Money Finance News Why the economic picture looks troubling after years of good times

Why the economic picture looks troubling after years of good times

Economy down.
The good economic times may stop rolling this year. Photo: Getty
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Australians have got used to good times with the economy avoiding recession for 27 years. But as we head into 2019 experts warn against complacency, saying the trajectory is downward.

Independent economist Stephen Koukoulas warns authorities are wearing rose-coloured glasses and need to get real.

“The Reserve Bank has got to change its view. Its inflation and wage targets aren’t being met, Europe is starting to underperform and China is slowing,” Mr Koukoulas said.

“In Australia job ads have been declining for seven months in a row.”

US investment banks Goldman Sachs and Bank of America this week told clients to go defensive and worried that cash reserves are too low.

Strategically, we recommend investors increase portfolio defensiveness,” a Goldman Sachs client note warned on Monday.

“Cash allocations are at or near the bottom of their 30-year historical distribution for many investors.”

So where does that leave us?

Australia’s economy has been driven by two factors in recent years: Ballooning resource investment and a massive housing construction boom. But the tables have turned, leaving a big question mark about the future.

Sarah Hunter, economist with BIS Oxford Economics, sees a slowing of growth presenting problems in the year ahead for investment.

“We face head winds; with shares and property you should be prepared for a bumpy ride,” Ms Hunter said.

Major danger is property

The investment free kick afforded by property is well and truly gone with prices falling. “Investors have dropped out and lending has been tightened,” Ms Hunter said. Official figures released on Wednesday bear that out.

That massive decline in multi-unit dwelling applications identified above, along with this comparison of investor and owner-occupied finance, graphically demonstrates the flight of developers from the market, which will suck investment and jobs from the sector.

Investor flight, along with the confidence effect of falling house prices, presents a big economic risk, according to David Buckland, CEO of Montgomery Investment Management.

“That could cut discretionary spending in the broader economy, encouraging increased savings and deleveraging, in turn causing a further economic slowdown and no increase in wages,” Mr Buckland said.

Business is closing its wallet

A recent uptick in business investment is now falling away as massive gas plants move from construction to production, a phase demanding far less labour and capital.

While there has been some increase in non-gas resource investment, Ms Hunter said it was nowhere near big enough to make up for the downturn in the gas sector.

 How will interest rates react?

With housing and investment on the slide, lower interest rates would usually be a safe bet. But factors at play in finance markets may prevent that.

This week Bank of Queensland pushed its mortgage rate up 11 basis points to 3.99 per cent, a move other banks may follow as their profit margins are being squeezed, said analyst Martin North, of Digital Finance Analytics.

“Most banks are sitting on a 20-basis point margin compression from a year ago. To deal with that they will have to raise lending rates, give investors lower returns or continue to feed off depositors with low term deposit rates,” Mr North said.

Uncertainty factors

Two other big questions hang over the economy: The banking royal commission and the federal election.

Commissioner Kenneth Hayne will hand down his recommendations in February, and Mr Koukoulas said there are that fears if lending rules are tightened it will lead to a further restriction of bank credit.

The second unknown is the federal election. With Labor committed to winding back negative gearing there are concerns that would feed into the housing downturn, pushing prices even lower.

So what is the bottom line?

All this means the recent weakening in the jobs market will continue, and Mr Koukoulas tipped a slight rise in unemployment to 5.25 per cent.

Cash rates should stay flat once the RBA accepts things are not as rosy as it claims now.

Despite that, mortgage rates may climb a little as the banks claw back some profit, and Mr Buckland said Australian shares were still overvalued – despite falls of 8.4 per cent since August.

“Some US tech giants have had price falls of 40 per cent but still have 20 per cent of their market valuation in cash and price/earnings ratios of 12 times,” Mr Buckland said.

That makes them cheaper than the Australian market, which still has price/earnings of 15.5 times.

“The Australian market represents far from compelling value at the moment,” Mr Buckland said.

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