The Aussie Macro Outlook

Trucking along
·        Data released since the start of the year shows the outlook has improved markedly since the end of 2016. Rising business confidence is driving job creation and providing a key support to household income and consumer spending while wages growth remains weak. In 2017, we expect 1.8% GDP growth followed by 2.2% in 2018. However, as the labour market continues to tighten and wages growth grinds higher we expect GDP growth to rise to 2.9% in 2019 and 3.4% in 2020.

·        Monetary policy will remain supportive until there are signs of a sustainable pick up in wages growth. We expect the RBA will begin withdrawing stimulus in Q3 next year, with a relatively modest 100bp campaign finishing by Q3 2019. Australia’s high level of household debt means the RBA will tread lightly. Inflation will drift higher and reach the middle of the target band by H2 2020, but it will remain stubbornly low for the next 12 months.

·        Government spending and net exports will be key positive contributors to the improving outlook. In the near term, they will provide timely support until the mining investment downturn is complete. Consumer spending will remain restrained by weak wage growth until 2019, but as the labour market gradually tightens, wages growth should edge higher. We don’t see a broad pick-up in non-mining business investment until 2019, although signs of a modest pickup in non-residential construction should emerge by the end of this year.

·        The economy has weathered most of the mining downturn, but it will still be a drag on growth for the next 12 months. Similarly, housing will become a small headwind, but a typical cyclical downswing is unlikely until the Bank begins to remove accommodation.

·        Our outlook is underpinned by a relatively positive global outlook, led by Europe and the US. However, the key downside risk is China, where our China economist expects growth to slow from 6.6% in 2017 to 6.0% in 2018. Our commodities team also expects weakness in the key iron ore and coal markets and this is weighing on our terms of trade outlook.

·        The AUD has the potential to be the fly in the ointment, but its fortunes are bipolar and mainly depend upon developments in China and the US. The RBA will adjust policy based upon how the economy is faring within the overall mix of financial conditions. Our China outlook should help put some downward pressure on the currency taking it to $A/$US0.74 by the middle of next year. A rebound in the US dollar is a downside risk to our forecast, but its prospects will in part hinge upon the significance of tax reform and infrastructure spending in the US. Stronger than expected Chinese growth and commodity prices are probably the key source of upside risk, given that markets have unwound pricing the likelihood of significant US fiscal stimulus.

·        Global factors also shape our outlook for the long end of the Aussie bond market. Unwinding the Fed’s balance sheet and US tax reform are the key upside risks for yields, while the main global force anchoring yields is weak inflation. Our expectation of a higher cash rate is the main domestic factor putting upward pressure on yields. We expect the Aussie 10-year bond yield to be 2.7% at the end of 2017 and 3.2% at the end of 2018.

August 30 2017

Source: ABS, Macquarie Research, August 2017

Source: RBA, Macquarie Research, August 2017

Source: RBA, Macquarie Research, August 2017