Australia: IMF Staff Concluding Statement of the 2016 Article Mission
IMF News, November 15, 2016
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- Published: November 15, 2016
Context
- Australia is transitioning from the mining boom with strong growth and relatively low unemployment, yet showing symptoms of the “new mediocre”:
- Wage and price pressures are weak.
- Underemployment has risen.
- Non-mining investment is yet to fully recover.
- Resilience since 2011 reflects:
- A flexible exchange rate acting as a shock absorber.
- An accommodative monetary policy stance.
- Export orientation to the dynamic Asia region.
- Flexible labor markets, relatively high population growth, and strong institutions.
- Structural and macro-financial vulnerabilities:
- House prices and household debt ratios have risen further in the low-interest environment post-GFC.
- Perennial, sizeable net external liabilities, intermediated in part through the banking sector.
Recent Developments, Outlook and Risks
- Near-term developments:
- After a pickup from mid-2015, annual growth has increased to over 3 percent, partly on account of temporary factors.
- Both headline and core inflation are now below the RBA’s 2 to 3 percent target range.
- Economic slack has started to moderate, but the fall in the unemployment rate has likely overstated labor market improvement.
- The underemployment rate has risen; about 80 percent of jobs created over the past year have been part-time jobs.
- Macro-financial developments:
- APRA’s late-2014 prudential measures (including tighter lending standards focusing on debt serviceability) have improved the risk profile of new loans.
- Overall housing credit growth and market turnover remain lower than last year, but house price upward pressure has remained strong in some cities.
- Household debt remains high, but risks are mitigated by strong growth in deposits in mortgage offset accounts.
- Banks’ CET-1 capital ratios have, on a comparable basis, narrowly moved into the upper quartile of international peers, aligning with the Financial System Inquiry recommendation that banks’ capital positions be “unquestionably strong.”
- Banks are preparing to meet net stable funding ratio requirements by 2018; the share of stable funding in liabilities has already increased.
- Outlook:
- Baseline: continued gradual recovery; growth expected to moderate somewhat over the next two years.
- Disinflation experienced in 2015-16 is expected to start reversing.
- House price inflation is expected to realign with broader measures of nominal income.
- Accumulation of net external liabilities should slow in the absence of valuation effects.
- Balance of risks:
- Tilted to the downside.
- Upside: stronger recovery momentum and terms-of-trade improvements could boost business confidence and investment.
- Downside: subdued investment if corporate profits remain under pressure; consumption weakness if wage growth stays low.
- External risks: rising populism and nationalism, tighter and more volatile global financial conditions, and a sharp growth slowdown in China could interact with domestic risks (notably a housing correction).
Policy Discussion
Monetary Policy
- Recommendation: monetary policy stance should remain accommodative in a still disinflationary global environment.
- Rationale and guidance:
- Low inflation in Australia may persist longer than expected; RBA’s prompt response to early-2016 inflation underscored commitment to inflation targeting.
- Prudential measures have mitigated financial-stability concerns from lowering policy rates further.
- With a very gradual return of inflation into the target range, lengthening the forecast horizon in monetary policy statements could clarify the RBA’s expectations about the inflation path.
Fiscal Policy
- Fiscal space and recent performance:
- Australia has fiscal space despite missed recent budget targets and rising debt.
- Debt-to-GDP metrics suggest fiscal space under both baseline and economic stress scenarios.
- IMF staff view: worse-than-planned budget outcomes over past years reflect weaker-than-expected growth rather than policy easing.
- Government plans and IMF staff advice:
- Government appropriately plans to balance the budget over a 5-year horizon while making expenditure composition more growth-friendly.
- Expenditure focus: infrastructure and measures supporting longer-term and inclusive growth, including boosting innovation and addressing youth unemployment.
- IMF staff recommend a more gradual pace of targeted fiscal consolidation under the baseline and ramping up some growth-friendly spending.
- Specific budget concerns:
- The May 2016 budget targets front-loaded consolidation, especially in FY2017/18 where the adjustment is penciled in at roughly 3/4 of a percentage point of GDP; such pace could be counterproductive now.
- Australia has fiscal space to aim for a balanced budget by FY2020/21 with more gradual consolidation.
- General government infrastructure spending increased in FY2016/17 mainly due to higher state spending; Commonwealth capital spending is expected to rise by ½ of a percentage point of GDP in the current budget year but is projected to level off and decline thereafter.
- IMF staff recommendation: a sustained, multi-year increase in efficient Commonwealth infrastructure spending would be desirable, provided discipline in recurrent spending is maintained.
- Contingency and long-term framework:
- If high-impact downside risks materialize, fiscal policy should support aggregate demand, since monetary policy could be constrained by the lower bound on nominal policy rates.
- Contingency plans and a pipeline of infrastructure projects would reduce implementation lags for fiscal stimulus.
- IMF staff recommend considering augmenting the current medium-term budget balance anchor with a longer-term debt anchor implemented over a 5- to 10-year horizon to provide certainty while allowing countercyclical support if needed.
Managing Macro-Financial Vulnerabilities
- Focus: strengthen resilience to housing market and other shocks with macro-financial implications.
- Recommendations:
- APRA should be ready to intensify targeted prudential measures if investor and other risky lending or house price growth re-accelerate, calibrated to avoid triggering a sharp correction.
- APRA should continue to encourage banks to anchor capital positions in “unquestionably strong” territory given a highly concentrated banking sector with similar business models.
- Treasury should continue preparing legislation to implement Financial System Inquiry recommendations, including on the crisis management toolkit and bank resolution.
- APRA should continue implementing prudential steps to strengthen banks’ loss absorbing and recapitalization capacity and introduce leverage ratios, in line with the international agenda.
- Tax reform could enhance macro-financial resilience by removing household incentives for leveraged real estate investment that likely amplify housing cycles.
Keeping Up Productivity Growth
- Challenges:
- Overall labor productivity growth remained broadly stable over the 2000s, but labor productivity growth has been weak in some services sectors with growing employment shares; multifactor productivity growth has been weak more generally.
- Government reform agenda:
- Focuses on fostering innovation and strengthening competition.
- National Innovation and Science Agenda allocates $1.1 billion over four years to boost innovation and entrepreneurship in the high tech sector; IMF staff encourage continuation and possible expansion if effective.
- Measures recommended by the Harper Review would strengthen services sector competition and productivity; implementation requires extensive Commonwealth–State/Territory collaboration.
- Continued efforts toward further trade liberalization in regional and multilateral fora are welcomed; expanding access to service export markets could strengthen services sector productivity.
- A strong social safety net and active labor market policies would mitigate adjustment costs for affected workers.
IMF Communications Department — Mission Concluding Statement, November 15, 2016