Oil prices, China, the global savings glut and the Australian economy after the housing boom

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Oil prices, China, the global savings glut and
the Australian economy after the housing boom
Presentation to a CEDA Economic Update
Freshwater Place Melbourne 25th August 2005
Saul Eslake Chief Economist ANZ Bank
www.anz/com/go/economics
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Higher oil prices arent (thus far) leading to
higher inflation and interest rates
Oil prices and inflation
Note Shaded areas denote oil price shocks
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Economic growth has been much less affected by
higher oil prices than in previous oil shocks
Oil prices and economic growth
Note Shaded areas denote oil price
shocks. Source Thomson Financial Datastream
OECD.
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What the world is now experiencing is a
demand-driven rise in oil prices, not a supply
shock
World oil supply and demand
Sources BP Statistical Review of World Energy
2005 OPEC
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Over the past four years China has accounted for
38 of the growth in world oil demand
Chinese oil consumption and production
Growth in world oil demand
Sources BP Statistical Review of World Energy
2005 OPEC Monthly Oil Market Report July 2005
Economics_at_ANZ.
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China is becoming an increasingly important
participant in the global economy
Share of world GDP
Share of world exports
Share of world oil use
Share of world coal use
in US at purchasing power parities. Sources
IMF BP OPEC WTO.
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Chinas growth and industrialization is inducing
the biggest change in relative prices in 50 years

• China is, in simple terms, a net importer of
  commodities and a net exporter of manufactured
  goods
• and it is now large enough to make a difference
  to the prices of those goods
• China is pushing up the prices of the things it
  imports
• for example oil, coal, nickel and copper
• and pushing down the prices of the things it
  exports
• for example textiles and clothing, whitegoods and
  auto parts

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Going up prices of commodities China imports
going down prices of commodities it exports
Sources Datastream.
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The US has fallen a lot less than in previous
US bear markets despite an unprecedented deficit
Trade-weighted US dollar
US current account deficit
Note US index is in real (inflation-adjusted)
terms. Shaded areas denote periods of major
declines in the US. Sources JP Morgan US
Bureau of Economic Analysis.
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The rise in US borrowing has been matched
(driven?) by higher saving elsewhere in the world
Net lending as a of GDP
United States
Japan
Latin America
Euro area
World
Developing Asia
Net lending is gross saving minus gross
investment. It is conceptually equal to the
current account balance. Source BIS
Economics_at_ANZ.
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Strikingly, US long-term rates have fallen even
though US short rates have more than trebled
Four episodes of rising US interest rates

• Unlike Australia, in the US most personal and
  business borrow-ing is done at fixed rates
• Thus, what happens to long-term rates is much
  more important
• Usually, long-term rates rise while the Fed is
  tightening monetary policy
• But in this latest episode, long-term rates have
  fallen

Note Shaded areas show periods when the Federal
Reserve has been tightening monetary policy by
raising the Federal funds (cash) rate. Sources
Datastream Federal Reserve
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The decline in long-term rates is helping to
prolong the household spending boom in the US
Mortgage rates
Household wealth
House prices
Household saving rate
Sources Federal Reserve Office of Federal
Housing Enterprise Oversight Bureau of Economic
Analysis.
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Increasingly, global growth is being driven by
regions that typically dont get a lot of
attention
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Chinas global impact on relative prices is
hugely beneficial for Australia
Long-term price changes for Australian exports
and imports
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The China-driven reversal in Australias terms of
trade has been a key element in the A recovery
Australias terms of trade and the exchange rate
Sources ABS Reserve Bank of Australia
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The reversal in Australias terms of trade has
also boosted Australians relative living
standards
Australias ranking among OECD countries in terms
of GDP per capita
Note GDP is in 1999 US at PPP exchange
rates. Source GGDC Total Economy Database 2005.
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Capacity constraints which worried the RBA so
much six months ago have eased a bit
Unemployment rate
Job vacancies
Capacity utilization
Sources ABS National Australia
Bank Economics_at_ANZ.
Sources ABS National Australia
Bank Economics_at_ANZ.
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Wage and price pressures are beginning to pick up
although A strength is offsetting some of this
Enterprise bargaining settlements
Wage price index
Sources Dept of Employment Workplace
Relations ABS.
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Labour cost pressures showing up in industries
and regions where skill shortages most intense
Increase in labour costs, year ended June 2005
By industry
By geography
Source ABS.
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The economy is near the point in the cycle where
the seeds of previous recessions have been sown
In some important respects the Australian economy
is at a similar stage to where it was in 1960,
1973, 1981 and 1989 just before each of the
past 4 recessions Three policy mistakes have
traditionally been made at this stage of the
business cycle -

• Allowing wages to grow faster than justified by
  productivity in a tight labour market
• much less of a risk now that centralized wage
  fixation is (almost) dead
• Failing to allow the Reserve Bank to raise
  interest rates before inflation has begun to
  accelerate
• not a serious risk now that the RBA is
  independent
• Giving away too much of the revenue dividend in
  spending increases and tax cuts
• still a significant risk (as demonstrated in 2004)

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Growth in the Australian economy needs to and
will be a little slower than in recent years
Influences tending to slow the rate of growth
Influences tending to boost the rate of growth

• End of the property boom (in most parts of
  Australia)
• More cautious attitudes towards borrowing
• Higher petrol prices
• Previous increases in interest rates
• Shortages of skilled labour and infrastructure
  bottlenecks
• Relatively high (though easing) exchange rate

• Continued strong global demand and high prices
  for Australias mineral and energy commodities
• Increased investment by resources companies
• Increased infrastructure spending by governments
• On-going tax cuts and increases in Federal
  Government handouts

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The property boom has ended with a sigh, not a
bang but its passing will dampen spending
Capital city house prices
Household debt
Household net worth
Household saving rate
Sources ABS Reserve Bank Economics_at_ANZ.
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Australias economy will grow more slowly over
the next few years than over the past decade
Real GDP growth
Drivers of GDP growth
Sources ABS Economics_at_ANZ.
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New South Wales the lead in Australias economy
saddlebags
Gross State product
Residential building approvals
Employment
Office vacancy rates
Sources ABS Property Council of Australia
Economics_at_ANZ.
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People are voting with their feet about the
performance of the NSW economy
Net migration to NSW
Population growth
Sources ABS Economics_at_ANZ.
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Reserve Bank will keep rates on hold for an
extended period but next move will still be up
Inflation
RBA target band
Sources ABS Datastream Economics_at_ANZ.
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A outlook shaped by lower, though still firm,
commodity prices and narrowing rate premium
Traditional fundamentals and the A
Interest rate spreads
Commodity prices
Sources Datastream Reserve Bank of Australia
Economics_at_ANZ.
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Summary of the economic outlook for Australia

• June (b) Year to June quarter all other
  forecasts are year-average