121207 Australia's Great Rebalancing Act - Looking Beyond the Mining Investment Boom

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    By Paul Bloxham

    Australias growth has been uneven in recent years, as the economy has absorbed

    a massive mining investment boom

    With mining investment expected to peak in mid-2013, some rebalancing of growth is needed

    We expect lower RBA rates and a steady AUD to spur a recovery in the housing, retail and

    tourism sectors in 2013, helping maintain solid growth

    Disclosures and Disclaimer This report must be read with the disclosures and analyst

    certifications in the Disclosure appendix, and with the Disclaimer, which forms part of it

    Australias great

    rebalancing actLooking beyond the mining investment boom

    Macro

    Economics Australia

    November 2012

    https://www.research.hsbc.com/midas/Res/RDV?ao=20&key=LUS0GPE8yW&n=353194.HTM
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    1

    Macro

    Economics Australia

    November 2012

    abc

    Two major forces have affected Australias economy in recent years. High global commodity prices

    have driven a massive mining boom, supporting growth, while at the same time households have

    increased saving, which has been a drag on growth. But Australia has been lucky. The net result ofthese opposing forces was around trend growth, close to full employment and low inflation. Growth

    has been uneven across sectors, with a strong mining sector and weaker conditions elsewhere, but the

    overall story has been positive.

    Now that commodity prices have peaked and the mining investment peak is also in sight expected

    around mid-2013 the true test is coming. Can Australia see growth rebalance away from mining and

    towards other sectors? Or, does Australia have a resources curse that has hollowed out its

    economy and will constrain its ability to continue to grow?

    Last year we wrote a report tackling this question and concluded that while not everyone would

    benefit from the mining boom, the overall economy is expected to be significantly better off thanotherwise (seeDoes Australia have a resources curse?, 18 August 2011). We retain this view.

    Australias economy has absorbed a once-in-a-generation mining boom successfully, with few signs

    of irrational exuberance and inflation remaining low. The high AUD and above average interest

    rates in 2011 held back some sectors to make way for the mining expansion.

    Looking ahead, we expect recent cuts in interest rates to below average levels to drive a rise in

    housing construction and house prices, which should also support retail sales. Gradual recoveries are

    also expected in a number of the sectors that have been held back by the high AUD, including

    tourism, as the effect of the high AUD on growth wears off and Asian incomes continue to rise.

    Given that mining investment is still expected to rise until around mid-2013, there is time for these

    other sectors to gradually recover.

    We remain optimistic that Australia will see a smooth rebalancing of growth for a number of reasons.

    First, Australias financial system is in good shape, so monetary policy still works. Second, previous

    financial imbalances are well on the way to correcting. Households have increased saving and paid

    down debt ahead of schedule for a number of years and local banks have been shifting away from

    reliance on foreign wholesale funds towards domestic deposits. Lastly, government debt is low and

    Australia does not have sovereign debt problems.

    Critically, our positive outlook relies on ongoing growth in Asia, supporting commodity prices and

    furnishing Australia with other opportunities. As the Asian middle classes expand and spendingpatterns shift, demand for education, tourism and other services will grow. The benefits Australia

    could reap from the Asian Century should extend well beyond the mining sector.

    Key points

    https://www.research.hsbc.com/midas/Res/RDV?p=pdf&$sessionid$=vRG9xh9inbEpc2HY3Qt-Llm&key=9X00FMKi9h&n=305385.PDFhttps://www.research.hsbc.com/midas/Res/RDV?p=pdf&$sessionid$=vRG9xh9inbEpc2HY3Qt-Llm&key=9X00FMKi9h&n=305385.PDFhttps://www.research.hsbc.com/midas/Res/RDV?p=pdf&$sessionid$=vRG9xh9inbEpc2HY3Qt-Llm&key=9X00FMKi9h&n=305385.PDF
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    2

    Macro

    Economics Australia

    November 2012

    abc

    Key points 1Mining story not over yet 3Mining has been the big story 3Not over yet 4Mining story has three stages 4Foreign involvement a cushion 8Growth has been uneven due to mining 8But not that uneven 9High household saving also driving unevenness 9

    The great rebalancing act 11Shift back needed 11Housing ripe for recovery, though slow take-off so far 12Retail sector should improve 14Businesses have lowered debt levels 15AUD effect should wear off 16

    Resources curse revisited 19Has Australia been cursed? 20If its permanent, its all okay 20High commodities = high AUD? 20The curse of weak productivity growth 21A sharper global slowdown 25

    Other risks 25A weaker monetary transmission mechanism 26

    Australias fiscal cliff 27A stickier AUD 27Rebalancing smoothly the key challenge 28

    Forecast table 29Disclosure appendix 31Disclaimer 32

    Contents

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    3

    Macro

    Economics Australia

    November 2012

    abc

    Mining has been the big story

    The re-emergence of Asia has driven a massive

    rise in commodity prices over the past decade.

    This has had a profound effect on the shape of the

    Australian economy. It has also been a key driver

    of Australias relative outperformance when

    compared with the rest of the developed world.

    1. Commodity prices have fallen, but are still very high

    Australia's Commodity Prices2008/09 = 100

    0

    40

    80

    120

    160

    1982 1985 1988 1991 1994 1997 2000 2003 2006 2009 2012

    0

    40

    80

    120

    160

    In AUD

    In USD

    Index Index

    Source: RBA

    Commodity prices quadrupled in USD terms

    between the beginning of the century and their

    recent peak in late 2011 (Chart 1). Given this

    massive change in global prices, Australias

    economy responded by shifting more of its labour

    and capital towards the production of industrial

    commodities.

    Now that commodity prices have peaked though,

    concerns that Australia could see a mining bust,

    following its mining boom, have become more

    commonplace.

    We think these concerns are largely unfounded for a

    number of reasons. These include: our house view

    that Chinas growth will pick up next year; that we

    expect commodity prices to stay structurally high;

    that there is still a significant amount of mining

    investment yet to be completed on projects that

    have already started; and that we are yet to see a

    significant ramp up in resource exports as a result of

    the capacity that is being built.

    While the contribution of the mining sector to

    growth will probably be less in the future than it

    has been in the recent past, the mining story is not

    over yet. Plus, below average interest rates and a

    Mining story not over yet

    Rising commodity prices and rapid growth in mining investment

    have supported Australian growth in recent years

    Now that commodity prices have peaked, income growth is

    slowing, but unless prices fall dramatically from here, the nominal

    economy should continue to expand

    Growth in the real economy should be supported by mining into

    2013 as many investment projects are yet to be completed and

    resource exports ramp up to support growth after this

    Paul Bloxham

    Chief Economist, Australiaand New ZealandHSBC Bank Australia Limited+61 (2) 9255 2635paulbloxham@hsbc.com.au

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    4

    Macro

    Economics Australia

    November 2012

    abc

    steady AUD are expected to result in other parts

    of the economy picking up and Australian growth

    gradually rebalancing.

    Not over yet

    While commodity prices have passed their peak,

    and we do not think they are likely to return to the

    very high levels reached in late 2011, they remain

    at high levels relative to history. Indeed, careful

    examination of Chart 1 reveals that, while

    commodity prices have fallen over the past year

    (by around 20%) they remain above the high

    levels reached at their previous peak in 2008 in

    USD terms (which was much celebrated as a very

    high level of commodity prices at the time).

    We expect commodity prices to stay well above

    the very low levels they reached in the 1980s and

    1990s. We covered this topic in greater detail in a

    recent report: Commodities and the global

    economy: Are the current high prices the newnormal?, 8 August 2012. In short, we argued that

    back in the 1980s and 1990s, when commodity

    prices were very low, global growth was being

    driven by the developed world and its very large

    services sectors. Now that the emerging

    economies are driving global growth and have

    large infrastructure requirements, we expect

    commodity prices to remain at high levels. Put

    simply