More signs of moderating pace of global economic growth emerged in March exciting market speculation that the US economy could be heading towards recession next year. Concerns about potential recession also became more prominent in Australia after a second consecutive soft quarterly GDP report and more signs of an entrenched slowdown in housing activity. Set against these concerns about fading economic growth labour market conditions in many parts of the world and notably the US remain very tight. In China, growth is moderating but the authorities are responding with fiscal spending. There are signs that global economic growth is losing momentum in the near-term, but equally in most countries monetary policy is on pause and fiscal expansion is becoming more common. Medium-term global economic growth prospects are starting to look brighter than near-term prospects.
Turning to the US economy, leading indicators of activity released in March presented a mixed-picture. Consumer sentiment/ confidence lifted, notably the consumer confidence reading lifting to 131.4 in February from 121.7 in January. Manufacturing leading indicators were mostly softer with the February ISM manufacturing PMI down to 54.2 from 56.6. The non-manufacturing (services sector) PMI improved to 59.7 in February from 56.7 in January. Key housing indicators were a very mixed bag. January housing permits rose by 1.4% m-o-m, while housing starts jumped 18.6% m-o-m. February existing home sales rose by 11.8% m-o-m, while January new home sales fell by 6.9% m-o-m. The forward-looking home sales indicator, pending home sales lifted 4.6% m-o-m in January.
All-told, the leading indicators of US economic activity released in March are mixed but with more leaning on the stronger side than the weaker side. However, The US Government debt market, particularly the shape of the US bond yield curve recently inverting with US 10-year yields moving just under US 3-month yields, is pointing to recession risk for the first time since 2006. In part, the inverting of the US bond yield curve reflects the outcome of the latest Fed policy meeting in March that indicated there would be no changes to the Fed funds rate in 2019 – although the Fed still expects to resume hiking the funds rate in 2020.
While it is possible that the US economy could slide in to recession it seems very unlikely while household income in the US is growing strongly (the latest average hourly earnings in the US for February rose 3.4% y-o-y the strongest in over 10 years and likely to pick-up more pace as new job openings in the US run well above the number of people unemployed). Virtually all measures of the US labour market are the tightest in more than 50 years. Strong wages growth in the US is now firmly underpinned.
In China, the economy is showing signs of settling in to a lower-growth groove although annual GDP growth is unlikely to slide below 6.0% y-o-y in the near-term with the authorities starting to boost fiscal spending but with the focus this time more on boosting household spending power rather than lifting infrastructure spending. The trade war with the US is hurting China’s economy evident in the latest February trade data showing marked deterioration in exports -20.7% y-o-y from +9.1% in January and imports, -5.2% y-o-y from -1.5% in January. The trade talks between the US and China showed further signs of progress during March and are likely to result in a trade deal between the US and China in April or May mostly because President Xi and President Trump are under increasing political pressure to deliver a deal in their separate countries. Meanwhile, the regular non-trade monthly economic indicators out of China show signs of an economy that is stabilizing. February fixed asset investment spending lifted to 6.1% y-o-y from 5.9% previously while retail sales growth was steady in February at 8.2% y-o-y. February industrial production was the odd man out with growth moderating to 5.3% y-o-y from 5.7% previously. At this stage, China’s GDP growth looks softest in Q1 2019 (data out in mid-April) ahead of mild improvement from mid-year as the economy responds to easier monetary and fiscal policy settings as well as a trade deal with the US.
The reduction in the pace of economic growth remains most pronounced in Europe. GDP growth in Europe was only 0.2% q-o-q in Q4 2018 slowing annual growth to 1.2% y-o-y. More disturbingly among the bigger European economies Italy has slipped in to recession with back-to-back negative quarterly GDP growth in Q3 and Q4 and growth in Germany was negligible in Q4 after falling in Q3. Leading economic indicators are pointing to more weakness ahead in European growth although the latest January readings of industrial production, +1.4% m-o-m; retail sales, +2.2% m-o-m; and unemployment 7.8% (a 10-year low) were all surprisingly strong. There are also signs of more budget spending in several European countries including Germany. Many problems still beset Europe. Brexit remains unresolved and even a deadline extension may not help. Political unrest is high in several European countries, especially France. High debt undermining confidence in banks remains an issue in Italy in particular. The ECB recognizes that downside risks to the European growth outlook are mounting and is considering new unconventional monetary policy easing measures if needed.
In Australia, Q4 GDP growth disappointed rising only 0.2% q-o-q and lowering annual growth to 2.3% y-o-y from 2.8% in Q3. Falling spending on housing and weak growth in household consumption spending were the main factors behind soft GDP growth not only in Q4 but also the previous quarter (0.3% q-o-q). There were some bright spots in the GDP numbers. Business investment spending on plant and machinery grew faster in Q4 and income growth in the quarter was strong, especially for businesses. The main problem is that there is little sign of improvement in housing in the near-future. The decline in house prices accelerated in Q4 2018, down 2.4% q-o-q, -5.1% y-o-y. The weakness in housing investor home loans has spread to owner-occupier loan commitments, down in value by 2.6% m-o-m in January after falling 6.1% in December. Falling home loan commitments tell a story of an unrelenting credit squeeze as lenders work to improve lending standards.
January home building approvals lifted by 2.5% m-o-m but coming after falls totaling more than 17% in December and November. Home building activity will continue to detract from GDP growth through much of 2019. Meanwhile, retail sales growth is very soft, up only 0.1% m-o-m in January after falling 0.4% in December.
On the strong side, growth in the value of exports is producing record high monthly trade surpluses, $A4.55 billion in January, up from the previous record high $A3.77 billion set the month before. Labour market conditions remain strong with the unemployment rate falling to a 7-year low 4.9% in February. Government spending and business investment spending are both increasing.
There is a risk that the weakness in housing extends to general household spending causing the economy to slip in to recession. In our view it is still a low risk, especially while just about everything beyond household spending is performing very well. We see the RBA continuing to hold the cash rate steady for many months until it becomes much clearer whether the current softness in GDP growth continues.