Australia’s economy looks like it has bottomed out, or perhaps this is the beginning of The New Ordinary. This is according to our MWI index which has this year shown predictive qualities.
What the RBA says it’s doing and what the Government just announced
On 29 October 2019, Reserve Bank Governor Philip Lowe said: “Our focus is on inflation control, the labour market, the payments system and financial stability. Dealing with these matters is our contribution to our collective welfare.” While this may seem a little distant from the current stresses on the economy, he focussed on the problem: “both government and households feel constrained by their previous decisions to borrow and are seeking to put their balance sheets on a sounder footing.”
On 14 November 19, the Treasurer Josh Frydenberg responded to criticism that the government is not doing enough, by announcing withholding tax relief (that is, for foreign investors) prepared to commit more than $500 million in “nation building infrastructure” in the areas of transport, energy, communications and water. This is long term tax-focussed thinking, not short-term economic stimulus.
And, showing a change in direction; on 21 November 19 Prime Minister Scott Morrison announced an initiative: having identified “infrastructure projects that could be accelerated” the government would “bring forward $3.8 billion of investment into the next four years, and that includes $1.8 billion to be spent both this financial year and next year.”
Here’s what has been happening:
It’s now widely accepted that the economy has been decelerating, losing momentum, for at least 9 months. And the MWI shows the extent.
The financials are getting better.
There’s a hint that things are bottoming out. But as we shall see, it’s a battle between rising optimism for long term investment and continuing pessimism for short-term trading. The long term looks brighter, but the short term looks grim.
This good investment news is in the “forward looking” data, that is the daily financial data used by the MWI. This comes primarily, but not solely, from the debt markets (the bond market delivers a view on the direction of interest rates).
Since the end of August these financials have been moving up, back towards the numbers we saw before the election.
The dominant driver is the mix between short, mid and long-term bond yields: together they produce the “yield curve”. If bond yields rise as you move further into the future (as they do in the US at the moment), it is an indication of optimism or better investment prospects.
Conversely, if they dip down (as they do in Canada), this indicates increasing uncertainty, doubts or worsening investment prospects. Australia is in the middle; as evinced by a yield curve suggesting short-term pessimism and longer-term optimism.
The upswing in the financials graph comes after the point when the depth and breadth of the Australian curve was at its worst in mid-August. It has gradually and consistently “shallowed” and “narrowed” over the last few months, only to get worse again this week. Nevertheless, there is improvement there. This month’s rising unemployment rate pushed the index down a touch.
But there’s a countervailing force: sentiment. It’s not picking up. It’s pushing the MWI down, cancelling the improvement in the investment financials
At best we can say that the slight upturn in sentiment this month is lagging the upturn in the financials … by at least two months.
The combined effect is the push and pull that you see in the MWI over recent weeks. The index appears to be moving sideways; or maybe it’s bottoming out. This could be the new ordinary. Retailers will be hoping household savers will open their wallets just in time for a festive season, but there appears to be more household eagerness to play it safe and pay down debt, rather than spend.
What’s happening next?
What happens next is the growth number (GDP), due out in the first week in December. This number looks backwards – telling us what has happened in the 3 months to end September. News that it is not good, could put a dampener on retail spending. Anything better that 0.3% for the quarter will boost the seasonally adjusted annual rate.
What we’re watching
It’s all about trading sentiment, lack of demand and low GDP.
How the MWI works
There are a number of elements in the MWI. It’s a momentum metric.
Highest MWI weighting goes to the changes in GDP (growth): growth has declined throughout the year but remains positive.
Less weight goes to Bond Yields (interest rates). The RBA lowers the cash rate to stimulate the economy and raises it to take heat out. The MWI uses shorter term government bond yields to monitor movements in interest rates.
Less weight again goes to the CPI (inflation). The RBA uses its inflation target to decide when to intervene. Inflation has been under target for all of this year. The RBA has refused to drop its inflation target and the government appears to have accepted the outcome.
Around a third of the index is forward looking. Among other things, it uses short mid and longer term interest rates to measure expectations of future business earnings. It also monitors Australian banks’ surveys on monthly consumer and business sentiment.
Philip Lowe “Some Echoes of Melville.” 29 October 19: RBA website.
Josh Frydenberg “Infrastructure tax concession to boost government’s record infrastructure plan” 14 November 19.
Scott Morrison Speech at the Business Council of Australia Annual Dinner 21 November 19.
MWI sources: Australian Bureau of Statistics website. ASX website. CBA, NAB and WBC websites. Bloomberg LP website.