Courtesy of Gerard Minack of Minack Associates:
The outlook for Australia is not boom versus bust; it is bust versus blah – blah being a continuation of the anaemic, sub-trend growth seen through the past 5 years. Signs that house prices have bottomed only marginally reduce the risk of a bust. The key to the recession risk is how households adjust their saving given wealth losses, and the severity of the likely slowdown in employment growth.
Australian house prices seem to have bottomed: auction clearance rates, a reliable lead indicator of prices, troughed in late 2018 (Exhibit 1).
House prices continuing to fall would have increased the risk of recession; but the end of the decline doesn’t remove that risk. One source of risk is that consumers lift their saving because of the wealth decline. Capital city house prices fell 10% peak-to-trough – a wealth hit equivalent to a 25% decline in US house prices given Australia’s much higher house price/income levels. Real retail sales typically follow house prices (Exhibit 2).
The broader point is that the household saving rate persistently fell as house prices boomed. The decline in saving pushed consumer spending growth above income growth (Exhibit 3, which shows 4 quarter growth rates). Growth was weak in the past 2 quarters because the household saving rate stabilised, so spending growth fell to match low income growth. If the household saving rate increases sharply then a recession would be likely.
A second recession risk is the likely slowdown in employment growth. Australia has seen a remarkable – and, as far as I can tell, unprecedented – gap between employment and GDP growth. Employment has been growing at a pace historically associated with 4-5% GDP growth, not the actual current rate of 2% growth (Exhibit 4).
This GDP-employment growth gap has broadly coincided with a surge in public-sector jobs growth. Aggregate employment growth over the past year has been almost totally accounted for by stronger public sector hiring (Exhibit 5).
This is at least partly due to the roll-out of the National Disability Insurance Scheme (NDIS). (Note that the ABS private/public employment data start in 2015; prior numbers in Exhibit 5 are my estimates.)
The dominance of public-sector hiring in the labour market is consistent with the elevated contribution to GDP growth from public sector spending (Exhibit 6). Australia may well have been in recession already if not for the strength in public sector spending and hiring over the past year. Exhibit 6 The public sector props up growth Source: ABS, NBER; Minack Advisors This is important in the context of leading indicators now signalling slower employment growth. Exhibit 7, as an example, shows job vacancies leading employment growth. The leading indicators are pointing to slower employment growth, not outright job losses. However, most leading employment indicators reflect private sector demand. The risk is that aggregate employment growth slows faster than these indicators now suggest if the public sector hiring surge ends as private sector hiring slows.
Sector-level vacancy data point to labour demand weakening in construction and trade-exposed sectors (Exhibit 8).
The extent of the labour market slowdown will be critical. If the labour market weakens it would pressure household income which is already flatlining in real, per capita terms. Rising job insecurity would also increase the risk of a rise in precautionary household saving. And weaker employment growth could stifle the nascent turn in house prices. If employment starts to fall then so will house prices, regardless of RBA policy.
That is the recession scenario. It is a significant risk, although not my base case. If recession is avoided then the prospect is for more tepid sub-par growth, pointing to anaemic nominal income growth, a weaker A$ and further RBA policy easing.