Economic Update - November 2023

Central banks are still waiting to see more data before declaring victory against inflation but it seems like the war has already been won. ”Happy Xmas (The war is over).” Even better, a soft landing still seems the most likely outcome for the Australia and US economies. China with its real estate woes remains a wild card. 

What happened in Australia?

New RBA governor, Michele Bullock, has come in and stamped her authority by raising rates in October and indicating that the RBA will raise rates again or go “higher for longer” if inflation takes its time to come down.

In a speech on 22 November, she argued that the current high inflation was initially caused by the pandemic supply-side crunch but that domestic-demand has now become the main driver. In particular, she singled out services, which is the increasing peach bar in the chart below and has now overtaken goods inflation.  

And why is services’ inflation so high? Wages are a big input into services and with the tight labour market, wages have been rising. Unemployment is historically low and has barely moved in 18 months (see chart below).

However, the recently released GDP figure for the September quarter shows the Australian economy slowing more than expected (see chart below). The RBA will be hoping that if the economy is finally slowing, this will take the wind out of the labour market and services inflation.

What happened around the world?

USA

After the unexpected increase in Treasury yields in September, yields have fallen in October and November (see chart below). This is because inflation has resumed its downward movement (3.2% in October) and the labour market continues to soften as shown by declining non-farm job openings (see second chart below), including a lower than expected increase in October (150k vs 180k).

However, GDP came in stronger than expected for the September quarter and has recently been revised up to 5.2% annualised. It was driven by increases in consumer spending, private investment, and government spending. This will need to be watched.

China

Evergrande has got some extra time on its liquidation order but it is not the only one feeling the pressure. On 5 December, Moody’s changed China’s sovereign credit rating outlook from stable to negative citing the property crisis.

“Recent developments are consistent with Moody's assessment that contingent liability risks are increasing, with negative implications for the sovereign's fiscal strength.” Moody’s.

 The crisis is placing financial stress on Regional and Local Governments (RLGs) who previously benefited from bountiful tax revenue on land sales. Many are issuing more debt to get themselves out of trouble (see chart below). But in the medium to longer term, the central government will have to help many RLGs out.

Further, the Chinese economy will struggle in the short and medium terms  to move its growth engine away from the property sector to domestic consumption. When it finally does this, this will be a huge benefit for China and the global economy but until then, expect some pain.

“.. the downsizing of the property sector is a major structural shift in China's growth drivers which is ongoing and could represent a more significant drag to China's overall economic growth rate than currently assessed.” Moody’s.

EU

The ECB kept interest rates stable in October as inflation continues to fall and Euro area growth weakens.

Inflation fell to 2.9% in October from 4.3% in September. The flash estimate for November has inflation at 2.4%. However, much of the decrease is due to a -11.5% fall in volatile energy costs.

GDP decreased - 0.1% in the September quarter while industrial output decreased -1.1% in the month of September.

Japan

GDP fell by -0.5% in the September quarter on a quarterly basis or -2.1% on an annual basis. This was much larger than the expected -0.1% decrease. Private consumption was flat but domestic capital expenditure fell -0.6% compared to the June quarter. Meanwhile inflation increased from 3 to 3.3% on an annual basis in October.

The BOJ has been indicating that it wants to tighten monetary policy but if the economy stalls, this will make that difficult. However, monetary policy board members are hopeful that growth will increase next year while inflation should remain under control (see chart below).

UK

Inflation decreased from 6.7% in August to 4.6% in October (see chart below). And with GDP flat in the September quarter, the BOE kept interest rates level in November.

“Against a backdrop of subdued economic activity, employment growth is likely to have softened over the second half of 2023, and to a greater extent than projected in the August Report.” BOE, Monetary Policy Summary, November 202.

What this means for Australian Private Debt

The resiliency of the Australian economy and the sound management of the RBA has inflation under control and the economy heading for a soft landing. The Australian private debt market thus remains attractive with its higher rates and good underlying market conditions.