Saturday, December 5, 2015

Economy's transition grinds on, despite quarterly bumps

What an exciting week it's been for lovers of thrills and spills in the economy. This time three months ago they were telling us it was near to subsiding into recession in the June quarter, but now they're telling us it took off like a rocket in the September quarter.

Phew, what a miraculous escape. Or what a load of cods, brought to us by those who've learnt nothing from years of watching the national accounts' gyrations in real gross domestic product from one quarter to the next.

You can either take those gyrations literally, or you can "look through" them, hoping for a better idea of what's really happening in the economy. The advantage of the first approach is that it's a lot more exciting. The disadvantage is that it convinces the public that economists know nothing and aren't to be trusted.

Let's take the story back a further three months to the March quarter. The literalists told us the economy was growing strongly because the Bureau of Statistics announced a first stab at growth in the quarter of 0.9 per cent.

Then we get growth slumping to 0.2 per cent (since revised to 0.3 per cent) in the June quarter, and now we get it soaring by another 0.9 per cent last quarter.

If you had a better feel for arithmetic than the literalists, you might think that, since the March quarter increase was a lot bigger than could have been expected, it wasn't all that surprising the June quarter increase was a lot smaller than could have been expected.

And since the June quarter increase was a lot smaller than could have been expected, it wasn't all that surprising the September quarter increase was a lot bigger than could have been expected.

It's notable that the component of GDP that explained most of the weakness in the June quarter also did most to explain the strength in the September quarter: the volume of exports.

Export volumes grew by an unusually strong 3.7 per cent in the March quarter, then fell by 3.3 per cent in the June quarter, then grew by an unusually strong 4.6 per cent in the latest quarter.

This tells us little about what was happening in the wider economy. Rather, it tells us how climate change is playing havoc with the bureau's seasonal adjustment process.

Huh? Export volumes have been growing mainly because all our new coal and iron ore mines are coming into production. Seasonally adjusted exports of coal were up in the March quarter because there were fewer cyclones than usually happen at that time of year.

They were down in the June quarter because the weather was much worse than usual. And why did they rebound in the September quarter? You guessed it: the weather was better than normal.

So those economists warning that our strong GDP growth in the latest quarter is unlikely to represent the start of a better growth trajectory are no doubt right.

But those people arguing that, since the growth in exports last quarter accounts for more than all the growth in GDP in the quarter, the domestic economy obviously went backwards and so must be very weak, aren't making a sensible comparison.

It's not sensible to give the "domestic economy" no credit for all the export growth our miners are generating, while making it bear the full burden of the sharp fall in mining investment spending.

No, to get a better idea of how the great "transition" to broader-based growth is progressing, it makes more sense to divide the economy between the mining and mining-related sector, and the rest of the economy.

Doing this shows that, whereas the latest accounts say the overall economy grew by 2.5 per cent over the year to September – a quite believable figure – the non-mining economy grew by about 3 per cent.

That is, when you put all the elements of mining together – the growth in its production and exports, the fall in its investment spending and the associated fall in imports of mining equipment – you find that, rather than accounting for more than all of it, mining is actually subtracting from overall growth.

To get a better handle on what's happening inside the non-mining sector, the Reserve Bank reported in its latest statement on monetary policy an exercise where it set aside mining – and agriculture – and divided the rest of the economy into three sectors.

First was the "goods-related" sector, composed of manufacturing, construction, utilities and distribution (transport, wholesale and retail trade). Second was the "household services" sector, including health, education, hospitality and recreation.

Third was the "business services" sector, including professional and scientific services, finance and insurance, hiring and real estate, and information and telecommunications.

The rate of growth in the household services sector has increased considerably over the past few years. It has experienced increased employment and job vacancies over the past year or more.

The rate of growth in the business services sector has picked up a bit, to be about average. It has experienced a recovery in job vacancies and employment.

So the economy's huge services sector is doing reasonably well. It's the goods-related sector where output growth remains weak, little changed for more than two years. Vacancies and employment have been little changed for about three years.

Thus there's been an accelerated shift from goods to services. And since services are more labour-intensive, while the goods-related sector is more capital-intensive, this explains why non-mining business investment has yet to recover.

It also explains why, economy-wide, we've enjoyed above-average growth in employment in spite of below-average growth in GDP for the past year or more.

So the transition to broader-based growth is proceeding. And once the huge fall in mining investment spending has come to an end, our growth figures should look a lot better than they do now. That, too, is just arithmetic.