Real GDP growth is highly likely to slow over the coming years owing to a number of factors: slowing growth in the working age population; an increasing share of government spending relative to GDP; and a reversal in the country's terms of trade; and the growing risk of deflation. These impediments will result in real GDP growth averaging 2.3% over the next decade, down from 2.9% over the past decade.
The Liberal-National coalition government's popularity continues to slide, and Prime Minister Tony Abbott's leadership continues to look precarious. The prospects of a turnaround look slim at present amid weakening economic growth, and the Labour Party is in prime position ahead of next year's general election.
We remain bearish on the Australian dollar despite the large fall we have already seen in the currency. While valuations are no longer a headwind to the currency, the trend remains very bearish. Weak economic growth owing to an ongoing decline in terms of trade amid elevated indebtedness does not bode well for the AUD.
Australia's fiscal accounts are unlikely to return to a surplus any time soon, given downside risks to revenue collection and a lack of expenditure cutbacks. Total revenue collection will remain poor as the economy continues to weaken, which will weigh heavily on tax receipts. Meanwhile, objections to spending cuts from the public, opposition and crossbench senators as well as other state governments indicate that the Australian government will struggle to keep its expenses and borrowing on a sustainable trajectory. While there is currently no danger of a fiscal crisis, our core view is that this growing burden of the government will undermine the productivity of the private sector and take its toll on economic growth over the medium term.
Australia's current account picture is gradually improving in spite of deteriorating terms of trade, thanks to higher export volumes and lower income outflows. Going forward, we maintain that a current account surplus is likely as the Australian dollar depreciates, but this will increasingly be driven by lower imports, to the detriment of the domestic economy.
Despite a sluggish economy amid the terms of trade reversal, we expect the Reserve Bank of Australia (RBA) decision to keep its cash rate on hold at a historical low of 2.00% over 2015 and 2016. The central bank's easing bias is waning as various economic releases surprise positively. Therefore, the authorities will likely evaluate the impact of an accommodative monetary policy, particularly with respect to the potential financial instability risks resulting from the booming real estate market.
Major Forecast Changes
We lowered our end-2015 and end-2016 AUD forecast to USD0.7000/AUD and USD0.6600/AUD, respectively (from USD0.7200/AUD and USD0.6800/AUD previously) given that fundamentals remain poor and that the Aussie remains on a downtrend.
Key Risks To Outlook
The key risk to Australia's economy comes from the potential bursting of the domestic property market boom. While we would not suggest that the housing market is in a bubble, valuations are very stretched, and affordability is very low. Should we see prices begin to decline, the process could become self-reinforcing as banks tighten lending standards and default rates rise. Given the importance of the Australian housing market in increasing overall credit in the economy, declining house prices could usher in a period of intense deflation and deleveraging.
Additionally, should the Chinese economy experience a financial crisis over the coming years as the investment bubble bursts, this would have a highly negative impact on Australian mineral demand, further undermining the country's terms of trade.
|f= BMI forecast. Source: BMI, National Sources|
|Nominal GDP, USDbn||1,496.8||1,441.8||1,230.0||1,179.6|
|Real GDP growth, % y-o-y||2.0||2.7||2.3||2.3|
|Consumer price inflation, % y-o-y, eop||2.7||1.7||1.6||2.4|
|Exchange rate AUD/USD, eop||1.12||1.22||1.43||1.52|
|Budget balance, % of GDP||-2.0||-2.6||-2.6||-2.5|
|Current account balance, % of GDP||-3.3||-2.8||-2.1||-1.5|