MINING FINANCE / INVESTMENT

Top economist says Australia will avoid recession despite resource sector reliance

One of Australia's leading economic commentators believes Australia's banking system and economy is robust enough to prevent the country going into a recession despite the country's economic backbone - its resources sector - taking a major hit on commodity prices and near term growth..

PERTH - 

A paper presented by Mike Smith, Chief Executive of the ANZ Bank, one of Australia's major banks, to Prime Minister Rudd and Federal Treasurer Wayne Swan on October 23 has been released by its Author Saul Eslake.

While not painting a rosy picture, Saul Eslake - who is the ANZ's chief economist - said the bank does not expect Australia will experience recession, "in the popular sense of consecutive quarters of negative economic growth." However, many other Western economies will.

"We expect that real GDP growth will average 1.5% in 2008-09, well below the Government's Budget forecast of 2¾%, followed by 2% in 2009-10. Australia's real GDP could well have contracted in the current quarter but for the probable impact of the measures announced last week by Canberra (this would have included an undertaking of government support for the banking system).

Eslake said unemployment was expected to rise from 4.3% in September to about 5.25% by mid 2009 and peak at 6.25-6.5% by the end of 2009. (This is a reversal of the boom times up 'til the share market meltdown and global banking crisis when Australia's problem was a chronic shortage of skilled and unskilled labor due to four years of a volatile resources boom).

"Australia is exposed to the global recession which we believe is now under way, and the forces precipitating it, through three main channels:

• Commodity prices have fallen abruptly, and are likely to fall further, reflecting the slowdown in China and (arguably more importantly in this context) the recessions now under way in major industrialised economies. As a result, Australia's terms of trade are likely to be only 6% stronger, on average, in 2008-09 rather than 16% as assumed in the (Federal) Budget Papers, and to decline by around 7% in 2009-10.

• Because Australia is wholly reliant on the overseas borrowings of its banks to finance what is the world's sixth largest current account deficit (unlike other countries with larger deficits), the increase in wholesale funding costs experienced by banks around the world has been transmitted to Australia even though Australian banks have little or none of the exposures which have led to such significant erosion of confidence in North American and European banks.

• Australian business and household confidence has been significantly adversely affected by the torrent of bad news concerning the global economy, and by the losses which they have themselves directly and indirectly sustained through the fall in the Australian sharemarket over the past year, as well as by increases in interest rates and in food and fuel prices over the previous two years.

Eslake said that against all this, Australia has more scope than most other Western countries to deploy the conventional instruments of economic policy to counter these "contractionary" influences.

This includes a greater scope to cut Australian interest rates simply because they were higher to begin with than in most other countries (apart from New Zealand); The Federal Government has greater scope to ease fiscal policy than governments of most other Western countries, because it is starting from a position where the budget is in surplus and with no net public debt.

He said, however, economic forecasts should be interpreted with more than the usual degree of scepticism in the current environment. For what it's worth inflation is likely to fall more quickly than previously expected.