This is our last economic report for 2018 our next will be in the New Year on Monday 7th January 2019. Looking back over 2018 the surprises in the global and Australian economies compared with what was expected at the beginning of the year have mostly been positive. Global and local economic growth has mostly turned out stronger than expected and unemployment rates have been lower than expected. Despite these positive economic developments during 2018 sentiment in financial markets has soured and most asset classes are likely to generate negative returns for the calendar year. The increased volatility in financial markets around what now appears to be falling trend line says that as far as financial markets are concerned, despite past economic strength the future looks weaker.

Before examining whether financial markets are justified in their concern about the 2019 economic outlook it is worth reminding of some of the economic highlights relating to the Australian economy in 2018. In Australia, it is fair to say that good economic news – annual GDP growth above 3% at times; rapidly growing employment; unemployment rate down to 5%; inflation low and stable around 2% – has gone mostly unremarked or even unbelieved. The RBA which has pointed to the slowly improving Australian economic position throughout the year and has based and re-based its economic forecasts on that improvement has been subject to much criticism -unreasonable criticism in our view – that it is being unduly optimistic.

There are reasons why many commentators have become negative about Australian economic prospects even in the face of evidence that the economy is steadily improving. The revolving-door of Prime Ministers over the past decade and the incoherence in economic policy-making that has gone with it has fostered uncertainty that can crimp economic growth. Unusually high household debt, slow wages growth and over the past year falling house prices could promote a phase of slower or even falling household spending that could slow economic growth. International demand for Australian-produced goods and services is under threat as our biggest trading partner, China, tries to cope with the escalating trade war with the United States.

Set against these reasons for why Australia’s economic prospects in 2019 may be worse than its economic performance in 2018 is the fact that we have been living with and coping with these reasons for potentially weaker growth for most of the past year and there is little evidence of any cracks showing in the general economy. Encouragingly, some of the potential problems facing the Australian economy are showing the first signs of diminishing.

The problem of Australian Prime Ministers being deposed between elections is far less likely to occur in future with changes within the Labor Party and the Liberal Party to voting requirements in leadership challenges. Australia is about to enter a period where Prime Ministers serve until the electorate decides to change them. Uncertainty about the outlook for Government economic policies is likely to reduce benefitting business and consumer sentiment. It is worth noting that the latest readings of business and consumer sentiment are holding up comparatively well in any case – indications that business and consumer spending are looking firm in the first half of 2019.

Potentially softer household spending because of weak wages growth and falling house prices may also be on the brink of being less of a concern as well. The unexpectedly strong employment growth through 2018 so far causing the unemployment rate to fall by more than expected (to 5.0% the lowest in six years) is causing pockets of labour shortage and is generating better wages growth. Over the past year annual wages growth has accelerated from 1.9% y-o-y to 2.3% and on current quarterly changes at a touch above 0.6% q-o-q will accelerate to 2.5% by mid-2019. More likely quarterly wages growth will edge higher implying annual wages growth nearer to 3% by this time next year.

Falling house prices, another potential depressant of household spending, may continue for a little longer but there are some promising signs in a 2.6% m-o-m lift in the value of housing finance commitments in the latest reading for October and evidence that non-banks are refinancing many of the lending commitments that the banks are shedding in the wake of the tightening their lending requirements. First-time home buyers are becoming a higher proportion of new housing finance borrowers too moving above 18% of total housing finance commitments in October.

In short, low wages growth and falling house prices may become fading reasons for households to tighten their belts in 2019.

The trade war between the US and China does have the potential to restrain China’s growth rate but it is how China responds to that threat to its growth rate that ultimately will impact Australian exports. There are already signs that China’s Government is spending more on infrastructure to provide some offset to weaker export growth. It can afford to spend much more. The likely increase in infrastructure spending will help to support growth in Australian exports to China.

2018 was a year where Australia grew strongly but much of the market was convinced that the growth could not persist because of perceptions of pressing potentially growth-crimping problems. 2019 may well turn out to be a year where growth is perhaps not quite as strong as in 2018, but where fears of pressing problems start to fade. As a result, 2019 looks a better year to us for many investment asset classes than 2018 has been.

Wishing our readers all the best for the Christmas season and a happy and prosperous New Year.