Business Outlook: Fast Crisis, Slow Recovery

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Chris Richardson, Partner at Deloitte Access Economics, is one of Australia’s most respected commentators on economic trends. Below are his most recent insights into Australia’s prospects of economic recovery from COVID-19.

We assume (1) Australia succeeds in keeping virus numbers mostly suppressed, allowing restrictions to continue to be lifted, (2) a vaccine or good anti-virals are available mid-2021, and (3) international borders gradually re-open, to cover most of the world by end-2021.

1.6 billion people in the informal economy affected. 300 million jobs lost. Millions of small businesses lost. In a rotten year for global growth, Asia-Pacific will shrink the least, with the Americas and Europe being hardest hit. Where death-rates are highest, fears are high too, and scared families and businesses don’t spend. That’s why ‘opening up’ if COVID-19 numbers aren’t under control is risky. In a volatile environment, it’s also why the best leading indicator of how an economy will perform is how well that nation is fighting COVID-19.

Australia’s relative success in fighting COVID-19 gives us more room to open up. Our policies have successfully protected many jobs and businesses that would otherwise have been lost. Many key trading partners have also fought COVID-19 well. So the recession may have already past its worst. Even so, families are struggling with high debt, high unemployment and low confidence. The ranks of the unemployed will be swollen for a while.

Australia and the world are ‘printing money’ hand-over-fist. But the very last thing you need to worry about is any lift in inflation. Demand is dead-as-a-doornail, and wage gains – already weak – are set to fade further.

Globally and locally, interest rates will be ‘nailed-to-the-floor’ for years. That’s because (1) this is a big recession, (2) inflation is as dead-as-a-doornail, (3) governments will bow out of their support, leaving central banks to repair economies, (4) economies are more accident-prone than ever before, so central banks will be super-cautious and (5) interest rates are more powerful than ever.

That last point is important. The global debt-to-income ratio was at a record when the global financial crisis (GFC) hit in 2008, and it was higher still when this crisis hit in 2020. With governments currently piling on even more debt, that says interest rates are a hugely more powerful lever than ever before. Even if they go up just a bit, they’d take an enormous amount out of economies. That’s why they’ll stay super low.

The initial fear-phase sent shockwaves through currency markets, with most exchange rates falling sharply as money surged to the perceived safe-haven of the US. But the $AU has recovered since.  Partly because markets have noted that the US is a less effective safe haven than it used to be; but mostly in recognition that Australia has been successful – to-date – against COVID-19 (giving us greater growth potential), and that commodity prices (especially iron ore) held up better than earlier feared.

No migrants, no momentum. Because we take more migrants than most, Australia’s overall population growth has been high. Our population hasn’t aged as fast as others either, as our migrants are relatively young. But that flow of migrants is now all but turned off, hurting tourism and education immediately, but also weighs on the recovery, affecting everything from housing construction to utilities.

These effects will linger. We assume Australia will open most international borders through 2021, but that leaves total population about 250,000 smaller than forecast ahead of COVID-19. That shortfall is probably here to stay.

Meantime JobKeeper has been great at…keeping jobs. It bought vital time for businesses in the hope that the links between employers and employees can be maintained. But it also means that published job losses and increases in unemployment understate the size of the ongoing challenge.  The current shortfall in hours worked – down a little over 10% since COVID-19 hit – is a better indicator of how hard it will be to bring unemployment back down across coming years. Worse still, the local areas which already had the highest unemployment have now lost the most jobs in the COVID-19 crisis – a blow that’s a double challenge.

Industries – what next?

The sectoral damage of this recession continues to change fast. It began – and remains – with international border shutdowns that have taken migrants, tourists and foreign students out of the economy. That has ongoing effects across a range of sectors, including airports, airlines, recreation (missing tourists), education (missing students) and construction (missing migrants).

The pain then spread amid a shift to a much wider range of lockdowns. These spelled deep trouble for cafes and restaurants, pubs and clubs, and hotels and motels, as well as for gyms, sporting fields, entertainment centres, conference centres, movie theatres and playhouses. Yet those weren’t the only businesses suffering. Lockdown impacts went deeper. For a while, many miners couldn’t fly into sites, because state borders closed too. Farmers were left scrabbling for workers because overseas backpackers and seasonal workers weren’t here. Real estate struggled amid bans to in-person viewings and auctions. Elective surgery was put on hold. And empty shopping centres saw many retailers shut down: some hibernating, some closing doors forever.

The bulk of that pain occurred because it had to. In many cases, sellers couldn’t sell as buyers couldn’t easily buy. But other pain soon became evident too, as purses and wallets snapped shut amid hits to income, wealth and confidence. That especially showed up in sectors linked to discretionary spending – so car sales plummeted.

The good news is that many of the hardest hit (e.g. accommodation, food services, arts, recreation) are increasingly opening up. But international borders remain closed. And the usual sectoral victims in a recession will be weakening further even as other sectors begin to recover. That will be true of:

  • Growth-dependent sectors like construction and parts of manufacturing;
  • Pipeline-dependent sectors like construction and professional services; and
  • Discretionary sectors like entertainment and parts of retail.

Finally, and at the other end of the scale, some sectors are largely recession-proof, including the public sector, large parts of education, health and utilities, as well as food retailing and wholesaling.

States and territories – what next?

COVID-19 has taken a sledgehammer to Australia’s economy, with no state or territory left unscathed. But they’re not all being equally hit:

  • The largest downturn is likely to be in Victoria, given its current spike in cases, as well as its dependence on migration and foreign students.
  • Conversely, the lift in LNG-related exports from the Ichthys project will protect the Northern Territory, while its strong public-sector base is an anchor for the ACT.

Lockdown hit service sectors the most. NSW is king of service sectors. Worse still, its economy relies a lot on migrants, tourists and foreign students. So closed international borders come at a big cost. Housing construction is also hit hard. But NSW has done a great job in beating back COVID-19 so far, opening up is proceeding fast, and infrastructure is sprinting. So there’s lots to hope for in 2021.

  • Victoria is likely to perform the worst through COVID-19. Population, once a key growth-engine, has stalled. Tighter restrictions has sent job losses soaring and consumers hanging onto their cash rather than spending it. Infrastructure is the bright spot in this dark near-term outlook until the economy can open back up.
  • Queensland has managed the crisis well, but it’s come at a cost. The world is still buying Queensland’s gas, but prices are lower. And low infection-rates enabled the economy to open back up to locals already, with the rest of Australia (except Victorians) welcome from 10 July. But closed international borders spell deep ongoing pain for particular parts of Queensland, which has left it with some of the highest regional JobSeeker numbers in the nation.
  • Western Australia was looking to make a comeback in 2020 after a period of poor growth. Then came COVID-19. Yet global demand for iron ore held up relatively well despite the downturn – supporting both economic growth and state finances. And success in keeping COVID-19 at bay has led to relatively rapid opening up.
  • Tasmania and South Australia both had swift government response that enabled a similarly swift opening of their economies. But lockdown came at a cost to Tassie’s near-term momentum. While there’s some shelter from the current crisis, these two states are less well-positioned for their longer-term growth.
  • The ACT and Northern Territory will fare the best out of a bad lot. While unable to escape some pain – Canberra’s lockdown was relatively tight – their high share of public-sector jobs softened the blow. So too has the record of the two territories in seeing the greatest success in the nation in beating back COVID-19. The ACT will lead the nation in welcoming foreign students back to Australia.
  • The Northern Territory’s vulnerable population in regional areas means that a focus on limiting the spread of COVID-19 will remain important. But if this can continue, there’s upside potential from local tourism as Australians swap their international holidays for ‘Top End’ trips.

Policies – what do we need next?

Both the Feds and the States are spending a lot. But that’s not the key to higher government debts and deficits. The bulk of the lift in public debt over the next few years isn’t due to emergency measures pushing spending higher – it’s because the weak economy leads to lost revenue.

That leads to the key point: the best way to fix the budget is to fix the economy.

Meantime, our economy is held together by lots of sticky-tape. And that’s truly great news.

JobKeeper and JobSeeker are standouts, but many policies have swung into action to cushion our living standards. Australia’s ability to do that was made easier – economically and politically – by our relatively strong position: the Federal Budget was balanced, and debt was low when COVID-19 hit. That’s marvellous. Even better still:

  • Money got into people’s pockets faster than during the GFC.
  • Our success against COVID-19 has cut the cost of our emergency measures – a virtuous cycle.
  • The fall in interest rates is so big, there’s little change in expected Federal interest costs – yes, debt is up, but the drop in interest rates is even more dramatic, and it will gradually apply to old and new debt.

Yet there are ‘phantom menaces’. One is the belief we have to pay off all this new debt. But that would flatten the economy. That’s not the ‘smart-play’ for war-time debt anyway. The ‘smart-play’ is getting the economy growing so that debt gradually shrinks relative to our economy. Another ‘phantom menace’ is the belief that, even if we don’t pay off the debt, we have to raise taxes and cut spending to fix the budget. That’s completely wrong, and it unnecessarily scares the punters.

The emergency measures are temporary. So if we can repair the economy, we’ll repair the budget. Or as the PM puts it: “the best way to raise revenue is to get people back into jobs and the economy moving again.”

Lastly, there’s the view that Federal and State budgets have already done their job. They haven’t. As the Reserve Bank notes, the economy will “require considerable policy support for quite some time to come”.

Every taxpayer dollar is precious and is helping Australians more effectively than it’s ever done before. Our fight against COVID-19 cost 835,000 people their jobs and many thousands of small-business people a lifetime of work. That risks leaving generational damage. We owe it to them to get livelihoods back as fast as we can:

  • The best and fastest way to repair the economy is to keep COVID-19 at bay so we can rapidly open up.
  • Yet borders will remain closed for a time, so opening up can only get us so far. The Reserve Bank is already tapped-out, so the task of repairing Australia falls more on governments than it’s ever done before.
  • That says more dollars are needed. How much more depends on our success against COVID-19 and in opening up. But the recession is changing shape fast, so the nature, timing and dollars of support needs to change fast.
  • Some new types of spending will be needed, building on the recent infrastructure and HomeBuilder packages.
  • We also need to smooth transition timing and dollars. Too much support ends at the same time. Some initiatives may end earlier, but in most cases it’ll be later. We should phase support out where we can.
  • Some type of ongoing wage subsidy – JobTweaker – will be needed too, limited to a smaller range of businesses (e.g. those tied to international borders). And the dollars-per-person may need to be lower too.
  • But wage subsidies gradually become less helpful the longer they’re used as emergency support. There are rising costs in simply keeping ‘zombie-jobs’ alive. That doesn’t say pull back overall spending support, but it does say this particular type of support should gradually fade in importance in our defence against COVID-19.
  • The complexity of exiting from this emergency is high. And things keep changing fast. So, over and above existing reasons to have higher unemployment benefits anyway, keeping JobSeeker stronger for longer will be vital in filling the cracks as emergency safety nets morph or disappear. We’re all in this together.