An economic update - looking into 2024 locally and globally

Last but not least is our guest speaker, the Chief Economist at Bank of Queensland, Mr. Peter Martin.

Peter has held this position for almost 10 years.

Prior to that, he worked at the Federal Treasurer in Canberra, Bankers Trust and CBA.

He co-authors reports on the Australian and Chinese financial system that gained significant international media attention.

Tonight, Peter will provide us an economic update looking into 2024 locally and globally, followed with a Q&A session with me.

Welcome, Peter.

Thanks very much, Angelina, and thanks very much for the invite.

I actually couldn't have said nice words if I had written them myself.

So look, what I'm going to end up doing is going straight to my presentation,

Of course, in any presentation, particularly if you have an economist, there's plenty of slides to see, lots of data, a lot of charts.

I'm not gonna disappoint you today, but inevitably when you get a presentation, there's always one thing that stands out.

And the next slide is that slide, which is something I want you to keep very firmly in your mind.

There it is.

This is the most important slide you'll see.

It's general sort of advice I'm providing you all in terms of the macro economy.

I'm gonna go through three things today.

I'm going to touch on the US, why it is outperforming, and a couple of quick issues.

The second one is China.

It's been increasing of importance for the domestic economy.

I'm going to talk about a couple of issues associated with China.

And the third thing I want to quickly touch on is Australia.

Where's Australia at?

What are the drivers?

And what is some of the outlook?

And what are the implications for interest rates?

So these are three things I want to go through quickly today.

So first of all, on the US, the US economy's done

a lot better than what people thought and certainly it's been the strongest of all the developed economies.

Probably only really India has stood out to be a stronger economy globally in over the last year or two.

Why has the US been such a strong economy?

And it was actually an issue raised recently before with Governor Bullock at parliament.

Probably the main run is simply the consumer and the consumer is so strong because they've got so much extra money they could spend, certainly more

the growth in their incomes has been a lot stronger than a lot of peer economies.

Why has it been strong?

Well, the US economy has been strong, employment's been strong, wages growth has been up, but to be honest, that's been the case in most of the economies.

So there's been no real unusual story about the US.

One is that inflation in the US came down quicker than other economies, so that inflation tax, which was a big issue for all consumers, became less of an issue quicker in the US.

And the second one, though, is interest payments.

Like in the US, we all know the famous 30-year fixed-rate mortgages.

If you've taken it out, you've still got about 27 years to go in terms of your rate if you took out your mortgage during COVID.

And if you look at the interest payments paid for you by US consumers, it's declined a lot through COVID.

It has picked up.

But where we are today is actually now lower than it was pre-COVID.

So one reason is consumers are spending a lot.

They're spending a lot because they've got more money because of lower inflation.

A second one is the interest payments have hit them nowhere near as hard, certainly as here, but even the case in most other economies.

And this is the case, by the way, not only for households.

If I put up the same chart for businesses, because businesses in the US can borrow again for longer terms, typically in other economies, their interest payments relative to their profits,

is also still quite low.

So how households and businesses borrow is a big part of the game.

Of course, the flip side of the coin is that new borrowers are not borrowing quite as much because the interest rates have gone up, and we see that some impact in the US housing market.

A third big reason about why the US consumer's been spending is because they've been happy to A, reduce, not save as much as they used to, and B, reduce what saving they've actually got.

They've done those two things a lot more aggressively than other peer economies.

So they've had more income, they've been happy to save less, happy to run down their savings, and the fact that their interest payments haven't gone up.

So all very, very good reasons about why the consumer in the US has been a lot stronger than everywhere else.

The final big reason about why the US economy is in a far better shape

is that their government is giving so much more fiscal support to its economy than any other economy.

And you can see that in the right-hand chart, the size of the budget deficit in the US relative to all other economies.

So these are all the big reasons why the US economy has been a lot stronger than other economies in 2023.

It's likely to be stronger again in 2024.

Yes, it's the fact that the consumer may not be spending quite as much because its employment growth is slowing.

They may not be running down their savings quite as much.

So that is true.

It is also true that government's probably not going to provide quite as much support to the economy, but it's still likely to be true that the US economy is going to enjoy a decent year this year in terms of its economy.

Now, of course, that's a bit of an issue in terms of for the Federal Reserve, the US Central Bank, because inflation is slowing, but not quite enough yet.

Its economy has softened, has weakened a little bit, but nowhere near quite as much for the factors I've put forward today.

And so that whole question about when the US is going to start cutting rates and buy how much is a big, big question for financial markets this year.

And my answer to that, by the way, is not that much different from where financial markets are.

They'll start sometime around middle of the year and probably only do about one and a half to two percentage points in this rate reduction cycle.

This chart, by the way, is for the short term, which is why the US economy is strong right now.

But it does leave that longer-term question.

How long can the US run these big budget deficits at a time when its government gets high?

Now, I don't think this is going to be an issue for financial markets this decade, but at some point in time, the US political system will have to come up to answer that question.

It just does not look like a provided answer any time soon.

So the first point is that the US economy is pretty strong, is likely to remain strong, albeit not quite as robust as it was in 2023.

The next one, next thing I'll quickly focus on is China.

We sort of, most of us actually know the Chinese story has been publicised pretty well.

The bottom line is that the housing sector experienced amazing growth in China.

There's no real surprise that 500 million people over the last three decades moved from the country to the city, 500 million people.

So that 500 million people, we had to find new homes for.

And of course that led to an absolute massive housing investment boom.

But what we also know is that the population growth in China has slowed sharply in recent years, and in actual fact, starting from last year, it started to go backwards.

So all of a sudden, in aggregate, China started to need a few lesser homes.

Now, if you look at the amount of housing investment in China, it is four to five times the amount of investment that Australia does.

Four to five times, relative to the size of the economy, the amount of investment that Australia does.

Now, for a while that mattered, that made sense, 500 million people going from country to city, but it makes a whole lot less sense now when the Chinese population going backwards.

And as we know in Australia, our population growth still remains pretty strong.

So what we can see is that green line in that chart will have to come down to at least the orange, if not below it.

So we know that one part of the economy in China must be slowing quite sharply.

That's one part, must go slow slightly.

And that matters a lot for China because 30% of its growth

over the last decade has been from this housing investment.

So that's issue one.

Where does China soak up that missing growth that it's absolutely going to miss out on because of the change of resources away from the housing sector?

One of the other implications from not only its very strong investment to housing, but more generally its very strong investment over its economy is a lot of that is funded by debt.

But if you look at this chart, China's debt to GDP ratio, that's on the bottom axis there, is basically well and truly above where it should be given its income level.

If you draw that line up, sort of an imaginary line up from China up to where that dotted line is, it basically says that China's income should be about three times its current size, income per person should be three times its current size, given the amount of debt as its economy.

The amount of debt in China is a huge issue, and that is a fundamental reason about why a lot of investors will say, why is the Chinese government doing a whole lot more, borrowing a whole lot more to support its economy?

The main reason is this, because already, from an aggregate perspective, China has too much debt.

So that answers the question about why the Chinese government hasn't been as aggressive as what people have been thinking about to support its economy.

But they have been doing some things to support its economy.

I mentioned earlier on about that missing growth

One of the things that it has done over the last 15 years is say to themselves, where will the growth of the future be?

Electric vehicles, batteries, solar panels, China all of a sudden dominates the manufacture of those.

You just have to look about the biggest manufacturers in the world are batteries.

China has almost 80% market share.

Of course, that is a big thing for China.

It's sort of a

helping a little bit to fill in the growth hole created by the slowdown in housing.

Of course, this massive move towards batteries and so forth, the industries of the future is creating other issues, particularly with countries worried about, well, if that's the future and we've got to rely on China, what does that practically mean for us?

So,

The different governments are basically going through that right now.

How much do we want China involved in all the industries of the future?

What sort of state should we be having or other countries be having in that?

One other positive, potential positive for the Chinese economy.

So I mentioned there was 500 million people going from the country to the city.

If you look at the urbanisation rate in China right now, it's increased very sharply for the reasons that I just touched on, but still it is well below what most of the developed economies are.

Typically, 80 to 90% of people live in the cities in all developed economies.

That number is about two-thirds in China.

So in other words, somewhere close to 150 to 200 million people are likely to be moving to cities over the next one to two decades in China.

So that means that even though the amount of demand for homes that we've seen over the last 30 years, we're not going to see that again because the overall population growth is slowing.

What it does mean is that houses will still need to be built in some particular cities.

What we're starting to see in China is an easing of regulations to enable people to move more freely around the country, including going to countries of the cities.

And that'll be one of those other big sort of growth drivers of China that they will have.

Let me get to the big picture point.

The big picture point is this.

If you look at the total number of people working in China, so if you go back 15 years ago, it was about five times the size of the number of workers in the US.

Right now, the Chinese economy is 70 to 80% of the US.

If you went back 15 years ago, the number of workers was five times in China and the US.

Now, that's declining because the number of workers in China has actually been falling for 15 years.

And the US is going up, albeit more slowly than it used to be.

So that ratio will decline against China in coming decades and increasingly so.

But let's say, go forward, say 20, 25 years.

that number might instead be five times as many, will probably be something like four times as many.

Then if you go on the left hand chart, the productivity per person, right?

So you look at say Australia, which is the green bar there, it's about 70%.

Australia workers at 70% as productive as a US one.

If you go to Greece, they're about as half as productive as a US worker.

In China right now, it's a quarter as productive.

And if you think of all the investments that China's making, the improvements in education system, its leadership in a number of industries, the growth of payments, all those sorts of things, you've got to say that productivity per person in China has got to be catching up to the US.

So let's just say it goes to where Greece is in 20 years time, half as productive.

So you've got four times as many workers.

They're as half as productive as the US.

The basic math gives you the Chinese economy therefore is twice as big as the US economy.

It's currently 70 to 80% size.

Now, maybe it doesn't get there, but the bottom line point is, is just that the basic mass does say to me that on a two to three decade standpoint, that China's economy still is likely to outperform the U.S.'s.

That's on a two to three decade standpoint.

Of course, this whole question, which we touch on at the very start, how China changes its growth, rebalances its growth from housing to other parts of the economy, that is a critical challenge.

And that will be a critical challenge for their policymakers for at least the next five years.

So the first one is the US economy has been really strong, surprisingly strong in 2023.

I think it's likely to have a decent 2024, albeit not quite as good.

How strong it will be will be an important issue about how much interest rates decline in the US and potentially the world this year.

On China, it absolutely is facing some serious short to medium term challenges.

But in the big picture, that basic numbers and productivity does say that China's economy's still got good days ahead.

Which brings me to Australia.

Where are we as of today?

And, you know, I think it's a general consensus view, and we'll find out more with the Q4 GDP numbers when they come out.

But what we'll find out in 2023 is that the economy was sub-trend, right?

And the main reason why the economic growth was sub-trend is that disposable income growth after and after inflation in Australia is the weakest it's been in 40 years.

We have not seen anything this aggressively negative for the consumer for 40 years.

In fact, if you look at that left-hand chart, it's been quite negative now for a while and certainly more than the sharp declines that we had in the 70s and the 80s.

You can argue we have not seen anything this bad for the consumer for 60 years.

Now, there's an interesting paper that the Reserve Bank wrote probably at the start of 2024 about what are the drivers about those changes in household disposable incomes.

Why has it been so weak?

Now, one thing we know it's not to do with the fact it's employment growth or wages.

Employment growth, the labour market's the strongest in 50 years, wages growth is the strongest in 20 years, right?

So that's actually been a really strong part of the economy.

There's a lot of talk about interest rates and absolutely that's been a negative for consumers.

But if you look at that chart on the right hand side, those sort of yellowy bars there are no more negative than they were sort of 15 years ago.

Now, that might seem a little bit strange for those of you that have a mortgage, because for those of you that have a mortgage, what that will sort of say is actually that things are actually really tough right now.

That is absolutely true.

The reason why those yellow bars aren't quite as big is that for some people, it is really hard and tough for those with a mortgage.

For those that don't have a mortgage, in actual fact, they're getting as good a returns that they've seen in terms of deposit rates, et cetera, that they've seen in about 15 to 20 years.

So some people are benefiting big time from the high rates.

Some people are obviously finding it tougher.

So those are the two reasons that haven't driven this toughness time for the consumers.

What has therefore?

Well, the first one is just basic inflation, the inflation tax.

The inflation tax was basically 8% in 2022.

By the end of 2023, the inflation tax came down to four.

The good news is that inflation tax, I'll touch on a bit more, is slowing more.

So the first bit is that big tax has been a big, big negative, but it's slowly becoming less so.

The second one is because wages growth has been so strong and employment growth has been so strong, that has meant more people pay income tax, but it's also been more people have been pushed into higher tax brackets, the so-called wages creep.

And the big tax payments has been a big negative.

The third one, which is a lot less been discussed, is the fact that income outside of interest rates and wages has been a lot lower than it has been outside the last 10, 15 years.

And that's the way government and the main reason for that

It's a different way how governments are paying people money.

The bottom line from all these charts and data information and so forth is that people have got a lot less spare cashflow hanging around to be spending.

And what's the obvious outcome if you've got a lot less spare cashflow?

The obvious outcome is you spend less.

And the most obvious thing you spend a lot less on is on discretionary items.

You know, going out to restaurants, going for entertainment, et cetera, et cetera.

And if you see that, that's essentially was flat.

Spending was essentially flat on discretionary spending over the course of 2023.

And remember, this chart includes inflation.

So if you take it to four to 5%, it actually says that spending on discretionary items is down four to 5% of what you actually bought.

last year and even on non-discretionary items it is there was quite sharp slowing and no surprise if you actually asked households how you're feeling about your budget the only time they've been as negative as they are right now was during the 1990s recession the hardest toughest recession Australia faces the 1930s right so consumers absolutely were feeling it now

I don't feel like saying negative pessimistic things.

That's not who I am.

So let me just sort of give you a bit of heads up that if you look at that chart close enough, the last little bit, you start to see some improvements.

So that's sort of the good bits of the good side.

So households have had it very tough for these disposable income reasons.

Now for a while, businesses were fine.

For a while, businesses were fine for two reasons.

First of all, there was this big increase in prices, big increase in costs.

And what businesses were able to do overall across all industries on average was pass them along.

Margins for businesses were essentially unchanged.

So basically margins were unchanged, and while each one of us was spending a lot less, there was a whole lot more of us because of very strong population growth.

So strong population growth, unchanged margins.

Lo and behold, for a period up to the start of 2023, business sentiment was extremely strong about how they saw things.

But then gradually over last year in 2020, gradually over 2023, business sentiments slowly declined.

And it's been a very sharp slowing over the course of the back end of 23 into the early months of 2024.

And why is that?

Because eventually that sluggish consumer spending, the stuff that we've already touched on, eventually is playing into businesses.

That's where we started to see some issues.

A number of businesses are really feeling it, and the most obvious ones that have been feeling it are those dealing with discretionary consumer spending.

Now, all this sounds quite pessimistic.

Consumers are spending less because they've got less income.

Businesses are starting to feel the pain from that, right?

So these are all the reasons about why growth has been sub-trend and why the first half of this year will be at least, the first half of 2024 will be at least as weak in terms of the economic growth

as the second half of 2023.

That's not all negative, right?

So the first bit is, if you actually ask workers, do you expect, you know, lots of close downs, downsizing, redundancies, whatever, however you want to term it, the number of people expecting that is really low.

Now that number likely will rise over the course of 2024 as businesses slow a little bit, but it is very, very low.

And one of the reasons it's very, very low and likely to remain very, very low is that businesses have just had two or three years.

They face the toughest jobs market in 50 years.

After facing the toughest job market in 50 years, the first thing you're not gonna do is get rid of people, right?

You might employ less people, but the last thing you'll probably end up doing is get rid of the people that you currently got.

So that's the first bit.

We're unlikely to see widespread redundancies, I think, in this part of the economic cycle.

Another good reason for optimism is frankly, there's just so much to do in this economy.

If you actually add up all the building work, whether it be residential construction or non-residential construction, engineering, building bridges, building mines, whatever it might be, do that relative to the size of the economy, that is at its highest level apart from the biggest mining boom Australia's ever seen.

We have just got so much work to be done.

And the biggest constraint a lot of people in mining, manufacturing, construction has had is just trying to get people.

So the extent that there's any sort of slowing from some sectors economy, some people can go and work in construction, whatever, and that'll help those sectors do the things that they need to do.

And more generally, if you just sort of think about what we need to do in this economy, we need to build more homes, we need to build more infrastructure, there's got to be climate change,

All those things say that there's plenty of work out there not only to do today, but there will be to do in coming quarters to come, coming years to come.

And finally, I mentioned before about different government payments and so forth.

This is sort of an economics concern, government consumption spending.

But one of the things that's driven that up very aggressively over the last 10 years is programs like the NDIS.

So actually, instead of giving us payments, the government is making the payment itself after the providers.

And that has increased very, very strongly.

And if you think about a lot of the discussion that we're having throughout the economy, it's about increasing resources to the so-called care economy, aged care, childcare, NDIS, et cetera.

So this is likely to remain a growth area for a while.

Then there's the point I was making earlier on.

So what was the big issues confronting our economy?

It was household disposable incomes.

One of the big things that was hitting it, as I said, was that inflation tax.

And I touched on the inflation tax come down.

It was at eight.

It came down to four.

Now it's in the threes.

At a minimum, I think we'll get down to three to three and a half percent.

In fact, if you look at the sort of run rates, monthly quarterly run rates, it does say that's essentially where we are.

If you look at what's happening globally, virtually all inflation globally is getting into that much.

And one of the things that stands out from the chart is it's been a very synchronised inflation cycle this time around, because it's been a very similar to trends that's caused inflation.

So I expect inflation to be lower, which is actually obviously puts more spare cash into people's pockets.

One reason to be more optimistic in the second half of the year.

Another one, it's one issue to be constrained that inflation is about how quick it will slow from the three to three and a half percent mark.

And if you look at that chart on the right hand side from the RBA, you'll note from virtually all economies, there has been some sluggishness.

Once you get down to three, it seems to be a little bit harder to get it down because those service sector economies are still dealing with the lags impacts of higher inflation.

Think an insurance company, you know, car insurance, all of a sudden it's still paying the higher labour costs, the higher goods costs to repair a car.

And because of all those things, the premiums are still going up.

And so it's that lagged impact we're still seeing in the service sector about why it's been harder to get inflation down globally.

It's likely to be why it's been harder to get down here.

So one reason to be optimistic on is the consumer will be better because of the lower inflation tax.

Another one is the tax cuts, right?

I mentioned that was sort of one of the big negatives.

That's all of a sudden going to go from negative in the first half of the year to a positive for the second half of the year.

And with that positive,

then it's a question about how much will that be spent?

Because that's a big question.

After your last tough one or two years, do you wanna rebuild your kitty for all the money you've spent the last year or two?

And this is where the government's changes, the tax cuts come in.

A lot of it originally was going to high income earners, people that typically, as the chart suggests, would save about 40% of income.

Now the skewing a lot to the lower end was if you average those other four lots of income, it's around 15 or 20%, which says to you a whole lot more money of the tax cuts is likely to be spent.

And at least according to my back of the NBI calculations, we're at about 0.1% of GDP.

So what this means is that first of all, the big negative for our Australian economy, household disposable income is gone from a big negative.

And as we get into through this year, it's gonna become a positive.

and because of the way the tax cuts have changed more generally, then more of that will be spent.

When you add in the fact there's all that work to be done, add in the fact that fiscal policy looks like it's gonna be more supportive, add in the fact that financial markets very strongly believe interest rates globally will be declining as we go into the second half of the year, that all suggests to me that the economy will be picking up as we go into the backend of 2024, and I think it will be stronger again as we go into 2025.

What does all this mean for interest rates?

One of the really interesting, surprising questions that I received in 2023 is, is the mortgage rate going to go back up to 17.5%?

Now, I was shocked when I first got that question.

I thought there's just no way in the world we can get a mortgage rate of 17.5% where we are today.

But the reason, of course, is that a lot of the people asking that

once upon a time, dealt with 7.5% mortgage rates.

And they dealt with that in 1990, and what 1990 stands out, because that was the last time we had an 8% inflation rate, which is exactly what we had in 2022.

So when you think about it, it's not that silly a question.

And my answer to that question was a 7.5% mortgage rate didn't happen in 1989, didn't happen because of something that happened in 1987.

7.5% mortgage rate happened because of something that happened in the early 1970s, because in the early 1970s, inflation went up, interest rates went up,

Then all the economy started to slow, but when they reduced interest rates, inflation hadn't fallen enough.

So the next time the economy picked up, inflation went up even higher.

So they brought up interest rates even higher.

Then the economy started to slow, but they didn't allow inflation to come down enough.

So the next time the economy picked up, inflation went up higher and that circle kept on going until we had 7.5% interest rates by 1989.

And it is this chart that

the central banks got very much in mind.

They do not want this to happen again, which is the reason why all central banks, including our own, have been very, very cautious.

Yes, they can see the economy slowing.

Yes, they can see the inflation is coming down, but they do not want to make that mistake that they made in the 1970s again, which is the reason why they want to be absolutely certain that inflation will be in the twos or very

close to the twos before they'll be cutting interest rates.

So what does this practically mean for interest rates?

So the first one is the economy is slowing, but still doing okay.

Inflation is coming down, but it might take a while to get into the 3% mark.

And that global backdrop is very, very similar.

That says to me, I would not be expecting any rate cuts in the first half of the year.

In fact, I would not be expecting a rate cut until the earliest, until the end of 2024.

And it may not be even until early 2025, till we actually get the first one.

The second one is, I spoke about all the work that needs to be done.

I spoke about the additional fiscal support.

I spoke about the additional income that households would like to get.

All those things by itself should mean the economy's better.

And all those things mean you're unlikely to need to reduce interest rates significantly in this economic cycle.

So our current cash rate is 435.

If you look where financial markets were pricing just a week or so ago, they suggested that the cash rate might only come down by about three quarters of a percentage point in this cycle.

Maybe it's a little bit more, but unlikely to be a whole lot more.

So that's it.

Overall, from my standpoint, Angelina, what I sort of say is overall, the US economy has done very strong.

It's been the pillar of the global economy for last year.

I expect 2024 to be decent, but not quite as good.

The Chinese economy is struggling.

We'll have some serious questions over the next three to five years.

But I think there's still some good news to be had for its economy.

But on a longer time frame,

And the Australian economy, I think there are better times to be coming ahead.

I think we'll start to see them in the back end of 2024 and more clearly next year.

I might leave it there, Angelina, and head it back to you.

Yeah, absolutely.

Peter, thank you so much for the wonderful presentation.

You actually answered a few questions I have, but I do have some questions for you.

The first one being, markets remain focused on where interest rates are heading with global and Australian inflation remaining elevated versus the central bank's targets.

Do you believe the RBA, the Fed and the rest of the world's central banks are in control of inflation at this juncture?

Yes, I think I might have mentioned my presentation that, you know, inflation was eight at the end of 22.

It was forward Australia at the end of 23, and we'll certainly get down to the low to mid threes sometime.

by mid year or slightly afterwards.

So the first bit is inflation is coming down a fair bit.

The second thing I sort of say is you look what central banks have been saying.

So they were caught wrong footed to be fair as most were in 21 and 22.

But if you look what they've been saying now for the best part of at least 12 months, not only the RBA, but all central banks.

And they've been saying a very similar story that will take us a while to get inflation back to where we want it to be, which is sort of in the twos.

It'll take a while.

Basically, financial markets want to be addressed, get it down now, get it down now.

But it's been very hard for some of the reasons I actually touched on.

So I don't think they've lost control of it.

I think they've been very cautious.

I think they've actually had a pretty good feel or pulse of inflation for the last year or so.

And I think that their forecasts actually are pretty good.

So financial markets are currently very confident they'll get inflation back to the twos next year.

I think they're right to have that confidence.

How much inflation do external factors such as the energy and commodity supply constraints have over the direction of global inflation?

Are there any external factors that you believe pose a noteworthy upward risk to global inflation at this point in time?

It's been an interesting question.

When inflation first ticked up,

The consensus among central banks is, well, look, you know, this sort of commodity price inflation just lasts about five minutes and goes because that has been experienced for the best part of 30 years.

But of course, there were two things.

First of all, those supply problems, you know, the Russia Ukraine war being an obvious example, last a lot longer than most of those commodity price constraints have been.

And the second of all, we had that exactly at the same time as we had all the supply demand problems associated with the pandemic.

Many, not all, many but not all of the problems that we had associated with the pandemic, you know, too much demand, not enough supply of workers and materials, many of those are now gone.

Right, so that one issue is no longer there.

A lot of some of the issues associated with the commodity markets are nowhere near as severe as it was.

A lot of people would talk about, you know, issues with, you know, Red Sea transport and all that sort of stuff.

It's a bit of an issue.

To me, I think if I was gonna sort of say the one thing I'd watch out for, and maybe there might be some sort of supply thing I'm not watching.

But to me, I think the biggest thing I'd watch out for is, will the economy over the next one to two years be stronger than we think?

If it's stronger than we think, then that might create the inflation problem.

So I think our inflation scare, if we're going to have one, is more likely to come from the demand side than the supply side.

Despite higher interest rates, unemployment remains low in Australia.

Why has employment been so resilient up to this date?

Is there a risk of a lagged impact of higher interest rates on the unemployment rate?

There's no doubt, really, Angeline, that the unemployment rate has risen.

So we're up about half a percentage point from a slow.

And if you use some other indicators, it's probably slowed a little bit more than that.

So, A, the jobs market isn't as strong as it once was.

But why is it still in a pretty good state, like 4% unemployment rate, which is where we are?

That was the low, the last economic cycle.

So we were at the lowest in 50 years, now we're near the closest 50 years, so it's still very, very strong.

You know, we have not seen a jobs market as strong as we had, as I mentioned, for 50 years.

So the first bit we started from such a strong standpoint that yes, we've been slowing.

The other big thing is, you haven't touched on, but is the amazing increase

in the number of workers we've had over the last year or two because of the big increase in population growth.

So high increase in supply of workers, reduced demand, that's the reason why the unemployment rate's picked up a little bit.

I think if the economy slows a little bit more over the course of 2024, an unemployment rate of four will go somewhere in the mid-fours.

I think that would probably be the case.

But if we look back in 10 years' time and sort of say, well, the worst of the economic unemployment rate in this economic cycle was 4.5%,

that's a pretty good outcome.

When we ended the pandemic, unemployment rate was in the fives.

So in the slowest bit of the economic cycle, a peak of four and a half, that'll be pretty good.

Now with the number of unemployed Australians per job vacancy running at only 1.5 times, which isn't too far above the 1.1 times pandemic low, does this suggest that the employees have enough wage negotiation power to push for higher wages this year and beyond?

And if not, what's stopping them?

Yeah, so if we look at the parts of the economy that are most sensitive to the economic cycle, so, you know,

If you look at the wages pricing index as the best measure of wages growth in the Australian economy, the last reading of that showed that government workers received a big wage rise.

One of the reasons was that in 2022, February of 2023, they weren't getting much at all.

So they're doing a bit of a catch up.

Whereas the part of the economy most sensitive to the change in the economic cycle of the private sector, we're starting to see some slowing in

for wages growth in that part of the economy.

So I think that we'll see sort of wages growth, not decline sharply, but from here on in sort of slow, modestly as we go through 2024, not big time, but slow, modestly.

I think an interesting question, Angelina, though, is given we had the tightest, toughest, strongest, whatever the term you wanna use, jobs market in 50 years, we had the highest inflation rate in 30 years, why was our wages growth only a bit over 4%?

Because if you actually go back to the 1990s, we had four and a half to 5% wages growth.

So why wasn't it quite as strong as that?

And to me, there might be various reasons.

I think one of them was in the previous decade, people were getting wages growth in the threes.

So all of a sudden getting the fours was pretty big.

The second one is, yes, we talked about where inflation rate was and so forth.

But the fact that if you look at a number of enterprise bargains,

By the time they get to the third year, they expected slower wages growth.

They actually requested that.

And that was an expectation that wages, the inflation rate would go back to where we were.

And I suspect maybe a third one would be, you know, quite a few people got quite large debt.

And if you've got quite large debt, you want to make sure you've got a job to pay off that debt.

And so therefore you want a higher wage rise.

You know, you're facing some tough cost of living challenges, et cetera.

You had a tight jobs market, but you want to make sure you've got a job.

And I think that sort of caution about wanting to have a job given your higher debt level sort of constrains about how much you might want to push things.

Are there any non-consensual Australian economic outlook scenarios you believe warrant greater attention by investment markets?

Yeah, probably the biggest one I'd touch on is, you know, I've already mentioned it a little bit and one that's sort of getting increasing focus more, most particularly in the US.

And that is sort of, we've got a backdrop whereby that inflation tax is disappearing.

Governments wanted to provide a reasonable amount of support to economies, so you've got the economy doing quite a reasonable sort of state.

And I suppose the whole question is, if the economy is so strong or reasonable, how much, if at all, do central banks need to reduce interest rates?

Now, I already touched on in my presentation that financial markets aren't expecting very modest rate reductions in Australia.

But one of the reasons for that is our cash rate right now is at least a percentage point below most other ones.

Now, what happens if in the US their economy is pretty good, the inflation doesn't get much lower, do they have to reduce interest rates much at all?

And that's sort of probably an open question.

If the economy doesn't slow much in the US, the amount of rate reductions that financial markets are currently expecting may not be there.

So that's probably the most obvious one in 2024, given how well the US economy in particular is performing.

But I have to say, many other economies as we start 2024 has shown some better signs.

The RBA famously surprised the market with its recent rate-raising cycle, which ran counter to its previous guidance.

What are the chances of more surprises from the RBA looking forward?

And if there are more raised surprises coming, in which direction are they more likely to surprise the markets?

Yeah, so if you think back about why

What happened to the RBA?

So essentially inflation picked up a little bit.

They sort of expected that would be, but first of all, it went a lot higher than I thought.

They thought it'd go to four to 5% ended up going to eight.

Second of all, it wasn't up there for five minutes.

It ended up being, well, it will end up being above there in a two to 3% target band for four years, right?

So a lot higher for a lot longer.

So that's the reason why they got surprised and why they sort of promise, which, you know, it wasn't really a promise, but anyway.

That's the reason why they were so good.

So the question, so when it comes through, are they gonna be caught out again?

Well, they get caught out if they get caught up by the data.

And which way could it go?

Well, your previous question touched on the one, what would happen if the economic growth was strong and therefore the inflation risks are not quite as low as what people were thinking?

I suppose what would go the other way, how do you get even lower interest rates?

That would mean that economic growth would have to be a lot weaker.

But if you think about how people are, financial markets are pricing things and how people are forecasting, very few people right now are expecting a very weak economic environment.

So that's good news, of course.

But if we did do that, you know, that would obviously have implications as soon as the economy and financial markets more generally.

If and when the RBA starts cutting rates, how do you expect the equity bond and property markets will respond?

Well, the residential property market hasn't waited.

They've already fired the gun even before rate cuts.

They're often running in terms of how well house prices are going up.

So basically financial markets I've touched on is pricing three to four rate cuts.

So we get three to four rate cuts in line with what's and sort of okayish economic growth.

That's basically the scenario that financial markets are pricing.

So I would suggest that the equity bond market implications would be relatively modest.

Obviously there'd be some positive, bond yields go down a little bit, equity markets rally a little bit, but I think a lot of that is largely in the markets.

As I mentioned, the scenarios where basically you get big changes is one, if rate cuts go a lot lower, but does that require substantially weak economic growth?

The alternative is economic growth is a lot stronger, but you don't get the interest rate cuts you think.

So they're the ones that sort of really could challenge our current financial market pricing,

We're financial markets really like courses that if inflation went down, but economic growth stayed strong.

That's the absolute Nevada, but I think that's probably the least likely scenario.

With equity markets having climbed a world of worry in recent months, do you believe local equity investors have become too optimistic about the local and global economic outlook?

The big story of 23 in terms of people's forecasts is that

Many people had a recession, not so much for Australia, but certainly for the US, that there'd be a recession, right?

And that recession risk, given how strong the US economy's been, the global economy more generally, it's essentially been taken out of financial markets.

So because there's no absolute really bad downside, and most of the rate reductions that were expected at the start of the year are still there, you've got interest rates coming down a lot, you've got sort of an okay, still a decent economic growth background,

The combination of better economy, lower interest rates is the reason why equity markets have done pretty well over last, particularly last three months.

So, you know, if you're gonna get a change from that, it would be if the economy is weaker.

As I've touched on a couple of times, it's really that combination of what the economic growth outlook is versus the interest rate outlook.

It's the combination of the two that really does matter.

Thanks, Peter.

Now to conclude, can you please share a standout investment or economic lesson you've learned of late in your position as Bank of Queensland's Chief Economist?

I'll learn a lesson a week, so try to remember the last one.

Look, probably the biggest one I was going to say is relearning our old lesson.

So essentially for 25 years, the main driver of

where the economy was going, the ups and downs, the cycle, if I can use that term, the main drive of the economic cycle was monetary policy.

A lot of the questions you touched on have been involved in that.

Is central banks going to cut rates?

What's the driver?

And all those sorts of things.

And so that's been typically the driver of the economy and where financial markets have been going.

If I think about the local economy, but more generally, all economies over the last three years,

what's happening by the central banks has sort of mattered, but overwhelmingly the biggest driver has been fiscal policy.

I touched on in my discussion on the US.

Why has the US economy been the strongest a lot?

Well, one of the biggest reasons is they've had the most massive support from fiscal policy.

If you think about our economy, why have we done quite well?

It's not only the federal government, but virtually all the state governments have been spending big time

Will it be supporting consumers or doing a whole lot of infrastructure work?

And so that memory, you know, you went back prior to the 1990s.

Everyone used to focus on the budget as the biggest driver of where the economy and financial markets were going and slowly that sort of fell out of use.

as people turn to central banks, what we'll have to do in the future is look at what governments do, that's gonna be important, as well as what central banks do.

Thank you, Peter, for the presentation.

It'll be really wonderful.

Really appreciate it.

We look forward to seeing you again.

Thanks very much, Angelina, for the invite.

I appreciate being here.