From HSBC's Paul Bloxham:
"Domestic demand is rock solid. That’s the key message from today’s GDP release. Yes, the Queensland floods have disrupted coal exports, but the domestic economy has continued to grow strongly. For the first half, as a whole, domestic final demand averaged 1.2% per quarter (4.9% annualised) and over the year it grew by a strong 3.5%.
Domestic demand is the key focus for policy makers, particularly the RBA, because it is a key driver of inflationary pressures in the economy. Indeed, it means very little to the inflation outlook that Australia was unable to load as much coal onto ships as normal because the Queensland floods. In the end, all this did was push up the price of coal. This was the key point we made last quarter, when the GDP numbers were published, and it bears repeating.
What is also clear from today’s accounts is that the domestic strength is not just due to the mining investment boom: although it is also clear that the mining investment boom has continued, with new business investment rising 4.4% in Q2 and 11% over the year. Despite very weak consumer sentiment, overall household consumption has continued to grow at about its average pace, of around 3.2% over the year.
This sits uncomfortably with the retail trade survey, which has been much weaker. But as we have been suggesting for some time, this is because households are consuming more from outside the retail stores. Indeed, the strongest category of household consumption growth over the past year has been transport services, which is consistent with the record high level of international travel by Australian’s recently. The three other fastest growing areas of consumption over the past year have been recreation and culture, education and hotels, cafes and restaurants. Again, largely areas that are outside the retail space.
Another sign of very positive household conditions is the ongoing strong growth in household incomes. Household disposable income rose by a very strong 7.5% over the year. This was driven largely by a similar pace of growth in compensation of employees, reflecting ongoing growth in employment and wages.
As the RBA has been suggesting, the current high level of the household saving rate, 10.5% in today’s accounts, is exactly what is required to keep the top from blowing off this economy. Indeed, a key risk is that it stops rising, or falls, which would see further growth in consumption and may require further tightening of monetary policy.
Net exports were the key factor that held back growth in the quarter, as coal exports have not fully recovered from the effects of the Queensland floods. But, as the mines are gradually pumped out, this should see production recover over the rest of the year.
Looking forward, as the effects of the floods on exports unwind further and the mining investment boom continues, a key question for the domestic outlook will be to what extent households start to spend more of the their incomes. The tick down in the saving rate in Q2 may provide some hints that solid consumption growth may continue, but a key will also be developments in the labour market."
