Is Australia's luck running out?
Is The Lucky Country’s extraordinary run of economic growth about to end?
When David Horne first coined the term “The Lucky Country” for Australia in his book of the same name 25 years ago, he was criticising his country for a lack of entrepreneurship, and for simply profiting from its abundant natural resources.
Since then, the term has been used to describe everything that is good about the country, from the sunny weather to the lifestyle, to the vast oceans that separate it from the geopolitical troubles of the rest of the world.
More recently, the term has described a stellar economic track record that saw the economy stay recession-free over the last 25 years, a period that included various shocks such as the Asian Financial Crisis in 1998.
Even as other economies suffered during the 2008 Global Financial Crisis, Australia’s economy escaped the effects of the global slowdown as it was buoyed by a mining boom caused by China’s insatiable demand for commodities.
Even though in the past few years slowing Chinese growth and falling commodity prices have led to an unwinding of mining investment in Australia, it was swiftly replaced by a housing boom and strong consumer spending.
But is Australia’s luck running out?
House of cards?
It looks like the housing sector, which had assumed the economic mantle from the mining industry the last few years, has finally peaked. Recent strong headline numbers on growing building approvals is masking the fact that all the improvement had come from apartments where there is common recognition of existing oversupply. When that is stripped out, it becomes clear that the core housing market is weakening as detached housing approvals posted its third consecutive monthly decline.
To be fair, concerns over an Australian housing bubble have been around for a few years. Even back in 2014, the Reserve Bank of Australia (RBA) was already warning that the risk remains “that additional speculative demand can amplify the property price cycle and increase the potential for prices to fall later”. That didn’t stop the sector thundering ahead. Yet with housing valuations at their most expensive in a century, betting on further advancement is becoming more dangerous.
In its most recent report in April, the RBA took the opportunity to remind the country that growth of new supply of apartments in key cities, due to be completed over the next few years, “may weigh on prices and rents in these areas”. While the RBA may have chosen to keep its target rate unchanged in September, we suspect that with the central bank’s eye still keenly trained on the domestic housing market, any hopes that the sector will resume its upward trajectory and lift economic growth again are likely to prove wishful.
This unravelling of the housing market will have several knock-on effects, one of which is to expose the vulnerabilities of the hugely overleveraged Australian consumer. According to an AMP-NATSEM report, Australian average household debt is now four times what it was 27 years ago, far outstripping the average household disposable income (see Figure 1).
Figure 1: Average household liabilities have far outstripped average household disposable income
Source: AMP-NATSEM, December 2015
While it is true that other developed economies have similarly observed a rise in household indebtedness, the latest research by the US Federal Reserve showed that between the period of 1960-2010, consolidated household debt-to-GDP ratio has increased the most for Australia compared to a select group of Organisation for Economic Co-operation and Development (OECD) peers.
In fact, based on the OECD’s newest data, Australia’s debt-to-net-disposable-income ratio now stands at 206% and is the fifth-highest in the world (see Figure 2). With household gearing at historically high levels, a correction in the housing sector will likely trigger a process of deleveraging by the average Australian consumer, leading to further softening of consumption and dampening economic growth.
Figure 2: Australia has the fifth-highest debt-to-disposable-income globally
Source: OECD (National Accounts at a Glance - June 2015: 5. Households)
Bulls will argue that the current 1.5% cash rate affords sufficient scope for the RBA to slash interest rates and ride to the rescue of the domestic economy in the event of a housing market fall. However, that looks less likely under new Governor Philip Lowe. His reputation was first made back in 2002, during his time at the Bank of International Settlements, when he co-authored a controversial paper arguing that central banks should actively intervene to raise interest rates to safeguard financial stability and contain asset price bubbles.
This suggests that monetary stimulus in the face of a slowing economy may not be as forthcoming in future. And with a grid-locked parliament likely encumbering the flexibility for fiscal stimulus, buffers for the economy are looking thin.