Weaker growth, but Australian Government still projecting surpluses

CANBERRA - In an assessment of the Australian Government's mid-year fiscal update today, HSBC suggests that Australia could end up with budget surpluses at the same time as having an (effective) zero-policy rate and central bank sovereign bond buying. "This would be a truly unusual policy configuration," HSBC says.

In today's update, the Government lowered its growth forecast to 2.25% y-o-y in 2019/20 (previously 2.75%), but still expects 2.75% by 2020/21.

Despite lower assumed tax revenue, the budget is still projected to be in surplus in 2019/20 at AUD 5.0bn (previously AUD 7.1bn).

HSBC says: "The fiscal settings are a drag on growth, which puts the onus on the RBA to cut again. We expect an RBA cut in Q1 2020."

The estimated underlying budget surplus for 2019/20 of AUD 5.0bn (0.3% of GDP) is smaller than the AUD 7.1bn (0.4% of GDP) forecast in the April 2019 budget. For 2020/21, the expected budget surplus is now AUD 6.1bn versus AUD 11.0bn previously.

The real GDP forecasts were revised down from 2.75% to 2.25% for 2019/20, but kept unchanged at 2.75% for the coming 2020/21 year.

Nominal GDP forecasts were maintained at 3.75% for 2019/20, with stronger commodity prices offsetting weaker real GDP growth.

But nominal GDP growth was lowered to 2.25% for 2020/21 (down from 3.75% previously) due to the assumption that commodity prices will fall from their previously elevated levels. 

The forecasts for both wages growth and inflation were lowered by 0.25% for 2019/20. For 2020/21, the inflation forecast was cut from 2.5% to 2.25%, while wage growth was downgraded more aggressively, from 3.25% to 2.5%.

Net Government debt is forecast to fall from 19.2% of GDP in 2019/20 to 16.0% of GDP in 2022/23 (previously 14.4%).

HSBC says there were few surprises in the fiscal update.

"Given weaker-than-expected growth since the full budget back in April, today's growth numbers were going to need to be adjusted lower -- the Government lowered its growth forecast for 2019/20 to 2.25%, from 2.75% previously," HSBC says.

"Growth is still expected to pick up to 2.75% in 2020/21. These growth numbers are in line with RBA's last set of published forecasts from early November (they are a little stronger than HSBC's forecasts, at 2.1% and 2.5%, respectively).

"This weaker growth profile brings with it tax revenue estimates that are also revised lower. This is partly because the Government now expects much slower wage growth. Nominal GDP growth is also expected to slow in 2020/21, as commodity prices are assumed to fall."

HSBC says the budget continues to assume that the iron ore price will be USD55 a tonne over the forecast horizon, which is well below the current spot price of USD94 a tonne.

"The higher-than-expected iron ore price over the past few quarters has been the key reason that the budget is still on track to be in surplus this financial year, despite weaker real growth in the economy," it says.

"In short, the Government is saving the revenue windfall from the boost from higher-than-expected iron ore prices, rather than spending it to support growth in broader economy.

"In the past, a boost from rising commodity prices has typically flowed into the broader economy through rising wages growth and, often, through personal income tax cuts. This time around, the boost is largely being saved to get the budget back to surplus.

"This means that the Federal budget is a drag on growth, rather than a support for growth."

HSBC adds: "With the government focused on delivering a udget surplus, rather than using fiscal policy to support growth, we expect the RBA will have to do more of the heavy lifting.

"We expect the RBA to cut its cash rate to 0.50% in Q1 2020. We also assign a 30-40% chance that more stimulus will be needed and, assuming there is no significant fiscal stimulus in the May 2020 budget, that this could involve cutting the cash rate to 0.25% and launching a sovereign bond buying programme." www.hsbc.com.au (ATI).