Some calling this recession a depression, RBA to cut rates

Men looking for work 1930. Photo: National Library of Australia
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THE Reserve Bank of Australia is likely to cut interest rates to 0.1% and keep them low for even longer, as more monetary and fiscal stimulus will be needed after latest data shows Australia’s GDP fell by 7% in the June quarter, the worst result since the Great Depression.

AMP Capital chief economist Shane Oliver and senior economist Diana Mousina said the pressure will be on the RBA and federal and state governments to provide additional support to fill the growth pothole left by the COVID-19 pandemic.

According to the Australian Bureau of Statistic, national GDP fell by 7% in the June quarter, which was worse than market expectations and economists consensus for a 6% decline.

ABS head of national accounts Michael Smedes said June quarter fall, by a wide margin, is the largest in quarterly GDP since records began in 1959.

Oliver said the economy is technically now in recession, but some are calling it a depression, pointing to annual GDP growth declining by 6.3% – the worst result since the Great Depression of 1930-31 which saw financial year GDP fall by 9.4%.

ABS data shows household spending was the biggest drag, tumbling by 12.1% over the period and shaved off 6.7% from GDP.

“As we have been writing about, retail sales have bounced back strongly over recent month but this only accounts for 30% of consumer spending and doesn’t include a lot of services spending,” Oliver and Mousina said. “A 17.6% fall in services was the major reason for the huge fall in consumer spending (this accounts for things like travel and recreation services). Goods spending was also down but only by 2.8% because of lower spending on the operation of motor vehicles and clothing and footwear,”

Households are not spending because they are saving during times of uncertainty. ABS data reveals the savings ratio more than tripled to 19.8%, the highest level since 1974.

Oliver and Mousina said the higher savings ratio reflect the large fall in consumption and the lift in disposable income, from government COVID-19 related welfare transfers.

“The savings ratio will decline from here, as government benefit payments are unlikely to be repeated and as consumption increases reflecting pent up demand. However, we expect the savings ratio to remain higher than its pre-COVID levels over the next year,”

Residential construction declined by 6.8% in the quarter and detracted 0.4% from GDP. And ownership transfer costs (a proxy for real estate turnover) slumped by 18.5% and detracted 0.3% from growth.

“Building approvals in July had a strong bounce and some rebound in construction is likely in the second half of the year helped by HomeBuilder but construction levels are unlikely to get back to pre-COVID levels for several years, especially as immigration is basically zero for now and will also be slow to recover,”

Underlying business investment fell by 3.5% and detracted 0.4% from GDP growth. Non-residential building construction fell by 2.3%, engineering construction rose by 1.9% and machinery and equipment was down by 6.9%. Generally, non-residential building and engineering activity are more resilient to cyclical ups and downs because work in these areas is based on a long-dated pipeline of activity. The capital expenditure survey indicated that business investment will likely be very weak over the next nine months. Mining spending expectations are looking better than non-mining.

Across the states, the biggest falls were in New South Wales (-8.6%) and Victoria (-8.5%) which is unsurprising given that these are the states that had the highest count of COVID-19 cases and the strictest lockdowns, followed by Tasmania (-7.4%), WA (-6.0%), Qld (-5.9%), SA (-5.8%), NT (-4.9%) and only a small 2.2% fall in ACT.

Oliver and Mousina said the data confirm the first technical recession since 1991 as GDP also fell 0.3% in the March quarter.

“While the economy is technically now in recession and some will call it a depression,”

“The current slump is different to past recessions and the Great Depression in two key ways. First it has been caused by a government mandated shutdown of much of the economy as opposed to a cyclical boom leading to a bust which takes a long time to work through as excesses have to be unwound,”

“This downturn was not preceded by a boom unlike the recessions of the 1970s, 80s and 90s and there was nothing like the Roaring Twenties. Second, monetary and fiscal stimulus has been unprecedented and very rapid whereas it normally only occurs more slowly and is smaller. For these reasons the economy should be able to bounce back faster – but of course much depends on getting coronavirus under control.

“It is still uncertain whether this corona-driven slump ended in the June quarter given that the lockdown in Victoria (worth 25% of GDP) will be a big drag on activity. Our current forecasts assume another small 0.3% decline in GDP in the September quarter which means that the recession will drag on until the last quarter of 2020,”

The economists said after this low point in Australian GDP, there will be a need to fill the growth pothole left by the COVID-19 pandemic.

“So the pressure will remain on the Reserve Bank and federal and state governments to provide additional support to the economy to spur growth.”

“Federally this is likely to come in the form of a bring forward of income tax cuts and new investment tax incentives to boost consumption and investment, possibly in next month’s budget.

“And we now see the RBA in the months ahead cutting the cash rate to 0.1%, increasing and broadening its bond buying program and adopting an even more dovish commitment to not raise rates until inflation is actually and sustainably back in the 2 to 3% target band,” they concluded.

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