Last week we wrote about the Australian economy finishing 2020 with a bang and broadening and strengthening economic recovery early in 2021. Those same sentiments were evident in Treasury’s Mid-Year Economic and Financial Review released last week with upgrades aplenty to economic forecasts produced in the October Federal Budget. Then came news of the covid-19 outbreak at Avalon on Sydney’s northern beaches followed by a swift public health response – a hopefully brief lockdown of Sydney’s northern beach suburbs; a return to some restrictions in greater Sydney; and imposition of state and territory border closures to residents of greater Sydney and in some cases New South Wales.

The net economic effect of these covid-related changes will be to temper household spending growth. Although in the very near-term household spending growth may be boosted briefly as panic purchasing offsets the impact of disrupted Christmas travel and celebrations. Q4 economic readings are in the bag. GDP growth (data release early March 2021) will be strong led by higher household spending and home buying activity.

The damage to economic growth prospects is likely to show in Q1 2021. Household spending is likely to be lower than otherwise would have been the case, especially in January. Disrupted travel and holiday plans in the peak summer school-holiday will make a sizeable dent in spending on accommodation and restaurant services. There could also be a longer-lasting negative impact on travel bookings based on greater uncertainty about when and where covid-19 might appear next and ruin holiday plans. More broadly, this latest sudden covid outbreak could undermine the strong improvement in business confidence and consumer sentiment over recent months.

How much damage occurs to economic growth prospects will depend upon how quickly and effectively the latest covid-19 is contained. There are reasons to be cautiously optimistic. So far, most infections occurred at just two venues. A function at one involving a live band and dancing was the super-spreader event. The infection risk was extremely high for everyone at the event accounting for much of the early surge in case numbers.

Of course, some people who were infected at the event but did not know initially and have visited other parts of Sydney and beyond, but the good news is that contact tracing has produced a comparatively small list of venues and places outside the northern beaches. Insularity may prove a godsend. Northern beaches residents live in what they term “god’s own country” and travel less outside their suburbs than residents in many other Sydney suburbs.

There is still a risk that an infected person may have seeded cases beyond the northern suburbs, but there is no evidence just yet.

If the Northern beaches outbreak is contained quickly (a reasonable possibility at this stage), the restrictions imposed upon Sydney are likely to be reversed by mid-January. Re-opening state and territory borders may take longer with other states and territories wanting to see one or two incubation periods with no community transmission in New South Wales. GDP growth prospects in Q1 2021 will be dented compared to where they were a week ago, but not by a great amount.

Under this scenario of quick containment, Q2 2021 GDP growth enjoys a boost from higher spending by households relieved after a quick end to the Sydney covid-outbreak and with good reason to be permanently relieved from late Q1 as the roll-out of covid vaccinations starts.

If the Northern beaches outbreak is not contained quickly and spreads elsewhere restrictions and state border closures could last longer threatening weak Q1 2021 GDP growth and a peak unemployment rate of 8% or higher by Q2 2021. This softer economic outlook is unlikely to persist throughout 2021. The Government would be likely to respond to weaker growth prospects by doubling down on fiscal spending, especially household income support programs.

Also, one sector of the economy that has been an unexpected beneficiary of the covid pandemic has been housing. Extraordinarily low borrowing interest rates and the need to work from home in comfort have boosted home buying activity. Paradoxically, the latest covid outbreak may add rather than detract from housing demand.

The latest covid outbreak has scrambled previously optimistic GDP growth forecasts for early 2021, but however the outbreak progresses optimism will be dented only temporarily. The damage to growth may be limited to Q1 and possibly Q2. Beyond that GDP growth should accelerate in the second half of 2021.

This is the last economic note for 2020. The next edition will be on 4 January 2021. Wishing all our readers a safe and happy holiday season.