Australian National Accounts September 2022: Consumers binge travel and business gets moving, but the day of reckoning beckons

Strong growth figures are likely to be the last hurrah as consumers come to terms with a deterioration in the outlook.

From the Chief Economist

The mighty Australian consumer powered through July, August and September, adding another $3.2 billion to the Australian economy with a services binge, as new higher paid jobs and bonuses in the private sector contributed significantly to the economy’s 0.6 percentage point growth rate in the September quarter.

Combined with solid construction activity, as firms were able to realise their expansion plans and house building recovered with easing supply blockages, the economy posted a solid 5.9 per cent growth rate over the year.

The trade sector detracted from growth, with imports arriving in dock after recent hold-ups and overseas travel growing quickly. Export prices consolidated, down 2.8% after an extended period of unprecedented growth.

We expect the second half of 2022 will be the last hurrah in the post-pandemic services bounce back.

As the Reserve Bank of Australia (RBA) continues to tighten policy to bring inflation back down, consumers will be left with little choice but to slow down their recent spending, and businesses will feel the pinch accordingly.

Borrowers, subjected to 3 percentage points of rate hikes in eight months, have experienced the fastest rate of monetary tightening since inflation targeting began in the early 1990s. When combined with higher prices (especially for basics like energy and food), falling real wages and house price declines, the only profile for future consumption is a softer one.

The day of reckoning is coming. It is possible this has already started with October retail sales falling. Government social assistance benefits at $36.8 billion in the September quarter of 2022 are almost at pre-pandemic levels. They compare with $43.1 billion in same quarter of 2021 and an equivalent $47.3 billion in 2020. The household saving ratio fell back to pre-pandemic levels too, indicating a lower level of income support combined with solid consumption.

For the business sector, supply chain problems have dissipated, and delays have shortened, with less disruption to the movements of goods. New motor vehicle imports picked up again as international suppliers were able to satisfy some of the backlog of orders. The Transport, Warehousing and Postal sector itself grew 3.5 per cent in the September quarter, particularly due to activity in air and rail transport. Inventories rose, as did imports. Stuff is finally moving again.

We expect the second half of 2022 will provide the last of the strong GDP readings for a while.

For the business sector, slower growth in consumption will be meaningful, as higher wages and still strong growth in input costs are headwinds. International price rises of nearly 19 per cent were a clear sign of this. A close look at the manufacturing industry revealed a 21 per cent fall in profits due to higher energy input costs and weaker sales. Those dependent on the international economy are bracing for recessions across major parts of the advanced economic world, including significantly, in China.

There is no doubt the 12 months ahead will be rocky and uncertain.

Higher input costs eat into margins, while the tight labour market pushes wages higher

Company profits have fallen as higher input costs eat into margins and commodity prices fall from record highs. Profits in the mining industry fell 19.1 per cent in the quarter driven by large price falls for coal and iron ore. Profits in the manufacturing industry fell more than 21 per cent due to higher energy input costs and weaker sales. The accommodation and food services industry was the biggest winner this quarter seeing profits rise more than 64 per cent, although this follows a very difficult two years.

Wages continued to rise solidly, due to the tightest labour market in five decades, putting pressure on wages. Compensation of employees (COE) rose by 3.2 per cent during the quarter, the strongest quarterly rise since December 2006. The annual growth rate is now at 10 per cent, significantly higher than its 10-year average of 4.1 per cent, indicating much stronger wage pressures than suggested by 3.1 per cent growth in the Wage Price Index (WPI). This shows bonus payments and employee movements (which are accounted for in COE but not WPI) have played a key role in lifting the wages bill. In general, wage pressures continue to come from the private sector, rather than the public sector, as governments try to constrain wages growth and bring their finances into a sustainable position.

Australia’s terms of trade, which is the ratio of export to import prices fell 6.6 per cent driven by a fall in commodity prices, particularly for iron ore and coal. This does not come as a surprise as the RBA Commodity Price Index had already started to fall and as the factors causing a slowdown in global growth build.

Hours worked remained relatively steady, after increasing 3.8 per cent in the previous quarter, and are up 3.9 per cent compared to pre-pandemic levels due to severe skill shortages in the economy.

As expected, inflationary pressures continue to bite, with domestic prices up 6.2 per cent through the year - the fastest quarterly growth since 1990 - and international prices up by 18.6 per cent, a slight moderation from the annual growth rate of 21.5 per cent in the previous quarter.

Service-based industries benefit from resilient consumption

Despite severe cost-of-living pressures and negative real wages, households remained reluctant to reduce spending on discretionary goods and services, such as international travel and dining out at hospitality venues.

The industries that exhibited the most growth over the quarter were Transport, Postal and Warehousing and Accommodation and Food Services, growing 3.5 and 3.4 per cent respectively. Growth in the Transport, Postal and Warehousing industry was largely attributed to increased international travel, while growth in the Accommodation and Food Services industry was driven by strong domestic tourism and sustained demand for dining out. The Construction industry also saw strong growth of 2.3 per cent as supply constraints moderated.

The Manufacturing industry and Rental, Hiring and Real Estate Services industry experienced the biggest falls (1.3 and 0.6 per cent, respectively). Decreases in the Manufacturing industry were largely driven by ongoing material shortages. Falls in housing market activity and prices due to rising mortgage costs contributed to the decline in the Rental, Hiring and Real Estate Services industry.

Private consumption remains strong driven by spending on services

Household consumption contributed very strongly to growth, rising 1.1 per cent in the quarter, driven by discretionary spending on services such as travel and hotels, cafes and restaurants, as well as the purchase of vehicles. This is despite three 50 basis point rate hikes in the quarter and consumer confidence hitting the lowest level on record.

Consumers are clearly feeling the dual impact of high prices and rising mortgage rates, as well as being acutely aware of the uncertainty on the horizon. However, there seems to be a reluctance to adjust spending in the face of these challenges, likely due to strong labour market conditions.

Household saving fell as the rise in household spending and interest payable on mortgages outpaced growth in gross disposable income. The saving ratio hit pre-pandemic levels, lowering from 8.3 per cent of income to 6.9 per cent in the September quarter. Consumers recently used the build-up in savings to cover their rising expenses and discretionary spending. As interest rates rise further and income from social benefits falls post-COVID-19 lockdowns, consumption will suffer or saving will fall further.

A pullback in spending by consumers is expected due to a combination of rate hikes, higher prices for basics, falls in real wages and declining house prices. The strong labour market and a significant share of mortgage holders on very low fixed mortgage rates has supported consumption, however, as many of these mortgages are rolled over from very low to high rates next year, consumption growth will slow and may even recess.

Elevated government spending is not suited to an economy with skills shortages and capacity constraints

Government spending rose by just 0.1 per cent over the quarter supported by spending at the state and local government levels, as well as a rise in national defence spending.

Despite the large pipeline of infrastructure projects across the country, public investment fell over the quarter by 3.4 per cent, with falls in both federal and state and local government spending. This was offset somewhat by government-owned public corporations.

Both government consumption and investment as a percentage of GDP remain elevated compared to historic levels. This level of government spending is exacerbating skill shortages and capacity constraints within the economy, as well as adding to inflationary pressures, making the RBA’s job harder.

Despite facing economic challenges, businesses continue to invest in the future with business investment rising 2.5 per cent in the September quarter, largely due to infrastructure spending. Private investment rose by 0.8 per cent in the quarter, driven by rises in both residential and non-residential construction, as the sector saw a moderation in supply constraints. The rise was somewhat offset by falls in investment in machinery and equipment (down 2.7 per cent) and a 11.2 per cent fall in ownership transfer costs which reflect real estate and property transfer costs.

Rebound in dwelling investment follows a slight easing of capacity constraints

After three consecutive falls, dwelling investment increased 1 per cent through the quarter. The rebound in activity was driven by an easing of ongoing labour and material shortages, as well as a strong pipeline of housing projects due to the stimulus provided during the pandemic. Moreover, despite the devastating New South Wales floods in July, the quarter saw fewer wet weather impacts relative to previous quarters.

Dwelling investment for new properties rose by 3.4 per cent in the September quarter, while investment in alterations and additions fell 2.2 per cent.

Lower levels of housing market activity due to three consecutive 50 basis point interest rate hikes during the September quarter (plus a 25 basis point move in May and 50 basis points in June) have led to a sharp fall in ownership transfer costs. These were down 11.2 per cent, yet transfer costs are still up 19 per cent compared to pre-pandemic levels. The three consecutive 25 basis point interest rate hikes in the December quarter will likely see further falls in ownership transfer costs.

Growth in imports offsets rises in travel and rural exports

Net exports detracted 0.2 percentage points from growth, as rising imports (3.9 per cent) more than offset the rise in exports (2.7 per cent).

Exports contributed 0.6 percentage points to growth, driven by a rise in goods and services exports. Services exports were supported by arrivals of international students and tourists following the re-opening of Australia’s international borders. Goods exports were supported by a surge in rural exports (mainly wool and cotton) and mineral ores, offsetting falls in exports of coal and gas due to weather and other disruptions.

Imports more than offset this increase (detracting 0.8 percentage points from growth) due to the rising number of Australians travelling overseas.

Changes in inventories contributed 0.2 percentage points to growth after a fall in the June quarter, with the largest contributors mining and retail trade, in the lead up to Christmas.

Strong household consumption across the states and territories

State final demand rose in all states and territories with the exception of Victoria where growth stagnated. This follows a strong performance in 2021-22 (see our recent state and territory analysis here). Key contributors to increased domestic activity were centered around hospitality and travel-related expenditure which increased across most states and territories. In Western Australia, transport services increased more than 30 per cent over the quarter as travel rebounded after borders reopened in the March quarter of 2022.

In Victoria, increases in private consumption and investment were offset by falls in public consumption and investment as the government reduced health-related spending and acquired fewer assets.

The Northern Territory saw the strongest quarterly growth of 2.7 per cent on the back of increased investment in residential construction, road infrastructure and utilities.

The recent floods in New South Wales have led to increased government expenditure across the affected regions due to assistance and repairs. Despite the conditions, New South Wales saw positive growth, with state final demand increasing 0.7 per cent through the quarter.

Increases in final consumption have been partly offset by a slowdown in the residential property market that is beginning to respond to the rate hikes delivered by the RBA. This led to decreases in housing transfer costs across most states and territories, most notably in Victoria and New South Wales which recorded declines of 10.4 and 15.5 per cent over the September quarter.