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4 things investors should consider as the economy slows

The economy is facing headwinds this year, which will be unfamiliar to many after an almost 30-year run of growth and a post-pandemic boom. Here we explain what you might expect in the months ahead, and what history has taught us about economic highs and lows.


What’s in store for the rest of the year?

The Australian economy is forecast to follow many developed countries through a transition period this year as it faces the threat of high inflation and cost of living pressures.

“We are expecting growth to be a lot slower this year, both globally and in Australia, and we have already started to see early signs of that,” says Justin Fabo, Senior Australian Economist at Macquarie Group.

But Australia is better placed than other advanced economies, and a recession isn’t necessarily on the cards.

“The risks are heavily tilted towards a recession in the major advanced economies like the United States and Europe,” says Fabo.

“We don’t have such a pronounced downturn pencilled in for Australia, but the economy will slow down, and unemployment will rise.”

In March 1975, inflation peaked at 17.7% and remained elevated throughout much of the 1970s and 80s.2 While inflation is currently near a 32-year high, Fabo suggests that inflation may be easier to control today than during the mid-2000s.

“This period we’re in right now still doesn’t feel as inflationary as before the Global Financial Crisis (GFC), where wages growth was much higher,” he says.

Changing interest rates are normal

Today, the major tool in the fight against higher inflation is a higher cash rate, with the RBA increasing rates 10 consecutive times since May 2022.

Much like high inflation, Australia has not experienced a rising interest rate environment for years. Prior to 2022, the last time the RBA raised rates was November 2010.

“We’re coming off the back of historically low rates and interest rate settings today are still low by historical standards,” Hall says.

“Rising rates are not unusual at all. I would say what has been unusual has been the fact that the cash rate has been so low for so long.”

The cash rate has remained below 5% in Australia in the 14 years since the GFC.3 In contrast, it spent just four culminative years below that threshold in the 40 years prior.

In fact, since 2011 the cash rate has only trended lower — falling from one record low to another until it hit 0.10% during the pandemic. It remained there until last year’s hikes began.

“The adjustments to monetary policy that we’re seeing right now aren’t entirely unprecedented, but they are a major contrast to what we’ve seen in recent years,” says Fabo.

“In the mid-1990s, we were raising the cash rate this quickly and while the quantum of the rises has been larger this time around, we were starting at basically zero.”

At the same time, the Australian financial system is significantly stronger since the last time it had to absorb rate hikes.

“We have prudent interest rate buffers to take rate rises into account. Those standards are materially improved from, say, the pre-GFC rate tightening cycle so that stands us in fairly good stead,” says Hall.

Consecutive cash rate rises might have seemed like a thing of the past, but it is important to note that, like economies, interest rates move in cycles.

“There are always going to be ebbs and flows in the economy. We have been in a very low interest rate environment for over 10 years. It couldn’t stay like that forever,” says Carolyn Bray, Macquarie Bank’s Head of BFS Credit.

“We’re in a rising interest rate environment now and it will subside again at some point in time depending on factors such as inflation and unemployment.”

Australia remains ‘The Lucky Country’

Looking forward, Fabo says there are a few reasons why he thinks Australia should avoid a recession.

“For example, China’s reopening and Chinese government stimulus will have a flow on effect for the commodity sector – remembering that mining represents 10% of Australia’s GDP,” says Fabo.

“The other thing is our government’s debt. If the economy does start to look poorly, I would guess the Australian government will turn around and start stimulating rapidly in order to offer some support.”

Both factors previously helped protect Australia from the worst of the GFC.4

Strong population growth may also help soften global economic shocks. This in turn could create additional demand in Australia’s housing markets.

“We had an immigration pause during the pandemic, but I’d expect that to return strongly now which will provide natural support in terms of property prices,” says Hall.

At the same time, a strong labour market means Australians remain well-positioned to deal with a more challenging economic environment.

“One of the really strong points in Australia right now is we have unusually low unemployment,” says Bray.

Long–term thinking supports long–term wealth

A tighter economic environment is often a catalyst for households to review their financial position if they haven’t already and plan ahead, according to Bray.

“Sense check where you are financially and how you might deal with financial challenges that could arise,” she says.

While the prospect of an impending downturn can cause anxiety amongst investors, it is not always helpful to focus on noise in the market, according to Hall. Instead, it is critical they retain a long-term perspective.

“Think about the power of compounding returns, so whether that be in property, whether that be in balanced portfolios, or your superannuation,” says Hall.

“By putting yourself in a position where you can reap those long-term returns and where volatility doesn’t make you a forced seller at the bottom of the cycle, that is how you really achieve wealth creation.”

As the world grapples with a return to normal economic conditions, he believes Australia is in a unique position to deal with challenges and take advantage of its opportunities.

“We are a country that is very well positioned for a transitioning world, for a clean energy world. We are still blessed with those natural resources, and a stable society and political climate,” says Hall.

“If you are in the right kind of balanced investment for the long term, history suggests you would do well. The key is not to overextend yourself.”

Past performance is not a reliable indicator or guarantee of future performance. This information doesn’t take into account your objectives, financial situation or needs, nor is it intended as a substitute for any accounting, tax or other professional advice, consultation or service – please consider whether it’s right for you.

This article was provided by our friends at Macquarie. View the original article with sources here.


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