Forget last night’s budget from Federal Treasurer, Joe Hockey and his assumptions. Focus instead on the latest Chinese economic data release and wonder if our biggest market can carry this economy for the next year.
Because it has been carrying the economy for much of the past five years, and is starting to look tired.
The budget’s assumptions for economic growth (2.5% for the new financial year), unemployment (to peak at 6.25%).
Consumer spending and confidence all depend on China not slowing further, or running well under its capacity for an extended period of time.
The budget will be contributing less to GDP in the coming two to three years, with unemployment forecast to rise and growth to slow in 2014-15.
The National Australia Bank’s chief economist, Alan Oster says; "Our estimates suggest that the Government, in a structural sense, is taking around 0.5% out of growth in each year in the forward estimates (over the next four years).
"While the tax rises and petrol tax increases are not enough to seriously impact growth, they together with significant transfer cuts could well have more important impacts on confidence."
The AMP’s chief economist, Dr Shane Oliver wrote last night; "The fiscal cutbacks are modest near term and only really start to impact from 2016-17. As a result, there is unlikely to be much economic impact in the year ahead. The impact on the share market is likely to be minimal."
The one good part of the budget is the spending in infrastructure. The billions claimed by Mr Hockey include programs approved and funded by the last Labor Government.
But the extra spending could very well help cushion the economy against a slowdown in China and any slowing in the home building boom currently underway.
The slowing in activity in China has been apparent from the data since late last year.
Yet iron ore imports from Australia in particularly have held up and hit record highs in April.
More and more forecasts for Chinese economic growth are being lowered, with estimates now for growth of 7.3% this year, down from 7.7% in 2013, and a further fall to 7% in calendar 2015.
And that slowing trend seems to be the picture emerging from China.
April’s production, retail sales, property dealings and retail sales were all weaker than forecast.
Real estate investment is the biggest growth driver for the Chinese economy, and a crucial factor in global commodity demand and pricing for products such as iron ore and copper.
Underlining the extent of the slowdown, figures out on Tuesday show that newly started construction projects fell 22.1% in the first four months compared with a year earlier.
If that rate of decline is maintained into the second half of the year, it will be very bad news for iron ore and the Australian economy.
Chinese electricity production grew at its slowest pace in nearly a year in April, up 4.4% from April 2013, compared with the 6.2% growth rate seen in March.
Taken with the trade data, car sales, inflation (especially producer prices) for April, it’s clear China’s economy has slowed from the 7.4% annual rate in the first quarter.
China GDP growth slows to 7.4%
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According to the Financial Times, "Analysts and even normally tight-lipped Communist party officials are now asking whether the country’s real estate bubble is deflating or bursting after nationwide sales in the first four months fell 7.8 per cent in renminbi terms from the same period a year earlier."
China’s industrial production rose at an annual rate of 8.7% in April, the slowest annual growth rate for five years (since April 2009 as the economy was staggering its way out of the GFC).
Retail sales rose an annual 11.9% in April, the slowest rate of growth since December 2008, when the economy was hit by the GFC after Lehman Brothers collapsed. Urban investment rose a sluggish 17.7% (annual) in April. That was the slowest rate of growth in investment for 12 years.
And yet Chinese crude steel production rose 2.1% to 68.84 million tonnes, or a record-high 2.295 million tonnes of production a day, according to the National Bureau of Statistics said Tuesday.
Output in the first four months rose 2.7% on year to 271.86 million tonnes. It’s not as fast as we saw in 2013, but its better than many western ‘experts’ forecast.
Even though imports of iron ore, copper, soybeans and oil remained at or close to record levels in April, it’s clear from the data that the economy is drifting lower.
The economy is performing as suggested by the manufacturing survey from HSBC/Markit suggests.
Mr Hockey unveiled a 2014-15 budget deficit of $29.8 billion, compared to the $33.9 billion forecast for the same period in last December’s Mid-Year Economic and Fiscal Outlook (MYEFO).
The deficit is forecast to fall to $17.1 billion in 2015-16 (compared to a forecast $24.1 billion in MYEFO) and $10.6 billion in 2016-17 ($17.7 billion in MYEFO).
The deficit for the current financial year is again forecast to worsen and, with just two months left this financial year, is forecast to reach $49.9 billion – despite Mr Hockey claiming it would only reach $47 billion back in December.
$8.8 billion of the higher figure is from the ill-timed payment to the Reserve Bank which should never have been made.
Spending will only fall 1.7% in real terms next year, compared to 3.2% in 2012-13. But there are big falls penciled in from 2017 onwards, after the next election.
Overall, spending will only fall by $10.2 billion in net terms over the next three years compared to the MYEFO forecasts.
Economists point out that the government still faces the same problem as the former Labor government did: tax revenue has been written down, yet again, across the four years of forward estimates.
It’s not quite in the same order of magnitude as during the Labor years, but the government now expects to collect over $7 billion less than forecast in December before policy changes.
The problems of the budget remain on the revenue side, not the spending side, despite the hacking and slashing in the budget. Small and medium-sized companies will get a tax cut, and the cost of superannuation tax concessions will continue to surge, with Treasury predicting they will cost nearly $50 billion in 2017-18, up from just over $30 billion this year.
The main reason for the slow return to surplus is a flat economy; Federal Treasury expects 2.75% growth this year (finally an acknowledgement that December’s forecast was wrong) but back to just 2.5% in 2014-15, with unemployment again edging up to the level originally forecast for this year, 6.25%.
Strangely the Treasury and Mr Hockey seem to be indulging themselves in a bit of financial magic in forecasts for economic growth beyond 2014-15.
Treasury is forecasting 3.5% will be the projected level of economic growth in 2016-17 and 2017-18, rather than the 3% previously used in projections.
That means growth will fall from this financial year’s 2.75 to 2.5% in 2014-15, then surge to 3.5% in each of the next two years.
That sounds a bit like a bit of voodoo supply side economic make believe.
That’s why the budget forecast the deficit will narrow from $49.9 billion this financial year (boosted by Mr Hockey) to $2.8 billion by 2017-18.
In the following year, the budget is projected to be balanced for the first time since 2007-08, but the government signalled this would not be the end of the cuts.
In order to hit his targets, Mr Hockey is relying on spending cuts, which will contribute an estimated $27.7 billion to the bottom line over the four-year period, or 77% of the improvement in the size of the deficit.
These cuts will get bigger over time, contributing $1 billion to the bottom line in 2014-15r and $15.5 billion a year by 2017-18. Tax increases will play a far smaller role, adding $8.3 billion to the bottom line.
But the government plans to make these cuts against a weakening economic backdrop, with growth forecast to remain sub-par for the coming financial year, unemployment to rise to 6.2% from the current 5.8%, with the prospect of more spending cuts to come in future years.
But watch China. It could help finance the government’s budget plans if it maintains growth at first quarter levels, or a little below.
But if China’s slowdown, now apparent continues unabated into the later months of this year, the government will be stuck with a a weak domestic economy, weakening exports and no room to move.
The major factor missing from the budget is tax, and hopefully that’s where the huge and rising concessions on superannuation will be addressed, and the level and extent of the GST sorted out.
