Statement 2: Economic Outlook

Overview

The Australian economy is in the midst of a major transformation, moving from growth led by investment in resources projects to broader‑based drivers of activity in the non‑resources sectors. This is occurring at a time when the economy has generally been growing below its trend rate and the unemployment rate has been rising. During this transition, the economy is expected to continue to grow slightly below trend and the unemployment rate is expected to rise further to 6¼ per cent by mid‑2015.

In this environment, the Government is focused on implementing measures to support growth and jobs while putting in place lasting structural reforms to restore the nation's finances to a sustainable footing. The timing and composition of the new policy decisions mean that the faster pace of consolidation in this Budget does not have a material impact on economic growth over the forecast period, relative to the 2013‑14 Mid‑Year Economic and Fiscal Outlook (MYEFO).

Since MYEFO, the near‑term outlook for the household sector has improved. Leading indicators of dwelling investment are consistent with rising activity, while household consumption and retail trade outcomes have improved recently, consistent with gains in household wealth. This is partly offset by weaker business investment intentions, particularly for non‑resources sectors.

The outlook for the resources sector is largely unchanged from MYEFO. Resources investment is still expected to detract significantly from growth through until at least 2015‑16, as reflected in the outlook for investment in engineering construction which is forecast to decline by 13 per cent in 2014‑15 and 20½ per cent in 2015‑16. Rising resources exports are only expected to partially offset the impact on growth. Overall, real GDP is forecast to continue growing below trend at 2½ per cent in 2014‑15, before accelerating to near‑trend growth of 3 per cent in 2015‑16.

The labour market has been subdued since late 2011, characterised by weak employment growth, a falling participation rate and a rising unemployment rate, although outcomes since the beginning of 2014 have been more positive. The unemployment rate is forecast to continue to edge higher, settling around 6¼ per cent, consistent with the outlook for real GDP growth. Consumer price inflation is expected to remain well contained, with moderate wage pressures and the removal of the carbon tax.

The outlook for the global economy has improved gradually since the end of 2013, led by a pickup in activity in advanced economies, most notably the United States. While activity has moderated in emerging market economies, these economies are still expected to contribute nearly three quarters of global growth over the forecast period.

Despite continued solid growth in China, prices for Australia's key commodity exports have fallen sharply since the start of the year. Coal prices are expected to remain weak while iron ore prices are expected to ease further in line with growing world supply. In light of a further expected decline in the terms of trade and subdued domestic price growth, nominal GDP is forecast to remain historically weak, growing by only 3 per cent in 2014‑15 before strengthening somewhat to 4¾ per cent in 2015‑16.

Sustained softness in nominal GDP growth is a recent phenomenon, emerging over the past two years. Given the importance of nominal GDP to income growth, this continuing weakness contributes to ongoing subdued growth in a number of major areas of revenue.

There are both upside and downside risks to the economic outlook. Most notably, non‑resources business investment could pick up earlier and more rapidly than expected following a prolonged period of caution, while some trade‑exposed sectors would benefit from a lower exchange rate, which is historically an outcome associated with a fall in the terms of trade. Conversely, the fall in resources investment is likely to be lumpy, while the associated rise in exports also has uncertain timing. International risks are more balanced than previously, though still to the downside as economies continue to deal with legacy issues from the financial crisis.

There is always a degree of uncertainty around the forecasts, which can be estimated based on past errors. Appendix B of Statement 3 provides further detail. The degree of uncertainty is also reflected in the divergent views outside government. The Budget forecasts are within the range of non‑government forecasts. Appendix B provides further detail. Appendix A analyses the performance of Treasury's 2012‑13 forecasts in retrospect.

(a) Percentage change on preceding year unless otherwise indicated.

(b) Calculated using original data unless otherwise indicated.

(c) Chain volume measures except for nominal gross domestic product which is in current prices.

(d) Excluding second‑hand asset sales between the public and private sectors.

(e) Percentage point contribution to growth in GDP.

(f) Seasonally adjusted, through‑the‑year growth rate to the June quarter.

(g) Seasonally adjusted rate for the June quarter.

(h) Through‑the‑year growth rate to the June quarter.

Note: The forecasts for the domestic economy are based on several technical assumptions. The exchange rate is assumed to remain around its recent average level — a trade‑weighted index of around 71 and a United States dollar exchange rate of around 93 US cents. Interest rates are assumed to move broadly in line with market expectations. World oil prices (Malaysian Tapis) are assumed to remain around US$113 per barrel. The farm sector forecasts are based on an assumption of average seasonal conditions in 2014‑15 and 2015‑16.

Source: ABS cat. no. 5206.0, 5302.0, 6202.0, 6345.0, 6401.0, unpublished ABS data and Treasury.