The news on the economy is starting to get much gloomier. The latest retail spending data and words from the governor of the Reserve Bank are sounding the warning siren that the economy is in danger of slowing as households look to have reacted to the ongoing lack of improvement in real incomes by closing their wallets.
After well over a year of suggesting that the next interest rate move will likely be an increase, Philip Lowe, in a speech on Wednesday to the National Press Club in Sydney, admitted that now the odds of a cut are around the same as that of an increase.
To a large extent this was just the RBA catching up to the market. For a few months now the market has been pricing in a higher chance of a rate cut than an increase over the next 18 months. Currently the market is fully pricing in a rate cut to 1.25% by the middle of next year and a 50% chance of it happening by the end of this year.
Now that seems all fine and good – and not all that surprising given the state of inflation growth. After all lower interests rates mean lower mortgage payments.
But the reasoning behind why a cut might be coming is rather scary.
Lowe outlined two – in his view equally likely – scenarios. The first is where “the labour market is strong, people’s incomes start rising, inflation will rise”. If that happens the next interest rate will be an increase and basically all will be well.
The second scenario is one where “income growth does not pick up, the housing market weighs on spending and people don’t want to invest”. If that happens, Lowe suggests an interest rate cut will occur and it will mean more years of weak wages growth and flat real incomes to come.
He suggests the probability of either case occurring “is broadly equal”. A 50-50 bet. Heads we win, tails we lose ...
It’s not all that reassuring to know that the chances of things going badly are as likely as them going well – especially when the budget’s numbers are reliant on them being more than good.
Take wages growth.
In the mid-year economic and fiscal outlook, the treasury estimates that by the middle of 2020 annual wages growth would be 3%, and by the middle of 2021 it would be up to 3.5%. That figure combined with employment growth supports the estimates for income tax revenue.
But rather than 3% and 3.5%, the governor produced a graph of the RBA’s estimates which showed wages growth by the end of 2020 to be little above 2.5% and by the middle of 2021 to be in the range of 2.75%.
And the lack of wages growth is very much being felt in the economy as households reduce their spending.
December each year is the big month for retail shopping. Christmas sees us break out the credit card and spend much more than in any other month. It’s why it seems a bit weird to hear talk of a small growth in retail spending in December.
The reality is each year there is a big surge in actual spending in December compared to November:
But the original data is not much use for us, which is why the ABS adjusts it to take account of seasonal factors – such as the fact that each year we spend more in December than any other month.
We actually now spend less in December than we used to. Back in the 1980s December accounted for over 12% of annual spending – the equivalent to about six weeks’ worth of spending during any other time of the year. Now it is worth just over five weeks:
But that shift doesn’t negate the bad news of the latest retail figures.
In December in seasonally adjusted terms spending grew by just 0.1% and 0.2% in trend terms. That monthly trend growth marked 11 months of slowing growth – the longest such streak recorded going back to 1982:
To some extent this is not surprising – inflation growth is so weak that it is almost hard to keep increasing your spending because prices are not going up for a lot of goods – or at least they’re not going up as fast as they used to. That’s why the quarterly retail turnover figures were more worrying as they look at the volume of sales rather than the money spent. In this way they accord more with household consumption that comprises the GDP figures.
Our economy is essentially a spending one. Just under 60% of our GDP is comprised of household consumption. Now that is a lot more than just retail – insurance, health, education, utilities etc are also included in household consumption – but the two are relatively closely linked, and the news is not good for next month’s GDP figures:
In trend terms, retail turnover in the December quarter last year grew by just 0.27% - the worst result since March 2011, and the annual growth rate shows a clear slowing:
The slowing is also occurring across almost all states – turnover actually fell in NSW for the first time since June 2011, and only Queensland showed any signs of solid improvement:
All this adds up to a picture of households that have stopped spending even while employment is growing. It highlights how real incomes have failed to grow, and households are now spending like they don’t anticipate them to grow any time soon.
For now the chances of a rate cut might be 50-50, but if the news doesn’t improve soon, those odds are going to swing sharply. The Reserve Bank will be hoping further record low interest rates will be the trick to encourage people to open their wallets.
• Greg Jericho is a Guardian Australia columnist
