Australian Government Faces Up to Grim Reality

Australia's government on Wednesday was forced to slash forecasts for economic growth and much vaunted budget surpluses, as it bowed the grim reality of a looming world recession.

Rob Griffith / AP

Saying the global financial crisis had blown a A$40 billion ($28 billion) hole in expected tax revenues, Treasurer Wayne Swan warned of tough times and hard choices ahead.

"If international conditions were to deteriorate further then there could be more to come," Swan told reporters in his mid-year budget review. "This is yet another dramatic reminder that we are not immune to the impact of the global financial crisis."

The Labor government sliced its projected budget surplus for the year to June 2009 to just A$5.4 billion, down from A$21.7 billion forecasted in its May budget. The 2009/10 surplus was seen at only A$3.6 billion, down from A$19.7 billion.

Likewise, economic growth was projected at 2.0 percent in 2008/09, down from 2.75 percent previously, while unemployment was seen rising to 5.75 percent by mid-2010 from a currently low 4.3 percent.

"Our view is that Australia's economy has dropped into what is likely to be a shallow recession," said Stephen Walters, chief economist at JPMorgan. He sees the economy shrinking this quarter and next before a modest rebound over the second half of 2009, helped along by extensive policy support.

"The gloomy near-term outlook means the Budget will be under significant pressure from plunging revenues," he added.

Housing Hammered

The government's sober outlook came as new data showed approvals to build new homes dived 7.2 percent in September, to be down almost 22 percent for the year, as tightening financial conditions hammered the housing market.

Conglomerate CSR on Wednesday warned that its Australian building products division might not see any pick up in lacklustre demand until well into the second half of 2009.

Meanwhile, a survey of the country's service sector showed activity contracted for a seventh straight month in October as hotels, retailers and estate agents reported dismal demand.

"Order books were poor right across the services sector," said Heather Ridout, chief executive of the Australia Industry Group. "New orders were particularly weak in the retail sector with businesses battening down for a potentially tough Christmas.

All of which only added to the market's conviction that the Reserve Bank of Australia (RBA) would have to keep cutting interest rates, and in a hurry.

The central bank on Tuesday chopped its key cash rate by a surprisingly steep 75 basis points to 5.25 percent, the lowest since March 2005 and down from 7.25 percent just two months ago.

Investors are pricing in a further cut to 4.5 percent by Christmas and a downshift to 4.0 percent by March.

The one bright spot on Wednesday was data showing Australia's trade surplus expanded to A$1.46 billion in September, well above the A$600 million expected and the second biggest on record.

Exports jumped 7.5 percent, thanks to further big gains in coal and metal ores reflecting past price increases. That helped outstrip a 7 percent rise in imports, which was led by oil, aircraft and military equipment.

The country's terms of trade -- what it gets for exports compared to what it pays for imports -- have boomed by over 20 percent thanks in part to huge increases in contract prices for coal and iron ore.

Just a few months ago, the RBA had been worried the boost from trade would fuel inflation. But in the statement accompanying its rate cut on Tuesday all mention of the terms of trade was banished. Instead the central bank noted that falling commodity prices would likely be a drag on growth.

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