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Weak Consumption hinders Economic Recovery – September 2020

The GDP Report announced this week signalled that the Australian economy had contracted by a record of 7% in the June quarter. Driving this decline was a contraction in consumption by 12.1% (remember that consumption makes up ~60% of total Aggregate Demand in the economy). Hours worked also fell by 9.8% reflecting the sharp rise in labour underutilisation. Westpac estimates that the fall in consumption explained 98% of the overall reduction in activity – a prime example of how the multiplier effect can act in reverse (by shrinking economic activity through a decline in AD). 

Despite the sharp drop in hours worked, total nominal wage income only fell by 2.5% and total nominal household income actually rose by 2.2%. With the sharp fall in spending and an increase in incomes, the savings rate rose to 19.8% from 6.0%. This far exceeds the savings rate (10%) at the height of the GFC. While this the effect of slowing growth in the short term, it has significantly improved household balance sheets (as the average debt to household income ratio is ~180%) and will result in considerable pent up demand to spend that will accelerate the economic recovery. 

Bloomberg reports that nearly one in every three households sees bank deposits as the wisest place to keep savings, well ahead of riskier options like shares and property or just spending it. The total value of A$100 notes in circulation jumped 14.1% in August from a year earlier, the fastest pace in 29 years. Confidence is seen as the missing ingredient to unlocking households’ cash stacks and drive a consumption-led recovery. While sentiment has showed some improvement, continued concerns over job security in an environment of rising unemployment (~7.5%) may well keep cash idle and consumption weak. 

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