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Australia's slowing economy jars with RBA's optimistic outlook

The country posted its weakest 6-month period since the global financial crisis, GDP data showed

Sydney

AUSTRALIA'S slowing economy and rising calls for interest-rate cuts are starting to erode central bank chief Philip Lowe's optimistic outlook.

The economy experienced its weakest six-month period since the global financial crisis, Wednesday's gross domestic product (GDP) data showed, as tumbling property prices and a credit squeeze dragged on construction and consumer spending. The Aussie dollar slid to a two-month low as swap traders priced in a reduction in interest rates by October.

The GDP result sets back the starting point for the Reserve Bank's forecast economic growth of 3 per cent, a level needed to keep unemployment grinding lower. Mr Lowe's 2½ years at the helm have been marked by a disinclination to cut rates further and a belief that a sufficiently tight labour market will drive up wage growth and accelerate inflation back to target.

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"Regardless of Lowe's particular stamp on the governorship, we'd argue that the fundamental principles of monetary policy and cyclical management of the economy still apply," said Sally Auld, senior strategist for interest rates at JPMorgan Chase & Co in Sydney. "If the RBA board believes that the outlook for economic growth is no longer consistent with lower unemployment and higher inflation, then the case for rate cuts is uncontroversial." Ms Auld swiftly changed her rate call to an easing in July and August following Wednesday's GDP report, joining Westpac Banking Corp's Bill Evans and Nomura Holdings Inc's Andrew Ticehurst who also recently switched to calls for two cuts.

That jars with Mr Lowe's more optimistic view, expressed again in a speech in Sydney a couple of hours before the GDP data release, that the current record-low cash rate is "clearly stimulatory" and "is supporting the creation of jobs and progress towards achieving the inflation target". Australian three-year bond yields dropped by the most in a month, down seven basis points to 1.59 per cent. The country's 10-year yields fell to 60 basis points below similar-dated Treasuries.

Australia is in the midst of an economic contradiction: while growth has slowed sharply, firms keep steadily hiring and investing. The growing divide between the GDP and jobs reports - with unemployment down to 5 per cent - was similarly noted by Mr Lowe.

"Businesses are investing and they are employing people," the governor said following his speech. "The puzzle we are grappling with at the moment is where's the associated spending and output. " He has rejected the argument that the discrepancy between employment and economic growth is because employment is a lagging indicator, pointing to record-high job vacancies and RBA liaison with employers that supports a solid outlook for the labour market.

The RBA is homing in on household spending, which accounts for almost 60 per cent of GDP. It's remained subdued for the past two quarters amid signs that consumers are holding back in response to falling property prices and persistently weak wages.

Indeed, Wednesday's report showed GDP per person has shrunk for two consecutive quarters, leading some commentators to say Australia is in a "per capita" recession.

The economy would have been in a worse position if not for public spending. Both national and state governments have opened their cheque books as lower unemployment boosted the tax take. The building of roads, bridges and railways has supported growth.

Looming in the background is a budget next month, as well as an election in May. The government is expected to shower tax cuts on the electorate to try to win over voters. Meanwhile, recent history suggests that firms tend to hold off on hiring near elections. BLOOMBERG