The economic calendar in Australia this week features statistical releases covering the weakest and strongest parts of the economy – house prices and employment/unemployment. Once released, we will probably be none the wiser concerning how the economy is performing. The Australian economy has become something of a mystery. How does an economy generating clear signs of weakness in spending on housing and consumer goods generate such strong growth in employment and low unemployment?
The Australian Statistician’s Q4 2018 house price index due out tomorrow is unlikely to provide any real surprise. It will almost certainly show a hefty decline in the quarter of around 2.0% (based on earlier house price reports) extending the annual decline in house prices to around 5.0% y-o-y from -1.9% y-o-y in Q3.
If house prices fell in Q4 2018 as forecast, national house prices would be down to the levels recorded two years earlier in Q4 2016.
Loss of household wealth from falling house prices is likely to have had some influence reducing growth in household spending, especially in the cohorts of home buyers who bought homes close to the peak of house prices in mid-2017, or in the tighter macro-prudential lending environment of the past few years were caught over-leveraged in investment housing and are facing calls from lenders to reduce borrowings or refinance elsewhere. But the large majority of home-owners who bought homes several years ago are still well ahead. Even allowing for the latest expected Q4 price decline house prices are up 24.8% over five years and 61.9% over ten years.
Of course, those longer-term house price gains relate to Q4 2018. House prices have not yet stopped falling and there is a risk that they could fall another few per cent before bottoming out. The reason why the falls are unlikely to be more than a few more per cent – say 5% at most – is that there is already evidence starting to show of improving auction clearance rates in the epicenters of housing weakness, Sydney and Melbourne. Also, the median prices of houses sold at auction are showing signs of starting to stabilize.
In our view house prices fall a little further over coming months and then probably flat-line for a period of several years. It is unlikely that there will be any reoccurrence of fast rising house prices in the next few years. The factors militating against any strong lift in house prices include the near-term excess supply of new housing and constrained housing investment demand both overseas (China’s restrictions on residents investing offshore are growing) and domestic (credit will stay harder to obtain and tax arrangements may become less favourable on a Federal Government change). Not far down the track, the great ageing baby-boomer housing down-size is also likely to add substantially to the supply of housing space.
Factors that might be capable of lifting house prices fast again could be if the RBA does reduce the cash rate by 50bps or more? Although such a move is being forecast by some, we believe the hurdle to such a change is very high. Quite simply, the great and dangerous house price boom of 2013-2017 that left unchecked could have promoted an Australian financial crisis and deep recession to follow has effectively been halted and without too much economic damage so far. It seems highly unlikely that the RBA would want to take the risk of rekindling the house price boom. The RBA is likely to be very wary before considering any interest rate cut.
RBA reluctance to cut the cash rash segues to the strong part of the economy, labour market conditions. Employment growth was stronger in the second half of 2018 – up 136,000 – compared with the first half – up 132,400. Moreover, full-time employment grew much faster in the second half – up 150,100 – than in the first half – up 77,100. Employment growth was again very strong in January 2019, up 39,100 in the month with an out-sized 65,400 gain in full-time employment. The February employment reading is due on Thursday and the market expects a monthly gain around 15,000, which if it comes about means employment up 80,000 in just the first two months of 2019.
Very strong employment growth even when combined with a record high labour force participation rate has allowed the national unemployment rate to fall from 5.6% in December 2017 to 5.3% in June 2018 and 5.0% in December 2018 (a 7-year low). In January the national unemployment rate held down at 5.0% and in New South Wales the unemployment rate fell to 3.9%, the lowest level in more than 40 years. Most likely the national unemployment rate will stay down around 5.0% in the February data due on Thursday.
It is possible that strong labour market conditions will fade at some point but if and until that happens there is a risk that the strength starts to spread to the softer parts of the economy, notably household spending. For the time being it is worth noting that Australia’s economic outlook is hard to assess with any confidence when a key leading indicator such as housing is still pointing down but a very important coincident/lagging indicator such as employment is pointing up. It is hardly surprising that the strongest message the RBA is providing is that the cash rate is unlikely to change for some time.