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Recession watch and the Reserve Bank of Australia awakens

July 6th, 2011 · Greg Atkinson · 24 Comments

As each week passes the moans of struggling businesses grow louder and finally it appears that the Reserve Bank of Australia (RBA) board members have woken up to the fact that the economy has been sliding backwards since late 2010. Once again the RBA had made a tactical blunder and raised rates too high just as they did as the global financial crisis was unfolding back in late 2007.

However the chances of Glenn Stevens admitting the RBA has made an error are about the same as Ken Henry admitting it’s a bit suspect that he left his role in Treasury and then took up a highly paid role as Gillard’s economic advisor.

It’s pretty clear that the RBA is now worried about the state of the Australian economy and hopefully they are now on recession-watch as I have been since last year.

As I have stated annoyingly many times the Chinese economy will eventually slow (and is slowing now) and will experience a recession at some point just as all major economies do. When that happens the chances are that the Australian economy will be hit hard and our policy makers have done nothing to mitigate the damage this will cause. In fact over the last few years I would suggest that they have made the economy more susceptible to a slowdown in China.

Back in January 2010 I wrote:

“…in my mind it is only a matter of time before China swings from “miracle growth” to a period where their economy slows down. The best the Chinese authorities can do is to try and manage the slowdown so that when arrives it isn’t severe, but one is coming that is for sure.

Many will scoff at what I am saying and roll out all sorts of impressive figures to support the consensus view that the Chinese economy is heading onwards and upwards for at least the next 10 years. But we have heard all this before back in the 1990?s when the “Tiger Economies” were all the rage.”

Source:  When the Chinese economy slows, Australia’s may tumble

Fast forward to today and articles warning about an slowdown in China appear almost daily.

But it’s not just the Chinese economy that is showing signs of slowing and on in the Wall Street Journal recently Martin Vaughan wrote:

“…fast growth has stoked price pressures and inflation has been the key worry for central banks throughout Asia during the past year. Central banks across the region have been tightening policy with Taiwan the latest to do so with a rate increase Thursday”

Source:  Economies Send Slowdown Signals, WSJ (Asia), 4th July 2011.

In addition, Purchasing Manufacturing Indexes (PMI’s) in China, India and South Korea are currently trending downwards – this may be just a short term development but it’s hard to see what would reverse this trend at the moment.

Extra demand from the U.S or Europe seems unlikely and demand from Japan is also likely to be subdued for quite some time. Perhaps consumers in these nations will suddenly go on a spending spree but I would put that in the unlikely category at this stage.

All this will (and already has) put downwards pressure on commodities prices and the Baltic Dry Index (BDI) is currently still below 1500.  Some wise folks reckon it’s no use watching the BDI any more, but if you have been reading my articles you would know I have mentioned that the BDI’s weakness has been sending us a warning signal for quite some time.

At this point in time the Government, Treasury and RBA can effectively either stick their heads in the sand and pretend that Australia has a “wonder” economy or they can wake up.

The chances of Julia Gillard and Wayne Swan waking up to the economic reality the nation faces is pretty slim, but at least now the RBA seems to be stirring from it’s slumber. As for the Treasury, I hope they are now warning the Government about what will happen if the economies across Asia continue to slow and are working on a Plan B. (i.e. something different from all is well, China will save us)

But the RBA and Glenn Stevens continue to worry me especially when he makes statements like this:

“A key question is whether this more moderate pace of growth will continue. Commodity prices have generally softened of late, though they remain at very high levels. Despite the challenging international environment, the central scenario for the world economy envisaged by most forecasters remains one of growth at, or above, average over the next couple of years. A number of countries have tightened monetary policy but, overall, global financial conditions remain accommodative and underlying rates of inflation have tended to move higher.”

Source: Statement by Glenn Stevens, Governor: Monetary Policy Decision – 5th July 2011

Has Glenn looked at the PMI data from China, India or South Korea recently? Which major economies does he expect to drive global growth? Has someone spiked the water cooler at the RBA HQ with magic mushroom juice?

However it’s easy to snipe from the sidelines so you may be wondering what would I do if I had a magic wand and could make a few changes.

Firstly I would not be talking up interest rates and would have my finger on the rate cut button – ready to push it in a couple of months if we see further signs that the Chinese economy is slowing.

Secondly I would drop the carbon tax and mining tax. I would also ease up on government spending and try focus on taxes cuts for businesses. We especially need to help the small business sector.

Lastly we need focus on clearing the infrastructure bottlenecks we already have and improve our rail, road and public transport links rather than funding ventures like the National Broadband Network (NBN). You don’t help an economy be more competitive and productive by creating government owned monopolies!

By the way I am currently in the U.K. and the daily business news is not particularly cheerful. Maybe there are some major economies out there that are on the rise, but they seem harder to find as each week passes.

Greg Atkinson is the editor of Shareswatch Australia, the Managing Director of Ohori Capital and a Director of Eco Marine Power. He is originally from Australia but currently resides in Japan. He can be followed on twitter via @GregAtkinson_jp


24 responses so far ↓

  • 1 Biker // Jul 6, 2011 at 2:10 pm

    Greg: “…the RBA had made a tactical blunder and raised rates too high just as they did as the global financial crisis was unfolding back in late 2007…”

    Here we agree completely. A major bank is now offering a one-year fixed rate at .25% below its prime variable rate!
    It’s punting that rates will fall _at least_ .3% by the middle of 2012.

    China? Yes, you have been predicting a bust for a long time, Greg. Those of us who disagree aren’t as ‘annoyed’ as you might imagine. Instead, we compare China to its chief rival, the US:

    US: Broke
    China: Flush
    US: Falling
    China: Rising
    US: Failing
    China: Planning

    Not saying that China won’t experience some major ructions.
    But if China fails, it’s difficult to imagine what kind of state the US will be in… . πŸ˜‰

    Oz too, would be affected. Property? Costs will fall out-of-the-sky… and folk will have something very tangible, with a roof and walls. Shares? I’ll be buying as close-to-the-bottom as I can… and (as always) getting out again far too soon.

    Has our eldest quit ASX indexed too soon? In the scenario you envisage, I can’t image international shares surviving, either.

  • 2 Greg Atkinson // Jul 6, 2011 at 2:48 pm

    Biker I don’t see the world economy in terms of the US vs China especially since they both need each other. I also don’t try to compare a free market economy (U.S.) with a fairly non-transparent command economy. (China)

    As for China being “flush”, well maybe it is or maybe there is a lot of hidden debt we are not seeing?

    This is worth reading: Moody’s Warns on China Debt

    “Moody’s said China may have understated banks’ loans to local governments, escalating its warnings that such loans could pose a threat to the banking system.”

    Again, I am not predicting China to go bust as such, I am saying however that it is likely China will have a recession at some point just like all other major economies. Therefore it makes sense for Australia to factor that into our economic planning and not pretend it will never happen.

  • 3 Biker // Jul 6, 2011 at 3:13 pm

    Thanks for your comments, Greg.

    I think it’s still apparent that we’re coupled to the US economy.
    ‘Chained’ might be a better description. Every major movement of the DOW has an immense effect on our ASX.

    It’s difficult for me to realise that I share DR’s negative sentiments towards the US economy as a better predictor of future depression.

    As much as I enjoy visiting the US… and spending my hard-earned there… I believe a focus on _their_ perhaps irreparable economy is more warranted.

    As to China’s alleged ‘non-transparency’ it’s blindingly obvious that lobby groups control the US economy, particularly in respect to financial matters. Transparent, yes.
    Healthy? God help us all!~ πŸ˜€

  • 4 Greg Atkinson // Jul 7, 2011 at 12:54 am

    Well it looks like the RBA is becoming more bearish according to this comment in this article today: RBA downgrade could reach 1.5pc

    “THE Reserve Bank could downgrade its forecasts for the Australian economy by up to 1.5 per cent after Wayne Swan warned yesterday the high dollar was increasing the two-speed economy divide between the booming minerals sector and others already struggling with the strong currency.”

    I wonder when Wayne Swan will revise his budget forecasts regarding paying down debt?

  • 5 Leigh // Jul 8, 2011 at 12:10 pm

    Greg,
    So, if we are borrowing at this time do we fix for the long term (5 yrs plus) and hope we ride the coming wave? Do we fix for the short term(1yr) and hope things are still downward in July next year or do we go variable? It seems that fixed and variable rates are closer together than ever so if you are right about recessionary pressures looming perhaps the variable option is the way to go. Despite all the talk about rates having to go up sometime this year it is looking more like the reverse as each month passes.

    regards
    Leigh

  • 6 Greg Atkinson // Jul 11, 2011 at 4:26 pm

    Leigh when it comes to borrowing that’s a very difficult question to answer as each person’s situation is different. Personally I think interest rates are more likely to move down next after the RBA sits on their hands for a while but it all depends on China.

    The fairly high AUD (it has been higher against the Yen for example) is causing some sectors of the economy grief but for many businesses I suspect the RBA rate hikes have caused them the most damage. So if business conditions continue to remain weak I would hope the RBA would slide rates down this year a touch.

    But please don’t make any decisions on my ramblings, read around a bit and sit down and have a chat with your bank or financial advisor before you make any decision.

  • 7 Stillgotshoeson // Jul 12, 2011 at 4:12 pm

    The events in the Northern Hemisphere could well mean that what ever the RBA decides to do the banks may have to hold rates at current levels or even raise them anyway..

    In the current climate debt is not your friend

  • 8 Greg Atkinson // Jul 20, 2011 at 11:56 pm

    Looks like the Treasury team have also woken from their slumber according to an article in The Australian today.

    “TREASURY has warned the Gillard government about emerging threats to the Chinese economy, which shielded Australia from the global recession and continues to underpin its resilience in the face of global economic weakness.”

    Source: Treasury’s warning on China as IMF fears Eurozone debt crisis will infect global economy

    This blog was warning about these threats a year or so ago…and to think some folks think I am slow πŸ˜‰

  • 9 Biker // Jul 21, 2011 at 5:33 am

    The recent spate of lower fixed rate offerings must mean Aussie banks envisage _falling_ interest rates.

    Here in Canada, where real estate prices are firm and the economy strong, interest rates are half Aussie rates: <3.5%.
    There are generous tax benefits for saving.

    Interestingly, despite high home prices, rents seem_cheap_ in comparison to WA's. Vancouver Sun report, 16 July 2011, A11:

    "RENTAL HOUSING CRISIS LOOMS…. 65,000 new units needed annually, yet only 600 built…"

    But further along in the report: "Average two-bedroom rent across Canada $216.00 per week… ."

    One interesting recommendation: "…rental accommodation should be exempt from Capital Gains Tax…"(!)

  • 10 Firebug // Aug 3, 2011 at 3:47 pm

    Hi Greg,

    It finally appears that the mainstream media is catching up on the idea that the economy isn’t doing all that well, see the articles and comments on SMH.

    However, it still doesn’t seem like the RBA is getting it. You were being kind to Glenn Stevens to describe him as “waking up”. Not to mention that very smart chief economist from ANZ Bank.

    What surprised me is how resilient Aus economy has been, hence all the rate rise talks.

    What is your current view on H2 this year please? Will things get back enough for the RBA to wake up?

  • 11 Greg Atkinson // Aug 3, 2011 at 5:22 pm

    Well Firebug I reckon we can forget about too much good news out of Europe and the U.S. for he rest of this year so for things to improve we would need some pretty impressive news out of China, Japan or perhaps India.

    For China and India I see more downside than upside for H2 and Japan is unlikely to race ahead..it’s more of a case of recovery, hopefully.

    So I think H2 is going to be tough and Australia might slip into a recession later this year or in 2012.

    The RBA still sounds a bit hawkish to me, but the fact they have sat on rates for a while now means they at least seem a little cautious about the outlook for the global economy.

    If they had a good look at the Baltic Dry Index then they should be more concerned. It’s currently at around 1,253 and looks like it’s heading down again.

    The Australian economy has indeed held up pretty well and I have been surprised that house prices have not fallen back more as yet. Unemployment levels are still fairly low as well but I reckon we could see things deteriorate fairly quickly if commodities prices hit the skids.

  • 12 Stillgotshoeson // Aug 16, 2011 at 11:45 am

    3 article samples from the Australian….

    GAIL Kelly has warned of job cuts as Westpac combats a slowing economy and lower credit growth to maintain earnings.

    QANTAS’S announcement of about 1000 redundancies, as part of plans for a new premium airline in Asia and carrier in Japan, has inflamed tensions with unions.

    ONESTEEL will slash more than 400 jobs and is studying closing down its Whyalla blast furnace as part of a review.

    My work has put 16 redundancies up

  • 13 Plornt // Aug 16, 2011 at 12:02 pm

    That BDI chart just looks ugly Greg. Looks like a double bottom is going to occur from BDI GFC lows. Not a good sign for the stock market if the correlation holds (double bottom on stocks to 3,000? XAO)

  • 14 Greg Atkinson // Aug 16, 2011 at 12:10 pm

    Stillgotshoeson I think we are starting to see the economy the way the stock market has been telling it is for a year or more. If commodities prices fall further and stay below their recent peaks then we might start hear that some future mining projects will be put on hold..that will really set the cat amongst the pigeons as they say.

    Plort – the BDI has been ugly for a while but the finance media crowd in Australia don’t seem to be aware it even exists. For a nation that relies heavily on commodities exports that lack of focus amazes me. I will be watching how the BDI moves over the next month or so because we might actually see it rally.

  • 15 Ian // Jan 10, 2012 at 7:55 pm

    The Australian economy has been going so bad that with only 21 million people it’s expected GDP figure for 2012 is going to be 1.57 TRILLION dollars – expanding at the fastest growth rate in the OECD at around 3.5% Canada, much touted as having strength, vigour and strong growth, with about 35 million people will have a GDP of about 1.78 TRILLION and a growth of about 2.4% Nominal GDP per capita in Australia will be a modest $69,000-00 While Canada will enjoy while Canada will rocket along to $51,000-00 Comments like “for a country that relies heavily on commodities exports, ” well, yes, combined with agriculture ( not by themselves) they do account for 57% of total exports BUT they only contribute 10% to GDP. Services industries, particularly those of the eastern states, contribute about 68% to GDP. So Greg and others, I am not sure where you want to be – but with all your doom and Gloom – what IS the truth?

  • 16 Greg Atkinson // Jan 11, 2012 at 8:15 am

    Ian the truth is that Australia has been riding high on a commodities boom and of course has done well. But what will happen when the commodities cycle turns downwards?

    The services sector is not an isolated area that can just somehow run along fine if exports contract. Engineering and transport services are pushed along by mining activity for example so a contraction in the mining sector will also impact the services sector.

    Immigration also fuels the services sector but as Ireland found out when growth starts to slow and jobs are lost the services sector can contract pretty sharply.

    You might be right and all is well. In any case, if the Chinese economy keeps cooling we will soon find out how well our services sector holds on..not well is my view.

  • 17 Ned S // Jan 11, 2012 at 7:47 pm

    Our debt worries me.
    While I surely don’t think Keen is 100% right, I don’t think he’s 100% wrong either.
    (And no, I’m NOT interested in seeing this thread become a discussion of our housing prices!!! But think our debt is a very important issue regardless.)
    And yep, the BDI is certainly struggling.

  • 18 Lachlan // Jan 11, 2012 at 8:18 pm

    You would be worried about our private debt Ned or the public?

    Deflation theories i can’t follow as they imo understate the amount of control which is possible from the money masters and the way in which these people operate ie debt is a key tool…lots more to come i promise.

  • 19 Ned S // Jan 11, 2012 at 8:48 pm

    In Oz the major concern is the private debt at this time Lachlan.

    I tend to agree with your thoughts about deflation – Namely it’s the least likely option?

    But Japan went deflationary??? So maybe it’s just a very difficult thing to avoid … Dunno? Greg?

  • 20 Lachlan // Jan 11, 2012 at 9:15 pm

    Many countries blew a housing bubble at the same time. The response also has been coordinated ie don’t allow default, print more.
    I am interested in looking at who can best survive this inflationary onslaught.
    Who has the commodities/tangibles to counter the inflation?
    Who has the resources to look after its own population?
    How large is said population?
    Who has a population less likely to be a concern with social uprising?
    Who has room/buyers to issue more gov.debt? (not that I morally agree but still)
    Who has close neighbours who can still expand their economies or at least whose neighbours who do not have private debt saturation. The peak oil issue is another story.

    The USA would need over a million dollars per person just to cover their unfunded liabilities alone.

    Australia has a position which is maybe impossible to beat imo.

    Of course we will still suffer from this. Its a big deal globally speaking.
    imo πŸ˜‰

  • 21 Ned S // Jan 11, 2012 at 10:18 pm

    Think you just made me feel a bit better asking those questions Lachlan – Relatively anyway – Ta! πŸ™‚

  • 22 Greg Atkinson // Jan 12, 2012 at 8:43 am

    The big issue for Australia is that we need to effectively bring money in (debt) to keep the economy ticking over. We are in a good position for now, but perhaps the question should be – why aren’t we in a better position?

    Australia has been riding a commodities boom for almost a decade and yet we still seem to have trouble funding our hospitals, aged care and balancing the budget for example. If this is a boom, (or the end of a boom) then what will a bust look like?

    If commodities prices keep falling then it looks to me that we are going to get ourselves into trouble. Yes as a nation we have plenty of room to borrow money…but what will they cost us and how easily will we be able to manage this debt if our exports earnings slump?

  • 23 Lachlan // Jan 12, 2012 at 9:58 am

    “Yes as a nation we have plenty of room to borrow money…but what will they cost us and how easily will we be able to manage this debt if our exports earnings slump?”
    I don’t like it either Greg but TPTB are going to give it to us anyhow I see. So then I can only compare our ability to cope with it against the abilities of others. If an electable alternative arrives I would vote for it of course.
    “If commodities prices keep falling”
    I think we will have a volatile commodity outlook but a with a reasonable floor under prices nonetheless.

  • 24 Greg Atkinson // Jan 12, 2012 at 10:19 am

    Yes I think a reasonable floor will stay under commodities prices as well. Mind you it would be interesting to know at what price level many new mining projects need to remain viable.

    It’s a pretty confusing story out there at the moment. For example one week I seem to read about an LNG glut and then sure enough, the following week an article appears that suggests we can get enough of the stuff!

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