surveys and producer price inflation is still running at 10%yoy.

A speech by ECB President Lagarde was balanced on the risk to the Eurozone economic outlook from the war and indicated the ECB could develop new instruments to deal with any blow to the transmission of monetary policy from the war.

The Bank of Japan left monetary policy on hold, albeit it sees the war in Ukraine adding to inflation. Japan’s core inflation rate in February was -1%yoy and even adjusting for travel subsidies and lower mobile phone charges is 0.6%yoy.

Chinese data for retail sales, industrial production and investment surprised on the upside in January/February but it's now a bit dated given Covid lockdowns. Further policy stimulus is likely to ensure China comes close to its 5.5% growth objective for this year.

Australian economic events and implications

Australian economic data was dominated by the news that employment rose twice as much as expected and that unemployment has already fallen to 4%. Our Jobs Leading Indicator points to more strong jobs growth ahead with a further fall in unemployment.

ABS data confirmed the strong growth in home prices last year, long ago reported by private data providers, with average prices up 23.7%. More timely data points to a sharp slowing with prices falling again in Sydney in March (albeit this may be flood-related) and down slightly in Melbourne.

December data showed a further rise in the proportion of high debt to income ratio home loans. This may normally have kicked off more macro prudential tightening but rising interest rates and slowing home prices have likely headed that off.

The 2022-23 Federal Budget on 29 March looks to be concerning five things:

1. The upcoming election;
2. help for households dealing with cost of living pressures;
3. increased defence spending;
4. the start of spending restraints but not austerity or cuts; and
5. a budget windfall from faster growth which has resulted in increased tax receipts and lower than expected welfare payments. 

The latter is reflected in the budget deficit running about $13bn lower than expected for the seven months to January which on an annualised basis may mean that the 2021-22 deficit may come in at about $80bn compared to $99bn in the December MYEFO. The starting point for the 2022-23 deficit is also likely to be about $20bn below the MYEFO projection of $99bn.

Coupled with billions allocated last December as “decisions taken but not yet announced”, there is likely to be plenty of scope for extra short term spending and yet still report a faster pace of deficit reduction than back in December.

A key focus will be providing relief for welfare recipients and low- and middle-income households given cost of living pressures. This looks as though it will take the form of one-off payments but could come via another extension of the Low and Middle Income Tax Offset and maybe a temporary cut to fuel excise. The latter makes little economic sense whereas a one-off payment will impact fastest without resulting in a permanent boost to spending. The Government’s shift towards stabilising and then reducing debt levels over the medium term will take the form of medium-term spending restraints and reliance on stronger growth rather than austerity.

With tax receipts rising faster than expected there is a chance that more tax cuts will be necessary if the Government is to stick to its commitment to capping the tax to GDP ratio at 23.9%.

Outlook for investment markets

Shares are likely to see continued volatility as the Ukraine crisis continues to unfold and inflation, monetary tightening, the US mid-term elections and geopolitical tensions with China and perhaps Iran impact. However, we [AMP Capital] see shares providing upper single-digit returns on a 6-12 month horizon as global recovery continues, profit growth slows but remains solid and interest rates rise but not to onerous levels.

Unlisted commercial property may see some weakness in retail and office returns, but industrial property is likely to be strong. Unlisted infrastructure is expected to see solid returns.

Australian home price gains are likely to slow further with prices falling later in the year as poor affordability, rising mortgage rates, reduced home buyer incentives and rising listings impact. Expect a 10-15% top to bottom fall in prices from later this year into 2023-24 but large variation between regions. Sydney and Melbourne prices may have already peaked.

Although the AUD could fall in response to the uncertain global outlook, a rising trend is likely over the next 12 months helped by strong commodity prices, probably taking it to about $US0.80.