Economy set to boom on back of property: BIS Shrapnel

The Australian economy is on the verge of another boom fuelled by the property market and sustained business investment, the latest BIS Shrapnel economic forecast reveals.

However, a distinct lack of public investment in infrastructure could affect Australia’s economic reach, along with inflationary pressures which could emerge within three or four years, leading to higher interest rates.

The report’s author and BIS economist, Richard Robinson, said in a statement the fact Australia survived the global financial crisis relatively unscathed gives the national economy a good standpoint from which to enter a boom period.

“We are now well and truly into recovery from what turned out to be a modest downturn – and not a recession as other forecasters predicted at this time last year… But it’s now time to look forward not backward. We’re into a rebuild phase, rather than a rebound.”

However, Robinson also said markets must be cautious, and not forget the financial crisis too quickly or else be faced with another industry disaster.

“Remember the ‘disastrous’ sharemarket crash of October 1987, which was quickly followed by the property boom of 1989, which preceded the recession ‘we had to have’.”

“The build up this time will be slower, but it’s the current caution in risk averse debt and equity markets that is setting us up for the stock and capacity shortages that will underwrite the next boom later this decade.”

Robinson said investment in the construction and housing industries will be at the forefront of the boom, with the company forecasting GDP growth of 2.7% this financial year, 3% in 2011 and 3.8% in the two-following years.

“Investment, and particularly the construction side of it, is the primary driver of growth in the economy. The next phase of investment will underwrite growth in the economy, but the timing and logic of each construction cycle is different, with varying knock-on effects to different sectors and across the states.”

The report states the construction industry will begin to take over from public spending as the main driver of growth.

“Initially spurred on by a combination of first home owner/builder grants and low interest rates, this upswing will gather momentum into a boom by 2012. Despite lingering affordability problems, healthy consumer confidence, high rents, a chronic undersupply and rising immigration will continue to boost first home owner, investor and upgrader demand.

“But the question is how long will the housing boom continue in the face of rising interest rates?”

Additionally, while the report states consumer spending will be restrained in the short-term due to the aftermath of the financial crisis, Robinson said wages growth and higher levels of employment will spur spending, even though tax cuts may be delayed until the budget returns to a surplus.

Moreover, a number of mining projects, higher commodity prices, plant and equipment investment from local businesses and an improved global economy will reinforce Australia’s economic success.

However, there are still dangers. BIS said it expects public spending to decline, even though more infrastructure investment is needed.

“The cutbacks to infrastructure and education spending over the decade to the mid-2000s caused severe bottlenecks, capacity constraints and lowered productivity growth.”

“We fear that the really worthwhile public infrastructure – that is, the capital works that underwrites long run productivity and the economy’s growth potential – will be again cut now, ultimately realising the same problems that occurred pre-GFC. With this likely to happen, then the government’s 2% productivity target just looks like a vain hope.”

Additionally, Robinson stated the high Australian dollar is damaging competitiveness, and hurting the manufacturing and tourism industries.

“This not only acts as a constraint on those exports, but more significantly sucks in more imports. With import volumes forecast to outpace stronger export volumes in the medium-term, there will be a negative external contribution to GDP. This will act to keep GDP below 4% in 2011/12 and 2012/13, despite booming domestic demand.”

The forecaster also expects the Reserve Bank of Australia to lift the cash rate over 6% in the short- to medium-term, due to the fact the Australian economy entered the downturn with “little excess capacity”.

Overall, however, Robinson said strength in total investment and exports, along with better performances in the wholesale trade, transport, health and financial and professional services sectors will help sustain improved economic activity for years.

“This will be the golden age – rising capacity utilisation will realise a cyclical increase in productivity, lower unit costs, lower inflation and higher profits and real wages.”