Australia | May 22 2009
By Greg Peel
One thing to consider before this article proceeds is that Treasury Department is not independent of the ruling government party. It will advise the government of the day (given it is made up of actual economists and not elected politicians) on what budget policy should be but the government is not obliged to accept that advice, and nor is the Treasury permitted to do (or forecast) anything conflicting with government policy. Unlike the independent (by statute) Reserve Bank, the Treasury Department must arrive at numbers the government wants to see rather than needs to see.
There will be another federal budget brought down before the next election in late 2010 (assuming no double dissolution in the meantime). It is a typical political move in times of economic hardship to deliver dire forecasts and justify tough measures within the breathing space of incumbency. When those forecasts prove to be not so dire by the following year, the government will declare not that it was wrong, but that it has saved the day with sound economic management.
The recent federal budget contained a forecast that real business investment will fall by 18.5% in FY10. Were this to be true it would represent the biggest collapse in at least sixty years. Falling business investment is a key determinant behind the government’s stark recession warnings in the shorter term. Such a fall would alone reduce GDP by 3.25 percentage points, the economists at Commonwealth Bank calculate. But those economists question the severity of this forecast.
They note that how the “capex” story unfolds is crucial to determining the size and duration of the recession. (Business investment = capital expenditure = “capex”.) The RBA noted in its May Statement on Monetary Policy that it expected capex to “fall significantly” but it is Treasury who has put a number on it. The figure of 18.5%, the economists suggest, implies a combination of the winding back of capacity usage as the economy slows, the complete end of the commodity price boom, low levels of business confidence and continuing financing difficulties.
In June (as FY09 draws to a close), the Australian Bureau of Statistics will release its second estimate of intended capex in FY10. Its first estimate was released on the basis of a January/February survey. At the time, the stock market was plumbing new depths, commodity prices were depressed, global economic forecasts had turned sharply negative, business confidence was low and no “green shoots” had yet appeared on the barren ground. Yet Commonwealth Bank notes the survey results were consistent with a 10% increase in capex. That’s increase, not decrease.
In order for the June ABS survey to show figures consistent with the budget forecasts, capex intentions would need to drop 17% from the first estimate, Commonwealth calculates (from $86.6bn to $66.2bn). This would need to occur following a period in which “green shoots” have appeared, the stock market has rallied 25%, commodity prices have soared (oil has doubled in price, iron ore exports to China are at a record high), Chinese stimulus is in full swing and expectations have grown for a halt in economic decline by year-end.
And if any of the capex intended in FY09 was deferred until (a hopefully brighter) FY10 then the figures would need to overcome this lag as well.
There is, however, a consideration one must concede and that is capex intentions and actual capex spend are not necessarily consistent. Minds can change. But Commonwealth economists calculate for the budget forecast to be correct because of such a low “realisation rate” of intentions, that realisation rate would have to be the lowest in the 35 year history of the ABS.
Commonwealth is not, on the other hand, suggesting the earlier 10% capex growth figure will remain the state of play. It is also forecasting a drop in capex in FY10, but only by 8% to the government’s 18.5%. Behind the economists’ calculations are some clear anecdotal factors:
(1) There is a pipeline of work yet to be done on existing projects worth $50bn; (2) estimates of advanced mining projects underway total $80bn (up 16% on 2008); (3) there has been a lift in the value of projects under consideration, which is a lead indicator of improved capex; (4) there are signs of stabilisation in business confidence; (5) there are signs of a turnaround in China; (6) rural investment spending is believed to be increasing; (7) the government has initiated policy measures to encourage both capex and the requisite provision of finance.
For the upcoming March quarter actual capex result, Commonwealth is forecasting a drop from 6% growth in the December quarter to an 8% decline.
But so far all we have considered is private sector capex. Let us not forget intended government infrastructure spending as part of the fiscal stimulus package. Even if the private sector reins in capex significantly, might the government’s spending fill the void?
Chief economist Michael Blythe admits his team is making some “heroic” assumptions in the face of doom and gloom. But his forecast is that after a “pothole” of private capital spending in the first half of 2009 (second half of FY09), total capital spending will make an “increasing contribution to GDP growth” thereafter.
