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Index
Budget Paper 1
Budget Statement 2
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The forecasts for the domestic economy have been developed taking account of the international outlook outlined above. In framing the forecasts for the domestic economy, the exchange rate is assumed, as is usual practice, to remain unchanged from the average levels reached in recent months. The farm sector forecasts have been prepared on an assumption of average seasonal conditions over the remainder of 1998-99 and in 1999-2000.
Following very strong growth of more than 4 per cent in both 1997-98 and 1998-99, economic growth is expected to remain solid in 1999-2000 at around 3 per cent. The moderation in GDP growth is expected to occur largely in 1999, before picking up in 2000 as the world economy gradually strengthens. The expected moderation in growth largely reflects: more moderate growth in household consumption, closer to the longer-term trend, following very strong growth in the two previous years; a reduction in private non-residential construction from recent high levels; relatively stable activity levels in dwelling investment; and slower growth in public demand. Partially offsetting influences are expected to be a pick-up in export growth and plant and equipment investment as the international economy gradually strengthens through calendar year 2000.
Chart 2: Contributions to GDP Growth(a)
Adjusted for transfers and one-off transactions as noted in Table 1.
Source: ABS Cat. No. 5204.0 and Treasury.
In 1998-99, GDP is expected to grow by around 4¼ per cent,
significantly above the MYEFO forecast of 3¼ per cent. The upward revision
largely reflects stronger than expected growth in the December quarter 1998,
particularly household consumption, and indications of continuing solid growth in consumer
spending and employment in the second half of 1998-99. Measures of business
confidence have also rebounded, although these measures are not always a good indicator of
future movements in business investment or overall growth.
The overall effects of the Government's taxation reform package on economic activity
in 1999-2000 are likely to be muted since the package does not come into effect until
the following financial year. While some components of activity are likely to be affected
in 1999-2000, the effects on individual components tend to work in offsetting
directions. The overall impact is expected to be slightly positive.
Household consumption growth is expected to remain solid in 1999-2000, growing by
around 3¾ per cent, following very strong growth of around
4½ per cent in 1997-98 and 1998-99.
The continuing strength in household consumption in 1998-99 has been underpinned by
strong employment growth and ongoing real wage growth, low interest rates and wealth
effects associated with rising asset prices and the AMP Society demutualisation. The
results of recent consumer confidence surveys indicate that consumer optimism is at high
levels with regard to consumers' expectations about their personal financial situation,
their stated willingness to purchase major household items and, more recently, their
confidence in economic conditions over the next twelve months.
In 1999-2000 more moderate growth in employment and real wages is expected to
contribute to some slowing in household consumption expenditure. In addition, much of the
impact of the AMP demutualisation on consumer demand, particularly for consumer durables,
is likely to have run its course in 1998-99 and hence seems unlikely to contribute to
further growth in consumer demand in 1999-2000. As a partial offset recent
significant increases in the price of equities, particularly privatised companies such as
Telstra and the Commonwealth Bank which are likely to be widely held amongst households,
may provide some boost to consumer spending in 1999-2000. There is also likely to be
some net increase in household consumption in the latter part of 1999-2000 ahead of
the introduction of the A New Tax System package. Purchases of currently relatively
lightly taxed goods may be brought forward. On the other hand, some spending on items that
are currently more highly taxed may be deferred, although this will be softened by
transitional arrangements.
| Box 1: Households' Financial Position Very strong growth in household borrowing has occurred over the past five years. Household debt has increased from around 80 per cent of disposable income in 1994 to around 100 per cent in the December quarter 1998. However, by international standards, Australian households have carried relatively little debt in the past and the recent increase in indebtedness has brought Australia more into line with other developed countries.(a) The increase in debt is likely to partly reflect consumers responding to lower interest rates, allowing them to service a higher level of debt. Debt servicing ratios, currently at around 7 per cent of gross disposable income, are much lower than the late 1980s peak of around 12 per cent and have been relatively stable over the past six years. Chart 3: Debt Servicing Ratio Source: ABS Cat. No. 5206.0. In conjunction with rising debt, there has also been strong growth on the asset side of
the household balance sheet, with net worth increasing solidly. Net household financial
assets (ie excluding dwellings and consumer durables) rose 10 per cent in
the year to December 1998 and have risen 40 per cent in the past
three years, with much of this growth reflecting rising asset prices, particularly
equities.
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One important uncertainty surrounding the outlook for household consumption is the apparent downward trend in the household saving ratio and rising household debt. If households move to stabilise or increase their saving rates from recent levels and rein in their borrowing, household consumption expenditure could be weaker than forecast. Nevertheless, the household saving ratio as conventionally measured is a rather narrow concept (from an economic perspective) and is likely to give a distorted picture when asset values are changing. Broader measures of households' financial position, such as net worth and debt servicing ratios, remain sound and interest rates are at low levels, suggesting that risks around the outlook for household consumption are relatively evenly balanced (see Box 1).
Modest increases in dwelling investment are forecast in both 1998-99
and 1999-2000, following very strong growth in 1997-98.
Partial indicators of activity in the housing sector, such as building approvals, housing
finance and dwelling commencements, appear to have peaked around the middle of 1998.
Importantly, however, the decline in these indicators since then has been relatively mild.
In recent decades, dwelling investment has followed a four to five year cycle, with sharp
increases in dwelling investment followed by sharp declines, often associated with
significant changes in interest rates and inflation rates. However, with interest rates
and inflation now more stable than in the past, dwelling investment is likely to be less
volatile. It is noteworthy, for example, that in the 1960s low inflation and
relatively stable interest rates were associated with a more muted housing cycle
(Chart 4).
Chart 4: Dwelling Investment
Source: ABS Cat. No. 5204.0 and Treasury.
Demand for housing should be supported by continuing high levels of housing
affordability and moderately supportive demographic factors. High housing affordability
reflects rising household incomes, moderate house price inflation and very low housing
interest rates. At the same time, strong demand from `baby boomers' and the trend to
smaller households should cushion the impact of slower population growth across the key
household forming age cohorts.
There is also little sign of the overbuilding which has characterised some previous
cycles. Supply and demand conditions in the housing sector appear to be broadly in
balance, with the current level of housing commencements judged to broadly match the
underlying demand for new houses attributable to demographic factors. The long-term
structural trend towards larger, more expensive housing and ongoing expenditure on
alterations and additions to the existing housing stock is expected to result in dwelling
investment growing more strongly than the number of new houses commenced.
The sale and purchase of assets between the public and private sectors can have a significant impact on published estimates of business investment and public final demand. This has been the case in recent years, as is evident from a comparison of Panels A and B of Table 1. Such asset sales have no significant impact on aggregate activity, but can provide a misleading view of movements in individual components. For this reason, it is preferable to abstract from such asset sales when assessing underlying economic activity.
Chart 5: Investment as a Percentage of GDP
Excludes intangible fixed assets and livestock.
Source: ABS Cat. No. 5204.0 and Treasury.
After six years of strong growth in business investment (abstracting
from asset sales), which carried business investment to around historical highs as a share
of GDP in 1997-98, only modest growth is expected in 1998-99. In 1999-2000
growth in business investment is forecast to be flat (ie running at the same level as
in 1998-99), reflecting the impact of continuing below trend world growth, the
maturity of the current investment cycle and some deferral of investment spending ahead of
the introduction of the A New Tax System package. Nevertheless, business investment
is expected to be around its long-run average share of GDP in 1999-2000
(Chart 5).
While the Australian economy has grown very strongly notwithstanding the international
downturn, international developments are having a significant impact on some components of
business investment. Some firms have responded to the uncertainty surrounding the
international outlook and low world commodity prices by deferring investment plans until
the outlook becomes clearer. This trend seems to be most marked in the mining sector,
although it follows several years of very strong growth in investment in that sector
(Chart 6).
Chart 6: Annual Growth in Business Investment
Source: ABS Cat. No. 5646.0.
Acting against these factors, however, is a range of relatively positive fundamental
influences: nominal and real interest rates are low; overall capacity utilisation is at
above average levels; most measures of business confidence have returned to pre East Asian
crisis levels; and profitability and balance sheets are healthy. The corporate profit
share increased to a record level in 1998 and broader measures of profitability,
which include unincorporated enterprises, are also at high levels. While gearing ratios
have drifted up slightly in recent years, they remain well below the highs
experienced in the late 1980s and early 1990s.
On an industry basis, the weakness in business investment intentions is largely
concentrated in the mining industry, consistent with current low commodity prices and the
subdued outlook for the resources sector. Investment intentions in the manufacturing
and, to a lesser degree, services sectors, are relatively strong and more in line with the
favourable fundamentals noted above.
In terms of the components of business investment, underlying plant and equipment
investment is expected to grow by around 3 per cent in 1999-2000 after
declining by around 2 per cent in 1998-99. Key influences are expected to
be stronger growth in manufactured exports, in line with a gradually strengthening world
economy and the generally favourable investment climate outlined above. As a partial
offset, the introduction of the GST on 1 July 2000 and the removal of wholesale
sales tax from business inputs will generally reduce the cost of investment and hence is
likely to result in some deferral of plant and equipment investment in the latter part
of 1999-2000.
Surveyed business investment intentions data also point to a return to growth in plant and
equipment investment in 1999-2000. Applying a five-year average realisation ratio to
the initial intentions data for 1999-2000 implies growth of around
7 per cent in the value of plant and equipment investment. However, there is
always a wide band of uncertainty around estimates based on the first set of investment
intentions data for a particular year, with investment plans being firmed up as the year
progresses and often sensitive to changing economic trends.
Non-residential construction investment (in underlying terms) is expected to peak
in 1998-99 at a relatively high level as a share of GDP, before turning down
in 1999-2000. This follows several years of strong growth in investment in
projects such as offices, hotels, casinos, sporting arenas and infrastructure, including
projects linked to the Sydney 2000 Olympics. Lower mining investment is also expected
to dampen non-residential construction activity. Approvals and financing data have been
trending down since around mid-1998. While a large stock of work yet to be done should
support a high level of activity for some time, it is expected to only partly offset the
decline in the flow of new projects. Surveyed business investment intentions also point to
a significant fall in non-residential construction in 1999-2000.
Following strong growth in 1998-99, public final demand (abstracting from asset sales)
is expected to moderate in 1999-2000, reflecting slower growth in both public
investment and consumption.
Growth in investment spending at the Commonwealth, State and local government levels is
expected to slow in 1999-2000. This largely reflects slower growth in public trading
enterprise investment at the Commonwealth and State levels of government, with the
completion of some major investment projects in 1998-99. While general government
investment is expected to be underpinned by some infrastructure programmes of State
Governments in 1999-2000, the effect of this will be partly offset by the conclusion
of Olympic-related spending.
Public consumption growth is expected to slow in 1999-2000, reflecting ongoing fiscal
consolidation programmes at both Commonwealth and State government levels.
Private sector non-farm inventories are expected to contribute around
¼ percentage point to growth in 1998-99 and detract around
¼ percentage point from growth in 1999-2000 (after adjusting for the
privatisation of Wool International in the September quarter 1999). The
inventories-sales ratio appeared to have fallen below desired levels in 1997-98,
reflecting unexpectedly strong sales growth over that period. The increase in inventories
in recent quarters has returned stockholding to levels more in line with requirements. A
resumption in the structural decline in the inventories-sales ratio associated with
improved inventory management practices is expected to more than offset any increase in
demand for stockholding stemming from ongoing solid sales growth over the course
of 1999-2000.
The level of farm gross domestic product is forecast to remain broadly unchanged in
1999-2000, reflecting the usual assumption of normal seasonal conditions. Of the
main components, production of canola and dairy products in particular are expected to
rise over the period. These increases are expected to offset a decline in grain and wool
production and livestock slaughterings as some rebuilding of the herd takes place.
The slower world economy and continued strength in domestic demand is
expected to result in net exports detracting from GDP growth in 1998-99, although the
detraction is likely to be smaller than in 1997-98. In 1999-2000, net exports
are expected to contribute slightly to GDP growth (¼ percentage point), as exports
pick-up in line with the gradual strengthening in the international economy.
The pick-up in export volume growth in 1999-2000 is expected to be to around
5 per cent, with growth across resources, manufactures and service exports.
Nevertheless, such an outcome would mean that the growth rate for exports would remain
below the longer-term trend rate for the third consecutive year as world economic growth
remained below trend. A feature of Australia's export performance in the first year of the
economic downturn in East Asia was a significant diversion of exports, particularly
commodities, away from the troubled East Asian economies and toward faster growing
economies elsewhere. This export diversion may moderate in 1999-2000 as the economies
of some of Australia's major trading partners in East Asia stabilise and begin to recover
and growth slows in the United States.
The expected pick-up in the volume of resource exports in 1999-2000 primarily
reflects additional supply capacity coming on stream, coupled with stronger growth in
traditional export markets in East Asia. The volume of elaborately transformed
manufactures (ETMs) exports is estimated to have declined in 1998-99, reflecting very
weak activity in some of Australia's major ETM trading partners in the region and the
relative difficulty in establishing alternative markets for such items in the short term.
A return to positive growth in ETM exports is expected in 1999-2000, supported by
strengthening activity in key regional markets. The outlook for stronger world growth also
points to a return to moderate growth in services exports.
Import volume growth in 1999-2000 is forecast to remain relatively subdued,
reflecting the net impact of more moderate growth in domestic demand, against a slight
fall in import prices. The outlook for import prices across-the-docks and at the retail
level remains uncertain. Strong international and domestic competitive pressures have
produced lower than expected outcomes over recent quarters (see discussion in Box 2
and Statement 3).
The CAD is forecast to decline slightly relative to GDP (to 5¼ per cent or
$32 billion) in 1999-2000 as compared with a forecast outcome of
5½ per cent of GDP ($32½ billion) in 1998-99.
The increase in the CAD in 1998-99 primarily reflects a deterioration in the balance
of trade (Chart 7), coming from continued weak net exports and weaker terms of trade.
Chart 7: Contributions to Current Account Deficit
Source: ABS Cat. No. 5302.0 and Treasury.
There has been a decline in the terms of trade since the onset of the
crisis in East Asia albeit modest. While export prices on world markets, particularly for
commodities, have declined significantly in foreign currency terms, there has also been a
significant decline in the foreign currency prices of Australia’s imports. The latter
reflects various factors including technological and productivity gains, as well as the
impact of slow world economic growth and the very competitive world markets for many
items, such as motor vehicles and computers, which are important import items for
Australia.
The terms of trade is expected to decline by around 4¾ per cent in year-average
terms in 1998-99. A slight increase is expected in 1999-2000 as commodity prices
stabilise overall and import items remain competitively priced. This outlook hinges on a
gradual strengthening in the world economy in 2000 placing a floor under commodity
prices.
Unlike previous episodes in Australia when the CAD has increased significantly as a
percentage of GDP, growth in the net income deficit is expected to be subdued over the
forecast period, reflecting the continuation of a low interest rate environment and the
absence of significant exchange rate valuation effects. More detail on the performance of
Australia's external sector relative to other periods of slow world economic growth is
contained in Statement 3.
The forecast decline in the CAD as a share of GDP in 1999-2000 reflects the outlook
for a gradual pick-up in growth in Australia's major export markets and a slight increase
in the terms of trade. In keeping with past experience, considerable volatility is likely
from quarter to quarter.
Conditions in the labour market are expected to remain firm
in 1999-2000, although some moderation in employment growth is expected over the
course of the year in response to slower growth in the domestic economy. The unemployment
rate is expected to average around 7½ per cent in 1999-2000, consolidating
the decline in the unemployment rate since mid-1997.
Employment has grown solidly through 1998-99 to date, underpinned by the strength in
overall economic growth. Given the usual lags between output growth and employment,
further solid growth is likely in the early part of 1999-2000. This is
consistent with the high level of the major job vacancies surveys, with both the ANZ and
Skilled Vacancy surveys at their highest levels in over nine years. Some easing in
the rate of employment growth is expected later in 1999-2000 as economic growth
moderates.
Following very strong average labour productivity growth in recent years, a cyclical
slowing in productivity growth is expected in 1999-2000, as employment growth
responds with a lag to slower growth in activity. The forecast rate of labour productivity
growth is consistent with the experience of the mid-1990s, although average labour
productivity has been quite volatile from year to year and is therefore difficult to
predict.
Chart 8: The Participation Rate
Source: ABS Cat. No. 6202.0.
The unemployment rate is forecast to average around
7½ per cent over 1999-2000, with the participation rate drifting up a
little from recent levels to average around 63¼ per cent. There is a larger
than normal degree of uncertainty concerning the participation rate at this time.
Short-term movements in the participation rate tend to largely reflect changes in
employment opportunities, although this does not seem to have been the case
during 1998-99.
A range of factors may have contributed to a stable participation rate over recent
quarters, notwithstanding the favourable employment outlook. For example, continued high
levels of housing affordability and rising household wealth may be creating opportunities
for some households to rearrange their work/leisure choices. Further, longer-term
demographic factors, such as the ageing of the population and the movement of the `baby
boomer' generation into the lower participation cohorts, are also likely to be exerting a
negative influence on the participation rate (as discussed in the Summer 1999 ments
in the participation rate tend to largely reflect changes in employment opportunities,
although this does not seem to have been the case during 1998-99.Economic Roundupments
in Statement 3).
Overall, a modest increase in the participation rate from recent levels is expected over
the course of 1999-2000, with the continuing favourable employment outlook assumed to
outweigh the various forces which may be working in the opposite direction.
Wages growth on a National Accounts basis is currently running at around 4 per cent per annum, similar to outcomes in 1997-98. This is somewhat higher than other measures of wages growth. A slight moderation in wages growth generally is expected in 1999-2000, as labour market conditions remain firm but employment growth slows relative to 1998-99. This outlook incorporates the contribution to wages growth flowing from the recent Australian Industrial Relations Commission safety net decision.
Inflation is expected to increase modestly from recent low outcomes. In
year-average terms, inflation is forecast to be around 2 per cent
in 1999-2000, up from around 1¼ per cent in 1998-1999. Through the
year to the June quarter 2000, inflation is expected to be around
2¼ per cent.
The forecast slight rise in inflation in 1999-2000 partly reflects faster growth in
nominal unit labour costs in response to a cyclical slowing in average labour productivity
growth from its recent high rates, more than offsetting a slight moderation in the rate of
nominal wage increases. Some lessening in the downward pressure on the world prices of
Australia's imports is also expected in 1999-2000, following significant falls in
world prices of these items (when expressed in $US terms) since mid-1997 (see Box 2 and
the discussion in Statement 3). There may also be some move on the part of
wholesalers and retailers to rebuild profit margins on imported items, following an
apparent squeezing of margins over recent quarters (Chart 9). Acting in the opposite
direction will be the moderating effect of some easing in domestic demand pressures as
activity slows.
Chart 9: Prices of Imported Consumption Goods
Source: ABS Cat. Nos. 6414.0 and 6444.0.Box 2: Australia's Recent Inflation Peformance
Box 2: Australia’s Recent Inflation Peformance CPI inflation has been well below 2 per cent in
through-the-year terms for the past two years, with other measures of inflation, such
as underlying inflation and the household consumption deflator, also indicating subdued
price pressures. While an improved inflation performance has been a feature of most
developed countries, in Australia it has occurred in an environment of strong demand
growth and rising import prices across-the-docks. |
The inflation forecasts in both 1998-99 and 1999-2000 also partly reflect the one-off impact on the Consumer Price Index (CPI) of changes in government policy. Inflation in 1998-99 has been reduced by the impact on health insurance costs as a result of the introduction of the 30 per cent health insurance rebate in the March quarter 1999 (which is estimated to have reduced the CPI by around 0.6 percentage points). Conversely, the introduction of the ‘per stick’ tobacco excise in the December quarter 1999 is expected to increase the CPI by around ¼ percentage point.
