‘Spend and grow’ raises rates fears as GDP jump fastest in two years
Australia has recorded its fastest economic growth in two years, but economists warn excessive government spending could trigger inflation and force interest rate rises.
The nation’s fastest GDP growth in two years, driven by a rebound in private sector investment, has sparked warnings from economists that Labor and the states are still spending far more than they need, risking higher inflation and an interest rate hike next year.
As Jim Chalmers faces pressure to rein in spending when he releases his mid-year budget update this month – and the Parliamentary Budget Office identifies a $15bn hole due to a watered-down superannuation tax policy – the Treasurer said he was comfortable with the rate of government spending and encouraged by a five-fold lift in private sector growth in the past year.
But Reserve Bank governor Michele Bullock told the Senate on Wednesday that government spending had accounted for about half of all GDP growth in recent years and confirmed a link between big deficits and higher interest rates.
Asked at a Senate estimates hearing whether interest rates would be lower if the federal government deficit had not grown from $10bn to a forecast $42bn, Ms Bullock said: “Possibly. But there is a wide range.”
The Australian economy grew by 0.4 per cent in the September quarter, pushing the annual rate of growth up to 2.1 per cent.
“The main story here has been private demand and private growth and the recovery in our private economy – so that’s why these numbers are especially encouraging,” Dr Chalmers said.
As the Treasurer lauded private investment recording its fastest quarterly growth in almost half a decade, analysis from the independent PBO showed the federal government was facing a $15.5bn reduction in government revenue over a decade as a result of superannuation tax changes.
An alternative PBO study provided to the Greens showed a $5.6bn hit over the next four years when changes to the Low Income Super Tax Offset (LISTO) were included.
With such pressures on the federal government bottom line, the rebound in private sector spending and investment was a welcome sign for Dr Chalmers, who may also gain from the benefit of rising iron ore prices boosting government taxation revenues.
Efforts are also under way to find as much as $5.6bn in savings from low-priority departmental spending, while the Treasurer flagged on Wednesday that the government would make a decision on a potential extension of federal energy bill rebates in “coming days”.
“We’ll always manage the budget in the most responsible way that we can,” Dr Chalmers said.
While private investment grew by 2.9 per cent in the quarter – driven by massive investments in data centres in NSW – government investment also rose, up a strong 3 per cent in the quarter.
NSW Treasurer Daniel Mookhey said it was pleasing to see private investment on the rise as the state played “a leading part in this national growth story”. NSW government consumption rose the fastest of all the states in the quarter, up 1.3 per cent.
Across the country government spending grew by 0.8 per cent in the quarter and 2.6 per cent in the year, faster than private spending which rose 0.5 per cent in the quarter, up 2.5 per cent over the year.
Economists said the switch out of government spending was not happening, but should be given the pressures in the economy.
“Despite solid private demand, the rotation away from the public sector has not occurred and we risk having an economy that is pushing up against its potential rates of growth – an uncomfortable development given it comes at a time when inflation has accelerated,” said IFM chief economist Alex Joiner.
KPMG chief economist Brendan Rynne said the figures showed an economy with too much government spending.
“Household consumption as a proportion of GDP has stabilised to near pre-Covid levels, while government consumption continues to rise and now represents its highest recurrent spending level since September 1959,” Mr Rynne said.
“The implication is that unless government spending is better controlled, the level of inflationary pressure currently building in the economy will not have a chance to weaken.”
While the economic growth figure for the quarter was lower than economists expected, AlphaShares chief economist David Bassanese said such a result could be due to capacity constraints on business in meeting stronger demand.
Such an outcome would further place pressure on the RBA when it came to deciding interest rate hikes.
Financial markets priced in a higher chance of an interest rate hike late next year following the GDP result.
“The RBA will likely take little comfort from the slower headline GDP figure,” Mr Bassanese said in a note to clients.
“If anything, the weakness reflects supply limits, not falling demand. The lift in demand appears to have outpaced the ability of firms to supply it, forcing businesses to meet customer needs by dipping into stock. Inventories subtracted 0.5 percentage points from GDP.
“From the Reserve Bank’s perspective, this combination of broadbased demand strength and an inability of production to keep up hints at the economy pressing against inflation-prone capacity constraints.
“With clearer evidence of a broadbased pick-up in demand, the risk that inflation remains sticky has increased – along with the possibility that the next move in rates is up, not down.”
The Reserve Bank has warned that spare economic capacity is now at its narrowest in any recovery over the past 40 years.
Productivity, or output divided by hours worked, was up 0.2 per cent in the September quarter leaving annual growth at 0.8 per cent.
Improving productivity could help solve the supply constraint problem helping to ease any inflationary concerns and keep interest rates from rising.
Dr Joiner said improvements in productivity growth “remain modest” and a re-acceleration of population growth still suggested that the economy “gets bigger more quickly than it gets better.”
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