Australian National Accounts June 2022: A strong report card, but tougher times ahead

If households were feeling worried about inflation and higher interest rates, they didn’t show it in the June quarter.

From the Chief Economist

Unperturbed by rising inflation and interest rates, households were willing to dine out and return to the airports of Australia. At the same time, exporters enjoyed high prices for many of our most significant commodities and capitalised on years of strong investment. The result was a quarterly 0.9 per cent pick up in Gross Domestic Product (GDP), while year ended growth rose a very solid 3.6 per cent.

Easy monetary and fiscal conditions over 2020 and 2021, combined with the end of lockdowns, buoyed consumers, while boosting conditions for many businesses in the first half of 2022. This in turn led to a strong jobs market, with the unemployment rate falling to a near 50-year-low in the quarter. The workforce participation rate rose to a record high, as more Australians than ever before were bringing home a pay packet. Offsetting some of this positivity was higher prices and supply constraints, the two often related. With interest rate rises starting in May and production delays ongoing from COVID-19, some business expansion plans slowed, while some households were forced to rethink renovations and new home building.

In the business sector, the contrast between Europe, where extreme electricity supply shortages are causing havoc, and Australia’s booming export sector couldn’t be starker. Very high commodity prices and extensive export capacity – built over the past decade – drove mining profits up 17 per cent in the quarter. Profits in this industry now total more than all others combined (although non-mining profits grew by a respectable 3.8 per cent in the quarter too). The agricultural industry experienced strong price growth and export volumes, especially for wool, meat and cereal.

The public sector continued with a high level of spending, but there was a pull-back in flood related expenditure – which had been elevated in the March quarter. Spending on health care and pandemic related support spending also fell away a little. In contrast, government investment picked up even further with a number of significant infrastructure projects underway at the state level.

The second half of the year has so far delivered less buoyant conditions for both consumers and businesses, as interest rates continue to rise and commodity prices come off their peaks. With supply side problems slowing down production in some industries, such strong growth will be hard to replicate. We expect consumers will ultimately change their spending behaviors, especially as the majority of fixed rate mortgage holders will roll-off low rates over the next two years, and rates continue to rise. But there is some uncertainty in terms of the timing and magnitude of this change, which will largely depend on how aggressively the RBA acts in the face of stubborn inflation.

Australia has a very strong labour market, solid public spending and the business sector has higher capital expenditure plans. But from here, productivity enhancing reforms and labour market improvements, as discussed at the Government’s recent Jobs and Skills Summit, will be crucial to the next stage of growth.

High commodity prices and a tight labour market drove profits and wages higher

Company profits and wages continued to rise solidly, due to the high terms of trade feeding through to strong profits, and a tight labour market putting pressure on wages.

Australia’s terms of trade, which is the ratio of export to import prices, reached a record high, rising 4.6 per cent in the June quarter, driven by higher commodity prices (particularly coal and LNG). However, elevated commodity prices are not expected to be sustained given the risk of a slowdown in global growth and the RBA Commodity Price Index has already started to come off its highs.

Compensation of employees (a measure of the wages and salaries bill across the whole economy) rose by 2.4 per cent in the quarter – which is the strongest rise since 2010 – and up 7 per cent during the year. These wage pressures continue to come from the private sector, rather than the public sector as governments try to constrain their wages bill. Given unemployment is at a near 50 year low, the tight labour market conditions are feeding through to the wages and salary bill – and quicker than the wage price index (WPI) suggests. The WPI is a narrower measure of wage growth as it does not account for wage increases due to job changes, and only rose 2.6 per cent during the year.

Hours worked jumped 2.9 per cent, after declining in the previous quarter due to COVID-19 and flood related disruptions. GDP per hour worked, a measure of productivity, fell by 1.9 per cent, most likely due to the normalisation in hours worked.

Inflationary pressures continued, with domestic prices up 4.9 per cent through the year (the fastest quarterly growth since 1990) and international prices up by a whopping 21 per cent (fastest rise since 1985). But some international price rises have actually benefited Australia, as higher commodity prices increase national income and the terms of trade.

Accommodation and food, and transport services finally exceed pre-pandemic levels

From an industry perspective, most sectors grew but wholesale trade, public administration and construction contracted all due to a combination of material and labour shortages.

Accommodation and food, and transport services were the largest growing industries in the quarter with growth of 10.7 per cent and 7.5 per cent respectively. Both exceeded pre-pandemic levels for the first time as national and international travel continued to normalise and households increased visits to hotels, cafes and restaurants.

The impact of rising interest rates has not yet flowed through to the rental, hiring and real estate sector which expanded by 1.0 per cent over the quarter.

Private consumption the main driver of growth, despite subdued consumer confidence

The extent of the pickup in household consumption, which rose 2.2 per cent in the quarter, was somewhat surprising as consumer sentiment has been close to recessionary lows. And – with real wages and house prices falling, interest rates rising and inflation rocketing – there are, unfortunately, many reasons for consumers to worry.

The strong household consumption followed from an increase in spending on services. The share of discretionary spending increased through the quarter.

The household saving ratio declined from 11.1 per cent to 8.7 per cent, as the growth in household spending outpaced the rise in disposable income. This shows more willingness on the part of consumers to spend. Going forward, we expect that the household saving ratio will decline as cost of living pressures increase, including rising mortgage costs for those on variable rates.

Government reduced spending on health and flood relief

Government spending fell 0.8 per cent over the quarter, detracting 0.2 percentage points from growth. COVID-19 cases were lower (albeit COVID-19 hospitalisations were higher) and floods were less widespread than in the previous quarter, such that government spending on healthcare and disaster recovery payments declined. Defence spending also declined, after a strong March quarter due to assistance to flood affected communities, but it remains high by historical standards.

Public investment continues to rise

Public sector investment continued to strengthen with a 5.9 per cent rise, as federal and state and territory governments continued to invest in large infrastructure projects. Business investment fell by 1.5 per cent in the quarter, driven by falls in both residential and non-residential construction, as the sector struggles. The falls were somewhat offset by investment in machinery and equipment (up 4 per cent). 

New capital expenditure (capex) data suggest the outlook for business investment is strong (with plans up over 11 per cent compared to the last estimate for FY23). This indicates a level of confidence in the private sector that demand will remain strong, despite capacity constraints. Higher costs would also be contributing to the upgrade in capex spending plans. 

Dwelling investment fell as capacity constraints bite

Residential construction continued to drag on economic growth, as the sector struggled with labour and capacity constraints, as well as continued wet weather across the east coast. 

The decline in dwelling investment was largely observed in investment in new dwellings, which fell by 3.8 per cent over the quarter. Alterations and additions also fell by 1.6 per cent to be 0.2 per cent lower than levels seen a year ago. 

Rising interest rates are likely to have a significant impact on residential investment going forward. Not only do higher borrowing costs impact the cost to build a new home for both developers and individuals – further exacerbating input and labour price pressures – but rising interest rates are already impacting established house prices. Dwellings prices in Australia have fallen 3.6 per cent from their peak earlier this year, with house prices in Sydney leading the decline (falling by 8 per cent since their January peak).

Mining, services and rural exports support growth

Net exports contributed a strong 1.0 percentage point to the 3.6 per cent GDP growth. This was driven by a broad-based rise in exports, on the back of rural, mining and services exports. 

Services exports recorded a double-digit jump as international student numbers picked up. This is the biggest rise since the September quarter 2000 (during the Sydney Olympics), albeit coming from a low level. Imports partly offset this with an increased number of Australians travelling overseas.

Non-monetary gold exports, which are known to be volatile, increased nearly 15 per cent. Oil and gas exports, coal exports and iron ore exports also saw solid increases in volume terms. In value terms, the story is even more positive with prices for coal exports increasing by more than 35 per cent, and oil and gas export prices seeing a double-digit increase. 

Changes in inventories detracted 1.2 percentage points from growth after a strong March quarter. 

Strong household consumption across the states and territories

State final demand rose in all states and territories apart from the Northern Territory.

NSW saw the strongest quarterly increase in domestic activity at 1.9 per cent. This is a function of strength in the underlying economy (with private consumption and private investment up 2.5 and 1.5 per cent, respectively), as well as ongoing significant public investment in infrastructure (with a number of large-scale projects under construction). Queensland and Victoria also reported above average growth, both printing at 1.0 per cent.

Importantly, both NSW and Queensland recovered solidly from the severe weather events that occurred in the first quarter of 2022. While floods along the east coast continued in the June quarter, they were less widespread than in the March quarter.

Quarterly growth in Western Australia was significantly below historical levels, printing at 0.1 per cent, mainly due to falls in both private and public investment.