The Australian economy ended 2021 on a very strong note, expanding by 3.4% in the December quarter – matching the September 2020 outcome, and together the fastest quarterly growth rate since March 1976.
The main driver of that growth was consumer spending which lifted by 6.3% in the quarter as NSW and Victoria reopened following the delta led lock downs of the September quarter when the economy contracted by 1.9%, including a 4.8% fall in consumer spending.
The household savings rate fell from 19.8% in to 13.6% in the quarter. The increased availability of funds ($20bn) provided all the “funding” for the spending. Because household disposable income actually contracted by 0.5% as governments withdrew support payments.
However, the savings rate was still 7.6% above the “normal savings” rate of around 6% indicating that households added another $25bn to excess savings, which had already totalled $250 billion built up on household balance sheets over 2020 and 2021.
A critical determinant of growth in the Australian economy in 2022 and 2023 will be how quickly the savings rate reverts back to “normal” and what households do with their accumulated “war chest” of savings.
We expect that with wages growth lifting to 3.8% and the unemployment rate moving below 4% into “territory” we have not seen since the 1970’s households are likely to reduce their savings rate to 6% by end 2022 and to push the rate below the norm in 2023.
Geopolitical developments have now emerged as a headwind to global growth. For Australia the immediate impact of the hostilities has been a huge lift in Australia’s terms of trade and nominal incomes due to the surge in energy and base metal prices. On the other hand Russia only represents around 2% of Australia’s exports.
A fall in the household savings rate in 2022 to 6% (from 13.6% in December 2021), along with an expected 2.5% lift in household disposable income would see real household spending lift by 8% over the year – directly adding 4.2ppts to annual economic growth and being the key driver behind our forecast of 5.5% for GDP growth in 2022 (unchanged from our December Market Outlook).
That forecast does not take into account the lift in spending that would be associated with households putting their accumulated excess savings to work. But we think there will be some lags in that process. The likely drag from rising global interest rates will be an issue; supply of services is also likely to represent a constraint – international flight traffic will be operating well below full capacity in 2022; supply of hospitality services will be constrained by labour availability; and households will be cautious in the second half of the year as interest rates rise; house prices begin to fall and inflation is well above previous experience.
Those factors will remain prominent in 2023. We expect further limited falls in the household savings rate to below the 6% “norm” although households are likely to seek to maintain most of their excess savings reserve in the face of more uncertainty.
Overall, this profile for the household sector will mean growth in the Australian economy for 2022, is forecast to be a strong 5.5%, further supported by solid business investment as businesses respond to strong growth in nominal GDP; vibrant demand from households; and attractive tax benefits which are available until at least June 2023.
Government spending is expected to continue to provide ongoing support, expanding by a forecast 3.7% – albeit this represents a cooling from the rapid growth of the past two years, 6.4% and 5.6%, as governments responded to the pandemic. State governments have committed to additional public transport initiatives, with the total value of definite projects in this segment jumping from $135bn prior to the pandemic to about $230bn at the end of 2021. This will underpin a material lift in public infrastructure work during 2022 and into 2023. We are optimistic that housing construction (up 8.8%) and renovations (up 10%) are both set to boost the economy in 2022 – with a sizeable pipeline of work, in part a response to the HomeBuilder program.
However, we retain our cautious view about 2023 and 2024. Rising interest rates; falling house prices; and an increase in the unemployment rate (in 2024) will see household spending growth slow to 3.2% (2023) and 2.2% (2024) cushioned by some further easing in the savings rate as households draw on their reserves.
We think these factors will motivate households to retain most of their excess savings as they protect against the uncertainties associated with this stage in the cycle.
Business investment and housing construction will also slow as the weakening household sector weighs on demand.