How likely is a recession this year? Not much.
With prices in Sydney and Melbourne now down 10% year on year, some people are asking me if I think this means we are headed towards recession.
It is true that there is a ‘wealth effect’ – as property prices go up, people feel wealthier and start to spend more. That goes into reverse when prices start to fall.
But I still think Australia will be ok. There will be a period of adjustment, but my guess is that we should avoid recession, and bounce back fairly quickly.
I thought it was interesting that Gerard Minack – one of Australia’s most bearish hedge fund advisors was taking a similar view. I tend to find myself on the sunny side of Gerard most of the time. So it makes me think that if even he is pretty relaxed about our current state of affairs, then we should be right.
Anyway, he reckons that while the wealth effect is in effect, there are some important ‘countervailing forces’ that should keep the boat afloat, and help us avoid a US-style GFC.
First, the mining capex boom inevitably bust, but the bust has now almost run its course (Exhibit 2).
Second, while Australia is building a lot of houses, the pace is normal relative to population (Exhibit 3). (JG – he means we’re not creating an over-supply of housing.)
As a result, Australia’s rental vacancy rate is below average and falling, versus the US vacancy rate that last cycle was above average and rising (Exhibit 4).
A turn lower in residential construction still seems likely in Australia, but there seems less scope for the residential downturn to king-hit growth, as it did in the US in the last cycle (Exhibit 5).
Third, high population growth costs, and one of the costs is rising infrastructure spending (Exhibit 6). This is a particularly job-intensive sector.
The net effect of the mining capex bust ending and the cranking up of infrastructure spending is that investment spending has rebounded (Exhibit 7).
A fourth, less important offset, is the ramp up of LNG exports (‘mineral fuels’ in Exhibit 8). This will statistically add to GDP, although it will be calorie-lite growth: the employment tied to these exports is low; very little of the revenues are going to be collected by the government; and shipping so much gas offshore has created a domestic gas shortage, a key reason behind rising domestic energy prices.
At the end of the day, Minack recognises that Australia is in a period of adjustment. We are working through some challenges.
But he also reckons that these challenges have mostly already been priced into markets (Aussie dollar, bonds, equities). He doesn’t see value in shorting any of these things right now.
For these short trades to work, an Australian recession has to be your base-case scenario. For Minack, he just doesn’t see that happening.
And that’s what I reckon too. Yes, house price declines will give everyone a bit of pause for thought.
But the Australian economy is much more than our housing market. It is much more complex and dynamic than just that.
And Australia still has an awful lot going for it. There is still a lot of growth to be had and money to be made.
I mean, even the bears think so.