Growth constrained for years ahead

Growth constrained for years ahead

 

Australia does not have the same issues as other developed nations as a result of the global financial crisis – Australia is experiencing a credit squeeze not a financial crisis – but the shortage of both debt and equity funding will be disastrous for business investment. BIS Shrapnel’s chief economist Dr Frank Gelber, says we need to look beyond the current situation to understand how the Australian economy will fare over the next five years. 
 
THE financial crisis in many developed countries means they will experience sharp recession followed by prolonged weakness. Australia, on the other hand, will experience a relatively moderate downturn, which will be followed by lingering weakness as falls in business investment constrain growth.
Currently, investment remains firm as we finish the last round of projects across the board, but the next round of projects has been slashed and business investment will fall sharply over the next two years.
Initiated by last year’s rise in interest rates, but now driven by the collapse in confidence, both consumers and businesses have gone into precautionary saving mode. Households aren’t spending for fear of unemployment and businesses are cutting costs.
Fear of unemployment is self-fulfilling. We will probably see the unemployment rate approaching seven per cent some time next year. Sure, the global financial crisis has driven a collapse in equity markets and the credit squeeze, but in terms of the real economy, we’re shooting ourselves in the foot.
But the downturn in Australia won’t be nearly as bad as other overseas developed economies. The financial crisis is overseas, where a collapse in asset values has required banks to write off substantial bad debts causing a loss of bank equity. Many developed western economies such as the US, the UK, Germany and Japan are experiencing sharp recessions with the prospect of protracted weakness as they refinance their banking systems and work their way through the millstone of bad debt.
Australia would normally see a quick rebound as lower interest rates pump income into the mortgage belt, confidence recovers, undersupplied housing markets rebound and households start to spend again, particularly with the government cash injections. But this time, weak exports, the fall in commodity prices and the shock to demand have hit the financial viability of projects.
Meanwhile, the continuing credit squeeze and constraints on equity funding mean there is little finance available for new projects. And that has slaughtered business investment. Property development has already been hit. Minerals investment will also fall sharply – BIS Shrapnel’s current forecast is for a fall of 50 per cent, with the possibility it could be worse.
Investment, and particularly construction, is the primary growth driver for the economy. Fortunately, there are factors offsetting the weakness of business investment. The ‘Ruddbank’ can help to put the finger in the dyke to contain the leakage of overseas bank funding. But that is just a stopgap – the real need is for equity finance.
Government infrastructure spending has a much greater role to play in filling the gap left by the fall in business investment. The question is how long will it take to get these projects off the ground and how determined the government will be in the face of an escalating deficit?
Meanwhile, we’ve seen the bottom of the residential cycle. The next stage is an upswing, probably next year, building momentum into what will become a boom.
The short-term weakening of the economy has been self-inflicted. Australia’s short-term prospects will depend on how strong the downturn caused by precautionary saving and the credit squeeze will be. But the end of the credit squeeze won’t solve all our problems. Instead, we need to look beyond the current weakness to understand the factors that will shape the economy over the next five years.
The result is that Australia will experience a moderate downturn followed by protracted weakness as reduced investment constrains growth. Whether or not there is a technical ‘recession’ is not the point to get hung up on, but this is a substantial downturn.
Businesses need to survive the current shock but they also need to look beyond it and understand where they fit into the changing structure of the economy, particularly the shift away from imports and back to domestic production which will be underwritten by the lower Australian dollar.
The strength of the economy over the next five years will depend on the extent to which strong housing and government spending on infrastructure will offset falling business investment. 

Help us deliver quality journalism to you.
As a free and independent news site providing daily updates
during a period of unprecedented challenges for businesses everywhere
we call on your support

Operating the board collaboratively, efficiently and securely
Partner Content
'Digitisation' and 'digitalisation' are two words that are frequently t...
OnBoard
Advertisement

Related Stories

Myer's online sales surge 54 per cent but Omicron hampers post-Christmas performance

Myer's online sales surge 54 per cent but Omicron hampers post-Christmas performance

Although Myer (ASX: MYR) has reported a strong period of trade in t...

Demand for local travel sees Camplify flourish despite lockdowns

Demand for local travel sees Camplify flourish despite lockdowns

Despite widespread lockdowns restricting movement across Australia,...

Consumer confidence bounces back after hitting 15-month low

Consumer confidence bounces back after hitting 15-month low

Australian consumer confidence rose 2.2 per cent last week after dr...

December retail sales bolstered by eased COVID-19 restrictions

December retail sales bolstered by eased COVID-19 restrictions

Australian consumers were unafraid to splurge during the holiday se...