Saturday, September 10, 2011

A dose of reality for people who profit from doom

It's good news week - rumours of the impending death of the economy turn out to be greatly exaggerated. The national accounts for the June quarter provide a salutary lesson on how far popular perceptions can drift from reality.

Three months ago we were told real gross domestic product contracted by 1.2 per cent in the March quarter. This week we're told the contraction was a quarter less than that: 0.9 per cent.

That contraction was fully explained by the temporary effect of floods and cyclones. This week the temporary nature of that setback was confirmed - the economy rebounded to grow by 1.2 per cent in the June quarter.

Note that part of this rebound is purely arithmetic: had the economy not gone down in the March quarter it wouldn't have come back up as much in the following quarter. So it would be mistaken to imagine the economy was travelling at the annualised rate of 4.9 per cent (roughly, 1.2 x 4) in the quarter.

Despite the clearly temporary nature of the contraction, it fed into an increasingly negative mood about the state of the economy. The retailers were doing it tough because consumers were worried about so many things - the carbon tax, interest rates, uncertainty about the North Atlantic economies - and so were saving rather than spending.

You could see this from the way the indicators of consumer confidence kept falling. As part of this consumer caution, not many people were buying new homes.

Then there were the manufacturers doing it tough and laying off workers because of the very high dollar.

In short, the miners and the mining states might be coining it, but all the rest of us in the ''non-mining economy'' were just about stuffed. Turns out most of that was nonsense. Some of it was true - the retailers and manufacturers are doing it tough and housing activity is weak - but those three sectors account for less than 20 per cent of the economy, not the 90 per cent that is the so-called non-mining economy.

The rest we imagined. The media did its usual thing of trumpeting the bad news and playing down the good news but this fell on unusually fertile ground, to mix a few metaphors. The Gillard government's doing a terrible job, therefore the economy's stuffed. That's logical, isn't it?

This week we got a bulletin from the real world. Turns out that though real retail sales grew by just 0.3 per cent in the quarter and 0.6 per cent over the year to June, real consumer spending grew by a healthy 1 per cent in the quarter and a bang-on-trend 3.2 per cent over the year.

Huh? How did we get it so wrong? Well, we took too much notice of the retail sales figures simply because they come monthly, forgetting they account for only about 35 per cent of total consumer spending.

Retail sales cover mainly goods - what they don't cover is mainly services. In recent times our spending preferences have shifted away from goods and towards services. When that happens, the retail sales figures give you a bum steer.

Our other mistake was to take too much notice of the fall in consumer sentiment. It proved a dodgy guide to actual consumer spending. Both these things have tricked us many times before.

The punters know no better and, though it pains me to admit it, the media have a vested interest in not querying a bad-news story. But there's no excuse for the business economists - for them it's professional incompetence. Proof they're not as rational as their model assumes all of us are and not impervious to the popular perceptions around them, as their model also assumes.

This week's figures also reveal a tiny fall in the rate of household saving to 10.5 per cent of household disposable income. Though the ratio is notoriously volatile, this raises the possibility that households have got their rate of saving up to where they want it.

This, in turn, raises another point of arithmetic - it's not a high rate of saving that causes weak growth in consumer spending, it's an increasing rate of saving. Once the rate has stabilised, consumption must grow as fast as household disposable income is growing.

And despite all the phoney I-know-you're-doing-it-tough rhetoric coming as both sides of politics feed back the whinges they hear from their focus groups, the accounts confirm household income is growing particularly strongly - by a nominal 7.5 per cent over the year, way ahead of inflation.

That strong growth comes from a combination of healthy growth in employment (more household members with jobs) and somewhat excessive growth in real wages given our weak rate of productivity improvement.

Both factors are evidence most of us aren't doing it tough.

Part of the narrative of the resources boom is that growth will come more from business investment spending (as we build a lot more mines) than from consumer spending. That wasn't true this quarter. Why not? Not because business investment was weak - it wasn't - but because consumer spending was both strong and accounts for a much bigger share of GDP than investment does.

The other side of the non-mining-economy-is-stuffed proposition is that pretty much all the growth in the economy is coming from the mining sector. As a general proposition, there's no doubt the mining, mining-related and heavy construction industries are growing strongly. But, according to the accounts, that wasn't true in the June quarter. As Kieran Davies, of the Royal Bank of Scotland, has pointed out, with the output of mining proper going backwards during the quarter, the output of the so-called non-mining economy grew by 1.3 per cent, more than accounting for the growth of 1.2 per cent overall.

That's the bit people have convinced themselves is stuffed.

Why isn't mining growing? Because a lot of the flooded Queensland coalmines are still not back to production. But this, of course, is temporary. As they come back on line in the second half of this year they'll give GDP a one-off boost.

You have to be careful not to read too much into the quarterly national accounts, which are subject to frequent revision.

But you have to be even more careful not to be misled by those who cry loud and long about how tough things are. They're probably exaggerating (or being exaggerated by a bad-news obsessed media) while those who are doing fine say nothing.