Australia seen dodging recession even as China economy slows

AUSTRALIA'S economy is expected to avoid recession in the coming year even as its top trading partner China slows sharply on Covid restrictions and rapid US policy tightening raises risks of a downturn there.

Soaring export prices and a weaker currency are bringing a cash windfall Down Under at a time when other developed economies are flashing warning signs. A very tight labour market and still-elevated savings are also helping Australian households cope with rapidly increasing borrowing costs.

"We expect a soft landing, not a recession," said Jo Masters, chief economist at Barrenjoey Markets Pty. "Australia is both an energy and food exporter, and the Australian dollar is - and expected to remain - below fair value."

Bloomberg surveys back her view: the chance of recession in the next year in Australia is 25 per cent, versus 60 per cent in the UK, 50 per cent in the US and 35 per cent in New Zealand.

Expectations that Australia will avoid 2 straight quarters of contraction are reflected in a bond market where the yield curve has steepened. That contrasts with US yield curves that have inverted, a sign recession may be coming.

The Reserve Bank of Australia (RBA) is in the midst of its sharpest tightening cycle in a generation, having raised rates by 2.25 percentage points since May. But it's now approaching a neutral rate, potentially allowing it to return to smaller, quarter-percentage-point moves. That compares with a Federal Reserve that may deliver a third straight 3-quarter-point increase later this month.

Indeed, global policymakers have warned that inflation must be defeated even at the cost of economic growth. That also contrasts with RBA rhetoric highlighting the need to keep its economy on "an even keel".

A key reason for the RBA's less hawkish stance is a lower starting point for inflation compared with offshore counterparts. Consumer-price growth is also not expected to reach the alarming highs recorded in the US and elsewhere.

There is also little evidence of a wage-price spiral emerging, with pay rises remaining relatively moderate and unemployment rising for the first time in 10 months in August to 3.5 per cent.

Australia has also been a rare beneficiary of fallout from Russia's invasion of Ukraine as disruptions to commodity and energy supplies have sent coal and other prices soaring. The nation posted a record-high monthly trade surplus this year fuelled by sales of coal, iron ore and liquefied natural gas.

"We have a tailwind from our terms of trade that other countries just don't have," said Alex Joiner, chief economist, IFM Investors. "The export of LNG and coal have been extraordinarily beneficial. Our budget position will be in a much better position than many advanced economies."

Unusually, the surge in export prices isn't being reflected in Australia's commodity-linked currency, which has averaged 69 US cents over the past 3 months. Commonwealth Bank of Australia sees the exchange rate dropping to 62 US cents by early next year, a level not seen since early 2020.

A lower currency swells profits from commodity exports priced in dollars and makes the country more appealing to overseas visitors and students.

Australia's employment-to-population ratio is near a record high as is its participation rate - both much stronger than many other countries - highlighting the underlying momentum in the labour market. Job vacancies also remain elevated, suggesting that strength will persist.

"It's hard to see a sharp deterioration in the Australian economy when the labour market is so strong," said Australia & New Zealand Banking Group's Catherine Birch, who expects unemployment to fall to 3 per cent by early 2023.

Australians still have plenty of savings to tap to support consumption, having built up a large amount of cash from fiscal stimulus delivered during Covid lockdowns when there were few options to spend.

Still, it's not all positive. A key areas of concern is a rapid reversal in the property market, where prices are falling at a scale unseen since the eve of the 1991 recession.

The market hardest hit is bellwether Sydney, where home values have dropped almost 6 per cent in the past 3 months, compared with 3.4 per cent in the A$9.9 trillion (S$9.4 trillion) national market.

Further falls are inevitable as the RBA, which meets in just under 3 weeks, is expected to hike again. Australians are also heavily indebted, meaning higher borrowing costs will eventually begin to squeeze household budgets. BLOOMBERG



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