EGM Insight – Economy 2022. Warning: time to wrap up warm?

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‘If you spend 15-minutes talking to an economist about what the future holds, you will have wasted 14-minutes.’ (1)

OK, forecasting the economy is like forecasting the weather. So, here we go:

‘It’s looking a bit stormy out there – so best wrap up warm and take an umbrella. It might be worth wearing a scarf.’

Unemployment vs. CPI

In times of low?unemployment,?the demand for labour by employers exceeds the supply. In such a tight labour market, employers typically need?to pay higher?wages to attract employees, ultimately leading to rising wage inflation.

Economists will remember the Phillips Curve (Phillips studied the relationship between unemployment and the rate of change of wages in the United Kingdom over a period of almost a full century (from 1861 to 1957), and he?discovered that the latter could be explained by two things: the level of unemployment?and the rate of change of unemployment).

Great Resignation?

Here’s the answer.

At least in the US – where 4.5 million US workers left their jobs in November alone. (2)

What about the Great Recession?

Perhaps a dose of reality in the US – and a return to the ‘old days’ of boom and bust – will stop all the job hopping.

It's about balance, right?

Two of the greatest investors ever - Warren Buffet and Charlie Munger.

They’re not known for being wrong.?

They’re normally optimistic – tipping stocks to buy – the fruits of capitalism - living the ‘American dream.’ Buy and hold - and wait for the profits to roll in.

Look at YouTube now – search ‘Warren Buffet’ or ‘Charlie Munger’ and see what they’re talking about.

It won’t be long before you come up with titles like:

• ‘Huge inflation is coming – don’t be wiped out.’
• How to make money from the huge crash ahead’
• ‘Why we’re flirting with serious trouble.’

How do governments pay for the pandemic??

They print money – on a scale never seen before – ever.

It’s easy – popularity now – pay later.

Someone is about to inherit a ticking time-bomb. A very big one, actually.

Ask anyone from Greece or Ireland – or any Latin American country – what the dangers are of printing money.

• High inflation – the US stock market dropping by the largest amount for 2-years on 22 April on fears of rising commodity prices. (3)
• Higher interest rates – The US market has ‘priced in’ a near term increase of 1 per cent. (4)
• A depreciating currency – reductions in the values of the US dollar causing recessions in developing countries – as the dollars they earn from their exports become worth less, and
• Lower demand across the economy - as consumers tighten their belts.

‘A groggy world economy is about to be hit by a series of shocks.’ (5)

The International Monetary Fund (IMF) April Global Economic Report predicts:

• Advanced economy growth for the rest of 2022 at 3.3 per cent – down from 3.9 percent in the January report. This is a big revision by historical standards.?
• The projected growth figures aren’t bad – in the 10-years to 2018, advanced economies grew by 2.7 per cent p.a.
• But the projections for 2022 reflect a low starting point following the pandemic - and they don’t reflect the impact of the war in the Ukraine or the possible default by Russia on its debt obligations – with the resulting impact on the international finance system.?
• The longer-term outlook is for advanced economy growth at 1.7 per cent p.a. from 2023 to 2025.

OK, thankfully – and we’re much better placed than most in Australia. But it is still a bit concerning:

Australia’s economy is on the up, but the IMF forecasts a sharp fall is coming in 2023’ (from growth of 3.6 per cent in 2022 to 2.5 per cent in 2023)

While the Australian economy is powering along courtesy of hundreds of billions in deficit spending, emergency low interest rates and a dramatic spike in energy prices, the IMF has confirmed that 2023 is going to be a potential different story. (6)

What will drag down growth??

Exports - in particular, China.?

Our biggest export customer – representing over 30 per cent of Australia’s trade (7)

The IMF forecasts GDP growth in China of 4.4 per cent this year, down from 8.1 per cent in 2021 – and 10 per cent average from 1977. (8)

• Part of this is due to the tariffs that Trump introduced – and that Biden has continued.?
• Part is due to the ongoing impact of the pandemic – and China’s ‘zero COVID’ strategy.?
• When China sneezes, Australia catches a cold.

So, with tighter Australian monetary policy – the IMF is predicting higher interest rates to hold back the inflationary impacts of paying for the pandemic - the current rate of unemployment at 4 per may start moving the wrong way.

Might be a good time to ask for that pay rise now.

And don’t forget that umbrella.

What's a major factor affecting the economy and job market?

Immigration.

Australia?has historically relied on immigration for growth, but?since the mid-2000s?net overseas migration has picked up sharply.

According to and Article on ABC News, between 2000 and 2019, Australia experienced the fastest population gains among large developed markets.

And for the last 10?years, population growth has been?the?main?source of growth for Australia's economy from a supply-side perspective.

"Indeed, Australia has seen a steady deterioration in underlying productivity performance, which was the main growth engine prior to the mid-2000s," they said.

See the graph below.

Note?how Australia's growth?has?become heavily reliant on growth of the working-age population (the blue lines) and the share of people in employment?(the red lines), as productivity (the green lines) has fallen away over the last decade.

According to Fitch's economists, it means Australia's economy will quickly run?into capacity constraints in coming years.

They said with fewer workers in the economy, and record-high job vacancies, wage pressures were more likely to build.

"The stoppage of new foreign arrivals since 2020 ... clearly dried up the supply of labour," they said.

"We believe the dislocation between labour demand and supply —?unwitnessed in recent history —?will eventually translate into higher wage growth, probably from mid-2022 when the economy will be in full swing."

They said the higher wage growth would push inflation higher, too. (9)

So unless we encourage population growth we can expect a chilly period ahead.

Let's get the balance right.

1. Peter Lynch (one of the most famous investors on Wal Street), ‘One up on Wall Street’
2. Federal Bureau of Labour – Jobs report, November 2021
3. See, for example, CNBC ‘Market Report,’ 22 April 2022
4. See. Financial Times, 23rd April 2022
5. The Sunday Times, 24 April 2022
6. Australia’s economy is on the up, but the IMF forecasts a sharp fall is coming in 2023, Smart Company, 22 April 2022
7. See, Australia Government Department of Foreign Affairs and Trade, Country Brief, China
8. Australia’s economy is on the up, but the IMF forecasts a sharp fall is coming in 2023, Smart Company, 22 April 2022
9. If Australia doesn't have a radical surge in immigration, what will happen to the economy? ABC News, 22 Nov 2021