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Are market expectations realistic?

Peter Warnes  |  05 May 2017Text size  Decrease  Increase  |  

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Ahead of Tuesday's federal budget, Morningstar's Peter Warnes is finding it a challenge to be enthusiastic about Australia's economic outlook.

 

Global equities markets remain at elevated levels, buoyed by expectations the economic tide has turned and accelerating growth is on our doorstep.

Australia's Treasurer can smell it as he prepares to bring down the 2017-18 federal budget. Corporate directors are upbeat.

The statement by Reserve Bank Governor Philip Lowe on the decision to leave the cash rate unchanged at 1.50 per cent at the 2 May meeting began, "There has been a broad-based pick-up in the global economy since last year."

"Labour markets have tightened further in many countries and forecasts for global growth have been revised up. Above-trend growth is expected in a number of advanced economies, although uncertainties remain."

Against this positive vibe, global bond markets remain unconvinced on either forecast growth, or inflation, or both. Yields remain stubbornly low. The revelation the first read on 1Q17 US GDP was just 0.7 per cent against expectations of 1.1 per cent, was bond-market-friendly.

Household consumption disappointed, blamed on warmer winter weather reducing household spending on heating. What would economists do without the weather?

China's April official PMI failed to flatter, down from 51.8 to 51.2, and against expectations of 51.7. Capital Economics believes China growth peaked at the turn of the year and is now decelerating. Japan slipped in March.

The Eurozone is the most encouraging with PMIs near a six-year high in March. However, the zone has been dragging its heels since the GFC. Greece is still being bailed out.

The US Federal Open Market Committee (FOMC) left rates unchanged at the May meeting, citing slowing economic growth with the "near-term risks to the economic outlook roughly balanced". The focus is now to the 13-14 June meeting, with markets suggesting a 70 per cent chance of a rate hike.

Ahead of Tuesday's federal budget, it is a challenge to be enthusiastic on Australia's economic outlook. Corporate cost cutting continues to focus on jobs and an unemployment rate above 6 per cent in 2017 appears likely.

Tangible evidence government policy is focussed on growing the pie and lifting total demand is thin on the ground. Incentive has disappeared from the vocabulary.

Those on a marginal tax rate of 49 per cent, which cuts in below $200,000, work Monday for the government, Tuesday for themselves, Wednesday for government, Thursday for themselves, Friday for government, and Saturday for themselves. Sunday is a day of rest. That is real incentive!

A permanent increase in disposable income via meaningful personal tax cuts, rather than a fleeting and far-from-guaranteed business investment from a cut in corporate tax rate, is the way to grow the pie.

The Trump administration is hell-bent on deregulation and stripping away red tape. The opposite is happening in Australia. The overpaid and burgeoning bureaucracy is still in power. Bad debt, which funds daily government expenses, continues to increase. What adjective describes additional debt required to pay the interest on existing debt? Could it be "morrison"?

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Peter Warnes is Morningstar's head of equities research. Any Morningstar ratings/recommendations contained in this report are based on the full research report available from Morningstar.

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