Australian Government, 2013-14 Budget

Part 2: Economic Outlook (Continued)

International economic outlook

Global growth remains subdued but is expected to pick up across the forward estimates. World GDP is expected to grow by 2¾ per cent in 2013, well below trend, before picking up gradually to 3½ per cent in 2014 and 3¾ per cent in 2015 (Table 2.1).

Forecast growth in Australia's major trading partners (MTPs) is largely unchanged from the 2013 PEFO, and is expected to remain solid at 4¼ per cent in 2013 and 4½ per cent in both 2014 and 2015. A gradual improvement in Europe and the United States is expected to lead to an increase in external demand flowing through to China's growth, to Australia's other MTPs in Asia, and to the global economy. Higher growth forecasts for Australia's MTPs compared with the global economy reflect the increasing weight of fast‑growing Asian emerging market economies in our MTPs.

Table 2.1: International GDP growth forecasts(a)
  Actuals   Forecasts
  2012   2013   2014   2015
China(b) 7.7   7 1/4 7 3/4   7 1/2 7 1/2   7 1/2 7 1/4
India(b) 3.8   5 2 3/4   6 1/2 4 3/4   6 1/2 5 1/4
Japan 1.9   1 3/4 1 3/4   1 1 1/4   1   1
United States 2.8   1 1/2 1 3/4   2 1/2 2 1/2   2 1/2 2 3/4
Euro area -0.6   - 3/4 - 1/2   3/4 3/4   1 1/4 1 1/4
Other East Asia(c) 3.9   3 3/4 3 3/4   4 3/4 4 1/2   5 4 3/4
Major trading partners 4.1   4 4 1/4   4 1/2 4 1/2   4 3/4 4 1/2
World 3.2   3 2 3/4   3 3/4 3 1/2   4 3 3/4

(a) World, euro area and other East Asia growth rates are calculated using GDP weights based on purchasing power parity (PPP), while growth rates for major trading partners are calculated using export trade weights.

(b) Production‑based measure of GDP.

(c) Other East Asia comprises the newly industrialised economies (NIEs) of Hong Kong, South Korea, Singapore and Taiwan and the Association of Southeast Asian Nations group of five (ASEAN‑5), which comprises Indonesia, Malaysia, the Philippines, Thailand and Vietnam.

Source: National statistical agencies, IMF World Economic Outlook October 2013, Thomson Reuters and Treasury.

For China, the outlook has improved and stabilised. Economic growth strengthened to 7.8 per cent through the year to the September quarter 2013, partly reflecting the increase in state‑supported infrastructure spending that was introduced in the middle of the year. Accordingly, the forecast for 2013 has been revised up to 7¾ per cent.

Continued solid growth is expected for China over the forecast horizon, but China's long‑term prospects depend on whether authorities can successfully implement necessary structural reforms, including those related to the financial system. While supporting economic growth in 2013, state‑led investment is expected to progressively give way to a more market‑driven system of allocating capital, consistent with recent policy announcements by the Chinese authorities at their Third Plenum. Although likely to improve China's long‑term growth prospects, these market‑oriented reforms and the transition away from state‑led investment are expected to weigh on aggregate investment in the near term, with economic growth forecast to moderate to 7½ per cent in 2014 and 7¼ per cent in 2015.

The prospect of far‑reaching economic reforms in China also raises the risk of a policy misstep by the authorities, as they try to overcome economic and political difficulties in implementing their agenda. Meanwhile, the possibility of a sharp rise in bad loans following the very large and rapid credit expansion in recent years and poor outcomes in advanced economies present continuing risks to China's growth outlook.

The United States has continued its modest but steady recovery and, barring further adverse developments, is poised for stronger economic outcomes. In the short term, the recent fiscal impasse had only a minor impact on the recovery and the 10 December announced budget deal, while small in scale, will most likely avert another shutdown in 2014. Of more concern is the continued uncertainty around fiscal policy, which has raised questions about the ability of the United States political system to compromise to achieve workable solutions to longer‑term fiscal challenges.

The strength of economic data over coming months will eventually determine the start date for tapering of the United States Federal Reserve's Asset Purchase Program. The normalisation of monetary policy is likely to be accompanied by financial market adjustments which could be beneficial to other countries but may also produce volatility, particularly for emerging markets. However, a stronger United States economy will be beneficial for the global economy. Part of the challenge for policy makers is managing expectations, particularly given the previous wrong‑footing of market expectations of a September start date for tapering of the Asset Purchase Program.

The euro area has been experiencing some respite, with the most sustained period of financial market calm since the start of the crisis. This has been accompanied by some encouraging data including, in the June quarter 2013, the first positive GDP growth after six consecutive quarters of contraction.

Still, the outlook for the euro area remains subject to considerable risk. In reaffirming its accommodative monetary policy stance, and cutting its key policy rate in early November, the European Central Bank characterised the recovery as weak, fragile and uneven. The euro area unemployment rate remains at a record high, credit conditions remain tight, and fiscal consolidation will continue to weigh on growth. The banking sector is a persistent vulnerability, and the banking union remains a long‑term project beset by political differences. The comprehensive assessment of euro area banks, in particular the Asset Quality Review, led by the European Central Bank and due to be completed by October 2014, could lead to a re‑escalation of the region's crisis if it is not seen as credible or reveals serious concerns about the viability of euro area banks while policy responses remain inadequate. While broadly factored in by markets, the prospect of further Greek debt restructuring could reignite euro area political tensions and raise global financial market volatility.

In Japan, the short‑term outlook has been substantially boosted by fiscal and monetary stimulus, but a sustained recovery relies on structural reforms to lift long‑term growth. While the initial tranche of the Japanese Government's structural reforms has been legislated, its benefits and the prospects for further reform remain unclear.

A looming challenge for Japan will be supporting growth and confidence in the recovery following the increase in the consumption tax in April 2014. While the tax increase is accompanied by fiscal stimulus and makes an important contribution towards longer‑term fiscal consolidation, there is uncertainty around its near‑term impact on the economy. Further quantitative easing from the Bank of Japan could also be in prospect if needed to support growth and meet its 2 per cent inflation target in 2015.

Since May, expectations that the United States Federal Reserve would soon begin to taper its asset purchase program have led to large capital outflows and currency depreciation in a number of emerging market economies. Economies with large current account deficits and a large presence of foreign investors in their equity and bond markets, like India and Indonesia, have been particularly affected. While the impact has been manageable to date, and there has been some relief with the delay in tapering, risks remain.

Amid these developments, there has been a reassessment of the medium‑term growth prospects of emerging market economies. India in particular faces structural impediments to growth and much needed private investment. In conjunction with the subdued global environment and weak growth outcomes, this has led to large downward revisions to Indian growth across the forecast period. Solid monsoon rains and improving net exports may underpin a modest recovery in India but, given global volatility, significant downside risks remain. While ASEAN economies also face tight financial conditions and structural impediments to growth, a gradual pickup in exports to advanced economies and relatively resilient domestic demand and policy settings are expected to support continued growth at reasonably robust levels.

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