The slump that set in in the second half of 2018 and which continues to dog the economy is a serious failure of policymaking, and one that may yet inflict much more substantial damage on Australia.
Yesterday’s Mid Year Economic and Fiscal Outlook (MYEFO), in which the government significantly downgraded its growth and surplus forecasts, is an update of April’s budget, but there’s also an interesting comparison to be made with the MYEFO presented at the end of last year.
The forecasts in that document look like broadcasts from another planet: GDP growth of 2.75% for 2018-19 and 3% for 2019-20; wages growth of 2.5% for 2018-19, 3% for 2019-20 and 3.5% afterward; household consumption of 2.5% and 3%, business investment growth of 5% this year.
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Now, growth will be 2.25% this year after managing just 2% in 2018-19; the wages growth forecast is stuck at 2.5% for the next two years after missing the 2018-19 forecast; household consumption will be just 1.75% this year and business investment will be a measly 1.5%.
The government wasn’t alone in its Pollyannaish view of the economy this time last year: the Reserve Bank published an optimistic Statement of Monetary Policy in November 2018 and was still talking about how the next movement in interest rates was up. But there was already evidence something had gone wrong — wrong, that is, beyond the years of wage stagnation that workers had already endured despite a welcome period of strong jobs growth.
The September 2018 quarter national accounts, released in early December, showed growth in that quarter of just 0.3% seasonally adjusted. And the culprit was clear: weak household growth, driven by wage stagnation and — the Reserve Bank would point out — the government’s rapidly increasing income tax take.
This problem hadn’t snuck up on policymakers either in Martin Place or at Treasury. As early as May 2018, astute observers like AMP’s Shane Oliver were flagging that there was a possibility that the Reserve Bank’s next move on interest would be down, not — as the almost universal consensus was at that point — up. Why? Because consumer spending, wages growth and inflation were all likely to remain subdued and hold down growth. By December, a week before last year’s MYEFO, Oliver was predicting interest rates would be cut at least twice to 1%.
As 2019 began and the government prepared an early budget ahead of an election campaign it was expected to lose, the evidence began to mount that the September 2018 result wasn’t a one-off, but had instead revealed a persistent problem caused by wage stagnation — households had stopped spending. In early February the RBA’s governor Philip Lowe changed his position on interest rates, flagging that the bank was now neutral.
The bank’s February Statement of Monetary Policy downgraded growth and consumption forecasts, even as the government prepared a pre-election budget predicting rising growth, strong business investment and wages growth roaring to life over the forward estimates.
In March we learnt December quarter GPD had been just 0.2%. By June, when the RBA cut rates, March quarter GDP had been revealed as 0.4%. Each set of national accounts brought exactly the same story: the only thing keeping the economy going was government spending and, as the year progressed, iron ore exports, reflecting the benefits to Australia of a terrible mining disaster in Brazil in January. Otherwise, household consumption had flatlined.
Why it took the RBA so long to work out what Shane Oliver had spotted nearly a year before — that wage stagnation had smashed growth — remains a mystery. But at least once prompted to action the RBA moved decisively with three rate cuts. The government remained delusional, insisting the economy was strong, and that its small-beer tax cuts would spark the economy, even as weak GDP figures, weak retail sales data, weak wage price index data and weak inflation figures rolled in.
Yesterday, finally, the government surrendered to reality and accepted that the economy was markedly weaker than it forecast. But it remains in denial about the need for stimulus. As everyone knows, the RBA has been calling for fiscal stimulus for most of the year.
But business groups are now just as vocal, if not more so. The AIGroup, for example, has called for stimulus repeatedly, and did it again yesterday. For the government, however, the imperative is a small budget surplus rather than the tens of thousands of people that its increased unemployment forecast of 5.25% represents, and the hundreds of millions of dollars its lower wager growth forecasts means to households.
Morrison and Frydenberg prefer higher unemployment and more financial difficulties for households to delaying the return to surplus. That’s their political call, for better or for worse. The risk is if household reluctance to spend, higher unemployment and tepid growth become self-reinforcing and drag the economy into a deeper hole.
Last year’s MYEFO proved far too optimistic. If this year’s does too, we’re in real trouble.