Domestic growth tosses up surprises but the economy is strengthening

Australia’s economic growth returned to growth in the December Quarter, according to the latest data. Following the -0.5% contraction of the Australian economy in the September Quarter, most commentators expected recovery. The important figures are the growth over the full year – 2.4% - and the data showing the contributions to that economic growth. And while its pretty much good news, it’s not all plain sailing for the Australian Economy.

The chart below shows Australia’s economic growth on a seasonally adjusted basis on both a quarterly and year-end basis.

To go straight to the dashboard and take a closer look at the data, click here.

The headline annual 2.4% GDP growth is within the RBA band of acceptable growth rates, which is, in many respects, all we should take from this chart, with its sharp peaks and troughs underscoring the vagaries of measuring the economy on a quarterly basis. It is like measuring the weather based on defined seasons. The sun shines on June 1st, it’s a warm winter. If it rains on December 1st it’s a wet summer. No matter what happens the rest of the season. 

But the economy must be measured on some consistent basis. So we get the often remarked upon, but regularly not in the least bit remarkable, choppiness of changes in GDP, when in fact nothing much has changed in the economy. 

Enough of that. We can move past the headlines, that’s the point.

The chart below shows the more-important year-end contributions to growth. 

To go straight to the dashboard and take a closer look at the data, click here.

Because the chart hasn’t included all of the labels, the table below is provided to deliver full details of the contributions to growth and how they have changed over the last year.

Measure	Year-Ended Dec 2015	Year-Ended Dec 2016
GDP	2.20	2.50
Consumption Expenditure	1.40	1.50
New Dwellings	0.40	0.20
Alterations & Additions	0.10	0.00
Non-Dwelling Construction	0.20	-0.30
Business Investment	-1.10	-0.60
Inventory	0.20	0.10
Exports	1.10	1.80
Imports	-0.60	-0.60

Source: ABS

There are three contributions that need to be considered in more detail, in our view.

First, thanks largely to improved mineral resource prices (iron ore and coal mainly), exports increased their contribution to GDP from a solid 1.10% in the year-ended December 2015, to a very strong 1.80% for the year-ended December 2016. The point here is that mineral prices are a largely exogenous factor, influenced almost entirely by external forces, and not integrated directly to the underlying qualities of the domestic economy. Improvements in the terms of trade are good news, but they are not gilt-edged, at least in terms of GDP growth.

Second, although it improved from -1.10% in 2015 to -0.60% in 2016, business investment remains a drag on GDP. More notably, the sectors contributing to the improvement – which was actually positive for the December Quarter – was not primarily in the mining sector, although it did play a role.

As you can also read in the next item in this edition of Statistics Count, Australia’s household debt levels, or at least their implied levels, are relevant to the GDP consideration, but in this instance, in the context of the contribution that consumption expenditure makes to GDP. 

Consumption Expenditure reportedly contributed 1.5% to GDP in the year-ended December. Now there are plenty of reasons this could have occurred, but its important to note that over the same period, real wages growth was 0.9% and employment didn’t alter significantly.

So, where did the extra money come from to fuel the consumption expenditure growth?

We have to refer to the GDP measurement technique to work this out. Ross Gittins eloquently described this in Fairfax publications in early March: 

“So how could consumer spending have grown so strongly? Since, by definition, income equals consumption plus saving, the statisticians assume households must have reduced their rate of saving.

“The national accounts show the household saving ratio peaking at almost 10 per cent of household disposable income at the end of 2011, then falling almost continuously since then, taking a big drop in the December quarter to reach a little over 5 per cent.”

Well, assuming the GDP assessment doesn’t just include an incorrect set of estimates and assumptions, the likely driver, as Gittins also suggests, is that rising house prices and perceptions of value have liberated some consumers from their normal parsimony and encouraged them to increase their expenditure. This appears to have been especially prevalent in the final quarter of 2016.

We can see this, at least in terms of savings, in the chart below, which shows the household savings ratio on a seasonally adjusted and trend basis.

The household savings ratio is an even larger problem for the economy than might have been imagined. Its ability to prime the growth pump is largely expended, at least on this data.

If households have a lower savings ratio, and that is trending down on the one hand, and on the other hand they have increased indebtedness (see the next item), then there must be a genuine concern about the future capacity of households, in particular, to contribute to further GDP growth through consumption expenditure.