The OECD recently released its forecast for global GDP for 2023. At 2.7 percent, it is the lowest growth rate since the GFC. Around the world, economies are improving, but the fight with inflation remains heated and will eventually impact growth. China is the exception with its rebound from the end of COVID measures disappointing thus far.
What is happening in Australia?
Inflation may have peaked, but it has a long way to come down before it reaches the RBA’s target range of 2 to 3 percent. Given that, the RBA raised interest rates in May and June by 25 bps each. The RBA has not gone rogue, it is following its mandate to the tee.
For many consumers, this is the hardest economic environment they have ever faced. Compared to May 22, a person with a $500,000 loan has seen their monthly repayments increase by over $1,100 per month. Meanwhile, those looking to buy a home are also being squeezed by rising rents.
As a result, consumer spending continued to slow in April and is down to 6 percent compared to 17.8 percent in January. However, the situation is worse than it looks on the surface with a 10.7 percent increase in consumer credit card spending in April on an annual basis and the household savings ratio falling to its lowest level since June 2008 (see chart below). Consumers are spending less and propping up their spending with debt and savings.
The pressure on consumers is also reflected in the Westpac-Melbourne Institute Consumer Sentiment reading for May, which decreased 7.9 percent on a monthly basis.
Despite the heat on consumers, the labour market remains strong. Unemployment remains at near record lows and wages are still increasing. This is a problem for the RBA who is watchful of any signs of a wage-inflation spiral. The Wage Price Index increased by 3.7 percent for the March quarter on an annual basis. More worryingly, Fair Work surprised on the upside in its annual minimum wage decision; it increased the minimum wage by 8.6 percent. This will keep the RBA in a hawkish stance for months to come.
The economy slowed in the March quarter with real GDP increasing just 0.2 percent on a monthly basis, but growth was a strong 2.3 percent on an annual basis. Many commentators argue that the economy needs to slow significantly before inflation will start to fall. It is thus not surprising to see that the yield curve has jumped up while also maintaining its inversion (see chart below). The market believes the RBA will raise rates further but will then have to cut rates as the economy falls into recession.
What is happening around the world
As expected, the debt-ceiling “crisis” was resolved (again).
Meanwhile, the US economy was little changed. Inflation decreased slightly to 4.9 percent in April on an annual basis while the Fed’s preferred measure, PCE, increased slightly to 4.4 percent. Inflation expectations continue to trend down (see chart below). Like Australia, US inflation has turned the corner, but there is still a long way to go.
The labour market remains tight. Unemployment is still historically low with a 0.3 percentage point increase in May to 3.7 percent. And once again non-farm payroll growth surprised on the upside, increasing by 339,000 in May compared to the Bloomberg forecast of 195,000.
Further banking crises have been averted for now, but financial conditions remain much tighter compared to last year (see chart below).
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All eyes will now turn to the Fed’s decision this week and the releases of the latest monthly inflation figures.
China’s economic recovery was called into question during May. The general services and manufacturing PMIs increased slightly but a cut in deposit interest rates by major banks and a record youth unemployment rate of 20.4 percent in April point to softer than expected consumer spending. According to a recent report by Morgan Stanley, consumer spending will not return to pre-covid levels until 2025.
“At the end of the day, unemployment, especially in the youth parts of the population, is too elevated, and they will have to bring that down in order to achieve their growth targets going forward.” Georgios Leontaris, EMEA chief investment officer, HSBC.
Downward revisions to Q1 GDP figures saw the euro area enter recession in Q1 with consecutive -0.1 percent decreases on a monthly basis. The labour market remains tight with unemployment decreasing slightly to 6.5 percent in April (see chart below). However, after increasing in April, euro area inflation decreased to 6.1 percent in May with the price of energy decreasing -1.7 percent. The ECB meets this week with most economists predicting a 25 bps increase.
The Japanese economy is performing better than expected. Q1 GDP was released in May and then revised up in early June. The economy grew 2.7 percent in Q1 on an annual basis with domestic demand contributing 1 percentage point of the increase. The chart below shows climbing consumer confidence.
However, inflation also increased from 3.2 to percent in March to 3.5 percent in April on an annual basis. For a country previously plagued by deflation, strong inflation is welcome. But the market will expect the BOJ’s new governor to step in soon to start to reverse Japan’s “ultra-expansionary” monetary stance. Then things will get interesting. The BOJ Monetary Policy meeting is this week.
The BOE raised the bank rate by 25 bps on 11 May to 4.25 percent. This was unsurprising given the stubbornly high inflation rate and strong labour market. Since then, Q1 GDP showed that the UK economy avoided negative growth, just, increasing by 0.1 percent on a monthly basis. April’s inflation also decreased from 8.9 percent in March to 7.8 percent. The BOE will likely be increasing the bank rate again soon.
What this means for Australian Private Debt
The Chinese rebound is not as strong as expected but Japan is recovering stronger than expected and the US remains resilient. The Australian economy is also keeping its chin up. But as is the case with most of these economies, inflation is still too high, so central banks will continue to increase interest rates further this year. Thus, the outlook for Australian private debt remains good. Higher returns with little realisation of the downside risks so far.