- We at Fitch Solutions continue to expect Australia’s economy to grow by 4.2% in 2021 and by 3.5% in 2022.
- The economic recovery in 2021 was disrupted by a resurgence of Covid-19 cases at the beginning of Q321 – growth in that quarter slowed to 4.2% y-o-y compared to 9.6% in Q221 – the risk of such an interruption in growth still remains owing to the discovery of a new Covid-19 strain of concern (Omicron).
- In 2022, growth will likely be lifted by the gradual reopening of the economy; however, the boost that the external sector got in 2021 owing to robust demand from China, may not materialize in 2022 given our view of a likely slowing in that economy.
We at Fitch Solutions retain our view that Australia will grow by 4.2% in 2021 and by 3.5% in 2022. As we had anticipated, the Australian economy contracting in Q321 owing to tough movement restrictions that were put in place between July and October, to stem the spread of Covid-19. In fact with quarterly growth in Q321 coming in at -1.9%, the economy contracted by more than our expectation for a 1.0% quarterly decline in output but less than Bloomberg consensus of 2.7%. Looking ahead, we expect the Australian economy to recover strongly in Q421 as pent up demand drives up consumption. Accordingly, we have factored in at least 2.0-2.5% quarterly growth in that quarter. However, we caution that the growth recovery in the first half of 2022, could be disrupted if the Omicron variant of concern of Covid-19 causes another bout of border shutdowns and movement restrictions.
Australia’s Recovery Still Underway
Australia – Real GDP by Component
In Q321, private consumption contributed 0.9 percentage points (pp) to y-o-y growth, a steep decline from the 7.5pp contribution in Q221. This came as private consumption grew by 1.8% y-o-y, from 15.0% y-o-y in Q221. Gross fixed capital formation (GCFC) was the largest contributor to growth adding 2.7pp and only slightly down from 2.8pp. The component only witnessed a small y-o-y slowdown, coming in at 12.6% compared to 13.2% in the previous quarter. Meanwhile, government consumption was the only component that strengthened on a y-o-y basis from Q221, increasing to 5.8% y-o-y from 4.1% y-o-y, contributing 1.3pp to y-o-y growth. Finally, net exports contributed negatively to headline growth, subtracting 0.4pp from real GDP growth. This was nevertheless smaller than the 3.4pp it took away from real GDP growth in Q221. This came as exports grew by 3.3% y-o-y (from -1.8% y-o-y in Q221) while imports grew by 5.8% y-o-y (a marked slowdown from 16.1% y-o-y in Q221).
Growth Recovery Could Face Disruptions
Australia – Real GDP Growth, % chg by period
Over the coming months, we expect private consumption to strengthen on the back of pent-up demand from the lockdowns. As such we forecast private consumption to grow by 3.5% in 2022, following our expectation for the component to rise by 5.0% in 2021. Despite household consumption contracting significantly in Q321 which was in response to the imposition of stringent movement restrictions, we maintain our outlook for the growth to be resilient, with consumers deferring the majority of their consumption into Q421 and the first half of 2022. Indeed, the November (latest) data for consumer sentiments and retail sales showcased a rebound, suggesting that a further pickup in private consumption is on the horizon amid easing restrictions (see chart below).
Pent-Up Demand Will Be A Key Driver Of Private Consumption
Australia – Consumer Sentiment Index VS Retail Sales, % chg y-o-y
While pent-up demand will drive further consumption, we expect this effect to be measured as the impact of fiscal support that boosted household incomes in 2020, will have worn off. Fiscal spending will not be as high as it was in 2020 and indeed the additional funds provided by the government this time around has not been as large. Nevertheless, we have identified further tailwinds that will drive the component. Firstly, we expect household spending to be bolstered by positive employment conditions (see chart below). Looking at a three-month average, unemployment is on a downtrend. Additionally, tightening of the labour market will bode well for wage growth. Indeed, according to the Reserve Bank of Australia (RBA), the number of job applicants in October for each role was close to 49% below pre-pandemic levels indicating more opportunities for domestic workers owing to a shortage of foreign migrants. Secondly, increased house prices have boosted the wealth effect for most home-owning households, helping provide a cushion for any lost income during the lockdowns. The latest data from the ABS showed that the y-o-y house price index growth in Q221 came in at 19.8% which is a record high.
Improving Labour Market Conditions To Feed Into Higher Wages
Australia – Hourly Wage Index, % chg y-o-y Vs Unemployment Rate, %
We forecast gross fixed capital formation to grow by 5.0% in 2022, following our expectation for the component to register at 4.5% in 2021. This component has surprised on the upside in 2021 and we hold a positive outlook for investment over the coming quarters. Firstly, given that the country’s shift towards an endemic Covid-19 strategy (from a zero Covid-19 policy) following the strong vaccination rates (as of December 1, 73.4% of the total population had been fully vaccinated) we expect a more certain business outlook will bolster demand for capital investments. Demand will also be buoyed by tax incentives alongside still supportive monetary policy. In fact, given that we now forecast rate hikes to occur towards the end of 2022, which could feed into higher borrower rates to come, we believe that businesses will look to lock in the current low borrowing rates over the near term, pushing up investment demand. Secondly, our optimistic outlook for the component is underpinned by a robust pipeline of construction projects. The latest available dwelling commencement data for Q221, came in at a record high of 64,596, suggesting that work on these dwellings will continue moving forward.
Greater Certainty In Business Outlook To Boost Capital Investment
Australia – NAB Business Confidence Index Vs Westpac Lending Index
Meanwhile, we forecast government consumption growth to come in at 3.0% in 2022, slowing from our expectation of 5.0% in 2021. Australia will likely hold general elections in May 2022. Indeed, while the budget is usually unveiled in May, the government have pushed forward the budget session for next year to March 2022 which strengthens our conviction that elections will be held soon after. Having ramped up its fiscal spending significantly in 2020 to support the economy against the Covid-19 pandemic, we believe that the Liberal-National Coalition would look to rein in its fiscal spending for the next year given that their victory in the 2019 elections was due to them pushing for a balanced budget. That said, given that dynamics have shifted considerably since then, with the risk of further outbreaks still looming on the horizon, we expect budgetary spending to remain slightly expansionary next year. This is broadly in line with the 2.4% y-o-y growth in government consumption, according to the 2022 forecast from the RBA.
Import Growth To Outpace That Of Exports
Australia – Exports & Imports Growth, % chg y-o-y Vs Trade Balance, AUD bn
We expect net export to subtract 2.9 pp from real GDP growth in 2022. While this is a slight improvement from 2021 (estimated to be -7.4pp), we argue that moderating base effects from 2020, as well as slowing external demand could mean that the net export contribution could suffer more. Indeed, we expect a slowdown in growth in China (the country’s largest trading partner) to cap external demand. This will be compounded by the trade dispute between China and Australia that remains in place. Meanwhile, we expect import growth to strengthen given the relatively strong household balance sheet as the economy continues its recovery trajectory.
Risk To Outlook
The risk to our outlook is currently balanced. On one hand, if the Omicron variant does not trigger a series of new restrictions, then it is conceivable that Australia’s re-opening policy will accelerate. The country’s strategy has shifted markedly as vaccination rates have risen, which suggests that if the numbers start to improve further, then the country will re-open more rapidly and even allow foreign tourists to come in by mid-2022. Alternatively, two downside risks could impact Australia at the same time, firstly, inflationary pressures remain sticky on the upside, weighing on household’s spending. Secondly, the Omicron variant renders current vaccines, ineffective requiring a fresh round of lockdowns and restrictions.
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