The world would be so happy:
We have spent a lot of this year writing about the impact of commodities on Australia’s economy. This makes sense. Mining has driven more of the Australian economic cycle in recent years than at any other time in modern history. This has been an unusual period. The recent mining cycle has been three times larger than any other in the past century. But, in reality, the resources sector is less than onetenth of GDP and, once the big cycle is over, which we think is about now, the economic story will be more about other things. Services are over 70% of GDP and are driving more and more growth. Services are also generally quite poorly measured in the statistical frame. Don’t forget services.
It’s easy to see why Australia is seen as a commodity-economy. Resources account for 65% of Australia’s exports and because commodity prices are volatile, the cycle in Australia’s export income is largely driven by commodities. Export income then, in turn, drives large movements in the Australian dollar, which affects financial conditions and feeds back into interest rate settings. Add to this, Australia has just been through the largest cycle in commodity prices and mining investment in at least a century. Mining investment, which is typically 2% of GDP, and has peaked in previous mining booms at 3% of GDP, rose to a massive 9% of GDP in 2012 and has fallen right back to 3% of GDP since then. The mining cycle was three times larger than anything Australia has had to absorb in the past century.
So you would be forgiven for thinking that the story has been all about mining. But the bulk of Australia’s economy is outside the mining sector. Although commodities loom large in Australia’s trade, exports are only around 20% of GDP. In terms of gross value-added, mining is only 6% of the economy. By comparison, the services sectors account for over 70% of GDP. The mining sector is also highly concentrated in certain geographies. Mining accounts for around one-quarter of gross state product in Western Australia and less than one-tenth in Queensland, but barely registers in New South Wales or Victoria, where over half of the overall economy and population reside.
Tight financial conditions when the mining boom was at its peak, held back the services sectors. The high AUD was limiting the tourist numbers, encouraging Australians to spend more money offshore and discouraging international students from coming to Australia. High interest rates were holding back consumer spending, including on services. The much lower AUD is now supporting the competitiveness of Australia’s services exports, while lower interest rates are supporting consumer spending as well as the housing sector. Tourism and education exports have become key drivers of growth.
Throughout the period there have also been secular trends that are driving the increased importance of services. An aging population has driven increasing demand for health services, with gains in health jobs the single largest contributor to employment growth over the past decade. Technology is also favouring services. For example, music and movies are no longer consumed on disks purchased from a physical store, but downloaded as services. An increasingly sophisticated work environment is demanding higher skills and thus more spending on education services. Services account for 48% of household consumption, up from 40% two decades ago.
The end of the massive mining cycle and shift to growth being increasingly driven by services should, in principle, mean less volatility in the economy. The rise in Australia’s services exports, such as tourism, education and business services, should tie the economy more heavily into the secular rise of Asia’s middle classes and make the economy less reliant on the heavy industry investment cycle.
The official statistics have not kept pace with these changes. For example, the retail survey, which showed weak numbers for Q1, covers a little less than one-third of overall household consumption, with little spending on services included. The ABS capital expenditure survey does not include investment in capital stock in the health or education industries and also excludes intangible assets, such as intellectual property, which are an increasing share of GDP.
With the official timely partial indicators perhaps giving a less clear guide to economic activity, we have been putting more weight on other surveys. Although some recent partials, such as retail sales and the construction numbers, have been weak, broader measures of activity, such as the NAB business conditions index, are around high levels (see chart below). While some observers are getting worried about the possibility of a very weak Q1 GDP print (due on 7 June), and it is still too early to be certain, it is worth keeping in mind the services story and the limitations of many of the partial measures.
Pop quiz: Who is Australia’s happiest, ahem, economist?
- Crag James
- Paul Bloxham
- RBA
- Treasury
Rank them if you like.
