Australia is New Zealand's biggest export market and our largest source of tourists. Buoyed by a vibrant mining sector and a strong Chinese economy it has weathered the Global Financial Crisis (GFC) well, totally avoiding recession. But is that all about to change?
Recent data provides cause for concern.
Among the lows were July's retail sales statistics, which showed Australian retail sales fell 0.8 per cent compared with June, with department-stores sales declining by a huge 10.2 per cent, the category's biggest decline in seven years.
For retail and other sectors, a perfect storm of low consumer spending and digital disruption (see sidebar) threatens.
Other figures released by the Australian Bureau of Statistics last week showed housing finance falling in July. Finance to owner-occupiers fell by 1 per cent where a flat result was expected. Total housing finance by value fell 1.8 per cent to A$20.05 billion. Western Australia was the only state to record a slight rise.
Strategists warned that companies in the materials sector such as Boral and CSR, consumer discretionary stocks such as Harvey Norman and JB Hi-Fi and banks faced a challenging outlook.
Credit Suisse equity strategist Damien Boe said the data added to other indicators pointing to a "sudden and abrupt halt in activity in the housing market".
Australia accounted for 22 per cent of New Zealand's export receipts in the year to July, compared to the 13.5 per cent from China, our second-biggest export market. It is also overwhelmingly the biggest source of visitors for this country's tourism industry, with 1.175 million Australians crossing the ditch in the year to July, a whopping 44.6 per cent of total visitor numbers.
The lucky country is also an important destination for New Zealand investment, with many thousands of New Zealanders receiving at least part of their income from money they have invested in Australian stocks and property, either directly or through managed funds.
One way or another, what happens in Australia matters to us.
Perpetual's head of investment markets research, Matthew Sherwood, pointed to other recent data which showed weak employment growth of 0.6 per cent compared to 2.1 per cent during the past two decades.
"Jobs growth is the key for housing demand," he said.
It's no better for small businesses. A survey of Australian non-retail, small and medium enterprises released by Bibby Financial Services last week showed a sharp decline in business confidence over the past six months. Eighty-three per cent of the businesses surveyed were experiencing cashflow problems, with 77 per cent worried their customers could go broke.
But the biggest worry is the downtourn in Australia's much vaunted mining sector, credited with shielding the country from the worst effects of the GFC.
That boom appears over, with demand and prices for iron ore and coal slumping, along with the share prices of the companies that dig them out of the ground.
There are signs that the growing problems in Australia are already affecting New Zealand exporters. The New Zealand Exporters and Manufacturers Association reported this month that orders from Australia had slowed, adding to negative sentiment.
There's probably worse to come.
"You are now starting to have a definite downturn in Australia. There is no way they can avoid it. They've had their two-tier economy and now even their best sector - mining - is starting to crash," said Gary Warner, general manager of IRG Equity Investment Advisers.
There has been a general perception in Australia that the mining boom allowed the country to dodge the post GFC bullet but Warner believes all it did was delay that bullet, which has now arrived.
When the GFC hit, China launched a $630 billion stimulus package for its domestic economy, which spurred a building boom. That led to the mining boom, as Chinese companies chased iron ore and coal to make steel.
Now China's economy is starting to have its own troubles.
"A lot of [property] buyers in China have started to default on purchase agreements, but that's all being kept quiet. You are not hearing a lot about that. And there are a lot of bad loans coming through the Chinese banking system, which is putting it under pressure," Warner said.
Just as we need Australia to perform, so Australia needs China. But many still believe China can negotiate a soft landing.
Martin Lakos, Macquarie Private Wealth's Sydney-based division director, said China could still pull levers to stimulate its economy. He said growth of 7.5 to 8 per cent in China was "underpinned".
"Even on the current numbers, the industrial base of China will double in size over the next decade," he said.
China's GDP was US$1200 billion in 2000 and is expected to reach US$7900b for 2012. In that context, consolidation was appropriate, he said.
Putting that growth into context, if Spain were to contract by 2 per cent, that would equal US$30b compared with yearly GDP growth in China of around US$600b.
However, last week new trade data revealed China's economy may be heading towards its weakest growth rate since 1990, sapping demand for Australian iron ore, coal and other minerals. China's imports in August unexpectedly fell 2.6 per cent. That sparked speculation the Chinese government would have to start using some of those levers.
And China is classifying key data used to gauge its economic performance, such as the number of cars registered each month, just as they started to reveal weakness.
"There are a bunch of distortions in this data because everyone involved has an incentive to show they are doing well," said Anne Stevenson-Yang, from J Capital Research in Beijing.
"There are more distortions . . . than I have seen in a long time," she said.
Lakos remains confident Australia can adjust to lower demand for its abundant minerals. Yes, the mining investment boom has peaked, and the rate of growth in mining investment will decline over the next few years, he said. However, it won't cease altogether.
"We estimate that mining investment will peak at above A$100b and is likely to rebase at a normalised A$60b-$80b per annum."
The spend had been centred on the expansion of existing and vital new infrastructure necessary to maintain supply of iron ore, coal and copper, along with LNG.
The investment is a necessary response to ongoing demand, and now facilities such as ports and railways are in place, Australia was well positioned to deliver, Lakos said.
However, that massive investment included support infrastructure to deliver these key projects - for example housing for project workers. The growth in this ancillary spending, which has been a major driver for the West Australian and Queensland economies, will slow.
The non-mining portion of Australia's economy has been weak, leading many to describe it as a "two-speed economy", partly in boom and partly recessed.
Lakos said the non-mining sector has been weak because Australia had maintained relatively high interest rates through the GFC, there was a lack of confidence to deploy non-mining investment and a lack of investment by several state governments in the past decade.
The Reserve Bank of Australia had kept interest rates high to keep inflation under control and reduce potential runaway growth in mining.
That meant that through most of 2010 and 2011, Australia had a negative yield curve, meaning short-term interest rates (which are the RBA official rates) were much higher than long-term rates (for example, 10-year bonds).
"This can often be a negative for business," Lakos said.
The Australian dollar had also been high, supported by those high interest rates but impacting on exports and competitiveness.
While that's a challenging combination, Lakos sees room to now adjust the economy back to more normal settings.
"The slowing of the mining investment boom will afford the RBA to ease interest rates towards 3 per cent from 3.5 per cent currently, easing pressure on business and probably improving sentiment to invest.
"It is expected that Australia will return to a more ‘normalised cycle'. That is, lower interest rates will drive a pickup in new housing construction and renovations," he said.
The Housing Industry Association estimates Australia has a shortage of about 35,000 dwellings, driven by population growth and the lack of a housing boom since 2003, Lakos said.
"Following this, non-residential construction will improve, followed by consumer confidence and consumer discretionary spending. Lastly, new state governments across the east coast are repairing budgets and will lift spending and investment over the coming three years."
But it isn't just high interest rates and a high dollar that make Australia look increasingly uncompetitive. IRG's Warner said Australia has become a very expensive place to do business.
"You hear all these stories about Kiwis going to Australia and getting jobs at burger joints in mining towns and being paid $100,000 a year. And a lot of those stories are true, which means it's very expensive to do business in Australia and the Chinese are starting to go elsewhere to get their resources.
"When department-store spending is down 10 per cent that's huge. That's an economy with people in it who aren't confident about the future," he said.
Warner sees some bright spots for investors looking across the Tasman.He thinks there's an upside for the precious metals sector, which could literally be the Australian economy's silver lining.
Additional reporting AFR
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