It’s clear that December’s $10.4 billion stimulus package and the $42 billion of spending now being argued over in Canberra will go a long way to keeping the national economy from sliding into recession this year. Along with the sharp fall in interest rates and lower oil and petrol prices, the extra spending will help generate enough demand, especially on the consumption side, to keep economic activity chugging along.  And if the economy does slide into the red, and there remains a very real chance of that happening, then the billions of dollars of stimulus will “cushion” (as the Reserve Bank puts it) the slump, making it shallow before a pick up late this calendar year. As a result the Australian economy will hover on the edge of recession for much of this year, according to the first monetary policy statement from the RBA for 2009. In the statement, the bank slashed its expectations of economic and non-farm growth from the November estimate for June this year from 1.5% (GDP) and 1% (non-farm GDP) to 0.5% for GDP and zero for non-farm growth. It warned that unemployment will increase “materially over the next year or so”, echoing the estimate this week from Treasury of a rise in the unemployment rate from 4.5% at the moment to 7% next year. The RBA said it expects growth over the calendar year to be 1.5% for GDP and 1% for non-farm GDP, down sharply from the 1.75% estimate for both last November. Inflation is expected to fall from the headline estimate of 3% to 1.75 by June and then return to 3.7% by December (3.5% in the November forecast). The RBA’s version of tracking underlying inflation sees it easing mid year, then rising to 4.3% by December, which is where it finished 2008. The RBA said recent interest rate cuts and the federal government’s fiscal stimulus packages would support the local economy from the global economic downturn.

The extent of the impact on domestic growth will be moderated by easings that have occurred in monetary and fiscal policy and by the significant depreciation of the exchange rate It is likely that the slowdown in Australia will be less severe than in many of our major trading partners. Growth in GDP is now expected to slow from 1.9 per cent over the year to the September quarter 2008 to around 0.25 per cent over the year to mid-2009.

The economy is expected to pick up from late 2009, with quarterly growth gradually recovering to around trend rates by late 2010 (Table 14). This forecast implies a very significant easing in capacity pressures in the economy.

The projected weakness in real GDP coupled with the large fall in the terms of trade implies a sharp fall in real domestic income, which is forecast to contract by around 4 per cent over 2009.

However, the significant foreign ownership of the mining sector means that part of this reduction will be borne by foreign shareholders (just as they shared the gains as export prices rose), so the fall in real income accruing to Australian residents will be somewhat smaller, though still substantial.

Consistent with the large fall in income, real gross national expenditure is forecast to contract modestly through 2009, offset by a contribution to growth from net exports as a result of the depreciation of the exchange rate.

Growth in household consumption spending is expected to remain subdued over much of the forecast period, given an expected weakening in employment and the decline of around 10 per cent in net worth over the past year as a result of the sharp fall in the equity market and smaller fall in house prices.

However, the significant fiscal stimulus to households will provide support to consumption over the first half of 2009 and growth in spending is subsequently expected to gradually return to more normal rates.

In the near term, dwelling investment is likely to fall significantly, given recent trends in building approvals and dwelling commencements.

The Bank said its “liaison with developers has also indicated a significant reduction in the availability of credit for new development, which may slow the recovery in the near term.”

However, the increase in the First Home Owner Grant and the significant falls in mortgage rates will limit the fall in dwelling investment and contribute to a recovery from late 2009.

Although labour market conditions have held up reasonably well so far, the projected softness in domestic activity over 2009 is expected to lead to a further weakening in the demand for labour.

Employment is forecast to fall over 2009, although growth is expected to resume as the economy gradually recovers. Despite the significant stimulus already provided by monetary and fiscal policy, the unemployment rate is forecast to increase materially over the next year or so.

Peter Fray

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