Economic Update - January 2024

Stock markets in the US and Australia have been flirting with all time highs as the end of year rally continued into January  but in China, the situation is not so grand. House prices and consumer spending are down again while stock market lows have forced the government into action. Meanwhile, in Europe, it is the charge of the tractor brigade.

What happened in Australia?

The new school year is about to begin and the report on the card for the economy is steady as she goes, which is good news as the RBA meets for the first-time this year on February 5 and 6.

Inflation continues to trend down. Q4 2023 inflation decreased from 5.4% in September to 4.1% in December on a yearly basis (see chart below). Even services inflation fell from 5.8% to 4.6% in Q4. 

The RBA will also note that retail spending fell 2.7% in December on a seasonally adjusted basis. However, an upward revision for November shows that canny consumers were taking advantage of the Black Friday sales with an eye to Christmas presents.

The labour market continues to soften with the number of workers falling by 65,000 in December - the largest drop since the pandemic (see chart below). Unemployment remained at 3.9% for December.

Even the housing market is expected to slow this year with Oxford Economic forecasting 2.7% growth for 2024, which is well down on the 8.1% for 2023.

All this data points towards a slowing economy and this was underlined by the latest Westpac-Melbourne Institute consumer sentiment survey which shows consumers believe a recession is coming. As a result, the RBA’s focus must be tipping towards recession watch rather than inflation fears, which further increases the odds that the next interest rate movement will be downwards.

“More pessimistic starts to the year have only been seen during the deep recession of the early 1990s.” Westpac-Melbourne Institute consumer sentiment survey.

However, Prime Minister Albanese’s tax cuts will add some juice to the local economy if passed. Compared to the planned cuts inherited from the previous government, the amended cuts will take some planned cuts from the rich and will instead give it to lower and middle income earners.  This will better help the average Australian as they pay rising rents and mortgages. But the potential boost to spending will complicate the picture for the RBA. Nevertheless, cuts are likely this year so long as there are no major shocks to inflation. In fact, with the good inflation result for Q4, markets are now pricing in two 25 bps cuts for the year with the first cut in August. This helps explain optimism in markets, with the ASX passing its all-time high in late January.

What happened around the world?

USA

The US economy finished the year strongly with a 3.3% increase in Q4 2023 GDP on an annualised basis (see chart below). This was well above the 2% average forecast. The strong result pushed GDP up to 2.5% for the full year. Government and consumer spending were the main drivers at 3.3% and 2.8% respectively.

Any inflationary fears from the strong GDP result were brushed aside given the decreases in December inflation and core PCE released earlier in the month (see chart below). It seems that the US remains on course for a soft landing. The markets certainly think so with the S&P 500 hitting record highs in January and consumer sentiment increasing 29% over the last two months.

The Fed however is proceeding cautiously. They kept the Fed Funds rate unchanged in January and keep dampening expectations for early rate cuts.

“While I think it’s appropriate for us to look forward and ask when would policy adjustments be necessary so we don’t put a stranglehold on the economy, it’s really premature to think that that’s around the corner,” Mary Daly, Federal Reserve Bank of San Francisco President.

China

China is the opposite of the “flavour of the month” at the moment. It is more like an ice cream cone that has fallen to the ground and keeps getting stood on.

“The building blocks of global investor belief in the world’s second-largest economy are being pulled away, one by one.” John Authers, Bloomberg.

2023 GDP came in just over the government’s target at 5.2% but the big 2023 consumer bounce back never happened. Instead, consumers are hoarding their cash as the property market goes from bad to worse and now they are retreating from the domestic stock market: the Hang Seng and Shanghai Composite are down -9.14% and -5.62% for the month (see chart below). The falling stock indexes compelled the government to announce cuts to banks reserve requirements on January 25, however, it only provided temporary relief.

New home prices fell -0.45% in December - the steepest fall since February 2015 (see chart below). And a Hong Kong court ordered Evergrande into liquidation. It remains unclear as to whether the government will allow the liquidation of Evergrande’s mainland assets, but the end result will be a further loss in confidence in the Chinese property market and economy for foreign investors. 

The Chinese economy will keep growing but its recent halcyon days are now fading.

EU

Berlin and Paris were invaded by tractors in January and Madrid is next with farmers protesting rising input costs and red tape. However, in Frankfurt, the ECB kept rates on hold with inflation ticking slightly up from 2.4% in November to 2.9% in December. The biggest driver was services, which contributed 1.74 percentage points.

Euro area GDP grew 0.1% in Q4 to record 0.5% for 2023. Germany, Czechia, Ireland, and Austria are all in recession.

Japan

The BOJ kept rates steady in January but seems to be edging closer to easing.

“It seems that conditions for policy revision, including the termination of the negative interest rate policy, are being met,” One of nine board members said, according to a summary of opinions.

In anticipation of a change by the BOJ, optimism is sweeping the markets and trading volumes are rising (see chart below). Many forget that Japan is the third-largest bond market in the world.

UK

The BoE will keep rates unchanged when they meet in early February. Inflation increased slightly from 3.9% in November to 4% in December while Average Weekly Earnings continued its recent decrease. Meanwhile, there are more signs that the economy is slowing: retail sales value fell -3.6% in December compared to November and job vacancies decreased by 49k in Q4 (see chart below).  

What this means for Australian Private Debt

The Australian economy is slowing but as inflation continues to fall, the RBA will likely start cutting rates from the middle of the year. Private debt investors can continue to enjoy high interest rates in 2024 and increasing opportunities in the second half of the year as the economy improves.