This opinion article by Business Council chief economist Adam Boyton was published in the Financial Review on Wednesday 19 June 2019.
Australia is in a growth rut. And at the heart of our growth problem is weakness in private sector demand.
With private sector demand having driven economic growth over the long run and having lifted the living standards of all Australians, the weakness here is concerning.
Fixing this means getting households spending and businesses investing.
That we are in this position is a little remarkable. After all, financial markets started the year looking for interest rate increases, not interest rate cuts.
So, what happened?
The GDP data can answer that question.
Household spending, housing construction and business investment have taken a turn for the worse over the past year.
Collectively, that’s meant private demand isn’t the engine of growth it traditionally has been.
Over the 20 years before the onset of the GFC, the Australian economy recorded an average pace of GDP growth of about 3 1/2 per cent. Of that, almost 2 percentage points came from household spending. About a quarter of a percentage point came from housing construction and about half of a percentage point came from business investment.
Adding that up, what’s called private final demand delivered about 2 3/4 percentage points of the 3 1/2 per cent pace of GDP growth.
Over the past year, however, things have been very different. Household spending has contributed only a percentage point to GDP growth, not the almost 2 percentage points it has averaged in the past.
The weakness in housing has seen housing construction and turnover subtract over half a percentage point from growth.
Similarly, falling levels of new business investment have resulted in a small subtraction from GDP growth.
All up, over the past year, private demand has made just a 0.3 percentage point contribution to GDP growth.
In contrast to the softness in private demand is the strength in government spending. Indeed, the contribution to growth from government spending (which includes infrastructure) has been 1.3 percentage points over the past year. That’s almost double the long-term average.
With a lot of that spending being on infrastructure and the ramp-up of the NDIS, that’s not a bad thing. Both are welcome.
But it underscores the current weakness in Australia’s economy isn’t a lack of government spending. Rather, it’s a lack of private sector demand.
Which suggests the way out of our growth slowdown is to get the private sector growing much more strongly.
It might also help to reflect on what has occurred over the past year to produce such a slowdown.
While wages growth remains weak, real wages growth has actually picked up. And employment growth has remained strong. So what changed for households?
Falling house prices stand out.
Australia wouldn’t be the first developed economy to experience larger than expected spillovers from falling house prices into broader consumer demand and GDP growth.
That’s not to suggest we want to return to an environment of surging house prices.
But it is to say that falls in lending and extended double-digit declines in house prices could well be behind the slowdown in consumer spending over the past year.
That in turn underscores the importance of getting the broad regulatory balance in the finance sector right.
Bracket creep has also become a more significant issue for the household sector. That highlights the need for income tax reductions – both in the short term to provide a boost to household cash flows, but also in the longer term through simpler tax scales that improve incentives to work and save.
And with enterprise bargains paying higher wages than awards, reinvigorating the system will also put more money in the hands of households.
Together, that would go a long way towards turning around consumer spending.
On business investment, the answer is clear. In an inter-connected global economy it’s probably going to be difficult to attract investment without a more competitive business environment.
That doesn’t just mean a more competitive taxation system, it also means a more competitive regulatory environment. And a regulatory environment that considers the cumulative cost to the economy of the raft of federal, state and local regulation. The real cost of regulation isn’t just the marginal cost of the latest rule (which is how we tend to measure it), but the overall cost of all the rules.
The private sector has been the engine of growth in the Australian economy over the long run. And without a vibrant private sector, growth ebbs away – something underscored by the weakness in growth over the past year.