If Australia is now richer, why don't Aussies feel the same?

Last week Australia’s national economic accounts were released. Now before you yawn, these numbers were actually quite fascinating... and might even go some way to explain how you feel right now.

On the one hand they show the economy is motoring along nicely, on the other hand, it’s clear we are also flirting with ‘recessionary conditions’.

In fact figures from Deutsche Bank show our living standards have been declining for four years now. So how can those conditions co-exist? Easily, as it turns out.

Real versus nominal GDP

Here’s a short tale about two measures of GDP. It’s a revealing story.

Nominal GDP (which is pushed around by inflation) is well below trend, growing by just 0.4 per cent over the quarter, and annualising at 2.4 per cent.

That's because Australia's terms of trade (the prices we command for our exports) has fallen sharply. Nominal GDP takes account of this. Real GDP does not. It's due to statistical smoothing, and it’s designed to make the numbers more consistent and comparable over time.

However it's not just Australia's exports that are losing value. Our purchasing power is also under threat. The national accounts show what's called "real net national disposable income per capita" - what we can “buy at the shops”. It fell 0.4 per cent in the December quarter, the seventh-straight quarterly decline.

When you gross it up as a nation, we're actually going backwards. Real gross national income fell 0.2 per cent on the year -- not technically a recession, but for some it might feel like that.

The last recession and now

An important question to ask is ‘are the conditions now similar to what they were before the last recession?’ The answer is no, but that’s not the full story. Come back in time with me.

By late 1987, asset markets had collapsed all over the world. The catalyst, if you like, was interest rate hikes in Japan and West Germany.

That led to higher US interest rates, triggering a huge sell off of US shares or equities. The Australia stock market (operating out of Bond Street in Sydney's CBD at the time) crashed 40 per cent.

The Reserve Bank scrambled then to ease credit conditions. This is an extract from a Reserve Bank interest rate policy meeting some three years later:

"The Reserve Bank will be operating in the domestic money market this morning to reduce the cash rate by about 1 percentage point, to around 9.5 per cent."

The statement went on to read:

"Since the last reduction of 1 percentage point on 16 May, there has been further evidence of declining inflation and inflationary expectations. The national accounts and other economic data available since that meeting also indicate that economic activity generally remained relatively subdued."

The RBA was scrambling to cut rates, to light the inflation fire again… but it wasn’t working.

The language coming from the Reserve Bank today is coming from the opposite direction. Inflation remains contained or low (admittedly not as low as it was then), the economy is subdued (at or slightly below trend), but, and that’s a big “but”, interest rates are already at record lows.

It’s a very odd position to be in. It’s also highly unusual for Australia’s central bank to keep policy at ‘extreme’ levels despite an annual growth rate of 3 per cent.

Back to the future

Hopefully you can see what I’m getting at here, but just in case, here it is in short: excess in the 1980s led to a capital markets crisis that ended up crushing the economy.

That happened again in the late 2000s. Australia escaped the worst of it by riding a once-in-a-generation mining boom.

Now that the boom is over, Australia has to deal with something the rest of the world has been struggling with for many years – weak growth.

Policy makers are trying desperately to shift the economy away from mining-led growth to services-led growth.

This isn’t going quite as planned and the official statistics show ordinary Australians are paying the price with record low wages growth and job insecurity. For many if feels “recessionary”.

Last quarter, consumers saved the day, saving less and spending more, to help foot the bill of economic growth.

The national accounts showed the national savings rate dropped sharply last quarter to 7.6 per cent from 9.1 per cent a year earlier – made possible given the savings rate was still quite high.

What happens though when consumers decide they don’t want to save less and spend more – highly possible given wages are now growing at their slowest pace since the recession of the 1990s, and employment growth is far from guaranteed.

Nail-biting

The Reserve Bank is right to be worried about the unemployment rate. In my view, if consumers pull back with their spending (based on fears of losing their job or feeling job insecurity), the Reserve Bank has only a limited amount of fire power to make up for it.

Sure it could cut rates to 1.5 per cent, but any lower than that would risk an unprecedented and potentially unmanageable bubble in the property markets of Sydney and Melbourne.

Fairfax papers recently printed the following: “Household surveys by research firm Digital Finance Analytics have found more than one in 10 owner-occupiers would have difficulty meeting their mortgage repayments if interest rates were to rise by just 1 percentage point from their current historic lows.”

It’s only logical to conclude that the Reserve Bank is simply walking on relatively thin ice at the moment, praying it won’t crack.

The goal

The last thing I want to do is come across as a “doomsayer”. I, like everybody else, want higher living standards for all Australians, and for us, as a nation, to have the financial firepower to lead economic development around the world.

You achieve that through sustainable economic growth. That means fewer booms and busts and economic reforms that achieve equilibrium or balance in the economy.

How can we have sustainable growth if the Reserve Bank is left with little choice but to have its foot firmly on the accelerator indefinitely?

Indeed with the recent surge in the Australian dollar, there will likely be growing pressure on Governor Stevens to ease policy to restrict its appreciation.

That could simply mean “jawboning” the currency down, or it could mean moving to cut interest rates to make the Australian dollar-denominated assets less attractive.          

                              

A touch of realism

So, the economy is growing at 3 per cent. That’s great news, so why not lift the cash rate?

I suspect the short answer is that the Reserve Bank is too worried it would wreak havoc on the economy. That’s because the growth driving the economy is both patchy and unsustainable – especially when you consider that a consumer with too much debt and job insecurity is driving growth in the short term.

If you help out the consumer in the short term with even easier access to credit markets and fewer reasons to save, you simply fuel and already ridiculous housing bubble.

If you take cash away from the consumer and further limit borrowing, you leave the government to foot the bill. In an election year, that’s not such a bad idea, but, again, completely unsustainable given we’re in a structural deficit.

You’re not delusional

If you feel uncomfortable with where the economy is going, or you’re insecure about your job prospects, or you can’t afford the home you want, or haven’t received a pay rise for a few years now, don’t be disheartened by all the talk about Australia doing well… you’re not delusional, you’re the reality, and there are many in the same boat as you.

You’ve found yourself tandem skydiving with policy makers and they’re hoping desperately your reserve shoot’s going to open.

 

 

David Taylor is a journalist with the ABC. Before taking up a position with the ABC, David was a financial markets analyst and economics commentator. You can follow him on Twitter: @DavidTaylorABC.