Australian Economic Update – Q4 GDP 2016

Recession fears overblown as GDP rebounds; income surges despite weak labour income.

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Key points:

  • Real GDP rebounded in the December quarter 2016, with the contraction in the September quarter clearly a temporary blip. Real GDP increased by a stronger-than-expected 1.1% q/q (NAB: 0.9% q/q, Mkt: 0.8% q/q), following the contraction of 0.5% q/q in Q3. Year-ended growth picked up to 2.4% y/y, from 1.9% y/y in Q3. This was arguably not a full rebound, with GDP increasing an average of just 0.3% per quarter in the second half of 2016. Farm GDP was particularly strong (+9.7% q/q) owing to a record grains harvest, while non-farm GDP was somewhat softer than headline GDP at 0.9% q/q and 2.0% y/y.
  • The bounce back was relatively broad-based across expenditure components, and across the states, and our estimates of non-mining GDP (including non-mining investment) were solid. Corporate profits benefited from a surge in the terms of trade, however labour income was particularly weak. While GDP growth will be strong in coming quarters, should the terms of trade boost reverse as our commodity price forecasts imply while weakness in labour income continues, the economy’s trajectory could be weaker than many (including the RBA) anticipate.
  • Solid economic momentum near-term will likely keep the RBA on the sidelines for much of 2017. While there is clearly spare capacity in labour and product markets, the RBA aims to balance its inflation and employment objectives against financial stability considerations, particularly given the surge in house prices in key markets in late 2016 amidst already high household debt levels. We are not as sanguine about growth in 2018 as the RBA, and forecast a pull-back in 2018, as the contributions from LNG exports, temporarily higher commodity prices and residential construction fade, while household consumption remains constrained by weak labour income growth. Our year-ended growth forecasts do pick up to 3% by Q3 2017, but then drop to 2% by Q4 2018, much lower than the RBA’s 2¾ – 3¾%. Current RBA optimism is expected to fade about the outlook later in 2017, and we see a 25bp easing in November 2017 as necessary to prevent a rise in unemployment and inflation undershooting again in 2018.

For more information please refer to the attached report.