13 April, 2016 | Government & Social
A cursory glance says Western Australia’s (WA’s) economy is doing okay. Real Gross State Product (GSP) is growing at a healthy pace, inflation is low and unemployment is a little high but a long way from the levels seen in the early 90s. But there is another story that doesn’t show up in those headline figures. Falling commodity prices are impacting all areas of the economy, as can be seen in our Western Australian Economy Dashboard and discussed in the article below.
The health of the WA economy is highly dependent on the prices of commodities. This is because the mining and petroleum industry is the largest contributor to the state’s economy (34% of gross value added as of 2014-15).
The price of iron ore, WA’s largest export, has fallen almost 80% since it peaked in 2011. The prices of coal and LNG, which respectively are WA’s second and third largest exports, have also declined significantly. This drop in the value of commodities is contributing to WA’s falling terms of trade (the ratio of export prices to import prices). Accordingly, Western Australians are less well off because they can afford fewer imports.
The commodity price fall means that, while the headline GSP figure might look rosy, growing by 3.5% in 2014-15 compared to the previous year, WA is feeling the pinch. This can be seen in ‘nominal’ GSP, which measures the value rather than the volume of production. The value of WA’s production fell 6.9% in 2014-15 compared to the previous year. Essentially, WA got a 6.9% pay cut for working 3.5% harder.
Such a large change in prices also means you have to look a bit deeper than the headline inflation number to understand the full story. Perth’s headline inflation rate in 2014-15 was 1.1% but a broad measure of prices in the WA economy showed deflation of 10%.[1]
The impact of falling commodity prices is pervasive and can be seen in all of the components of GSP. Household consumption has increased by 1.1% compared to 2.4% during the previous financial year. The slower growth may be explained by an increase in the unemployment rate, lower wage growth and decreasing house prices.
WA’s unemployment rate has risen from 5.6% in February 2015 to 6.1% in February 2016, which is slightly above the current national unemployment rate of 5.8%. This is partly due to the shift in mining project development from labour-intensive construction to less labour-intensive production, as well as the cancellation of some projects that were in the planning phase.
The rising unemployment rate has also put downward pressure on wage growth, which slowed in 2015, as the income crunch in the broader economy flowed through to workers. While wages were still growing at 1.8% in 2015, growth has slowed due to lower demand for labour, resulting in wage freezes and fewer new jobs being created.
According to CoreLogic RP Data, Perth’s home prices fell by 4.1% from January 2015 to January 2016. This would have negatively affected household wealth and consequently consumption.
Dwelling investment in 2014-15 grew 4.1%, which is less than half the growth recorded in 2013-14. Additionally, the number of building permits issued have been falling since early 2015 suggesting a further slowdown in dwelling investment.
Business investment decreased by 12.3% in 2014-15. This reveals the impact of many mining projects coming to an end and a decline in further mining investments.
Government spending increased 0.5% in 2014-15. In 2015-16, the WA government is forecasting a further increase in the budget deficit, partly because the revenue received from mining royalties is forecast to fall a further 17%, compared to 2014-15. Increased iron ore production and a lower exchange rate are expected to only partially offset the fall in iron ore prices.
Net exports’ percentage contribution to GSP growth has increased over the past two years. It now stands at 4.4%. Although the persistent increase in export growth has benefited the WA economy, this is being undermined by the fall in commodity prices.
Given these developments it is not surprising that WA is enduring difficult times. Yet the flexibility ingrained in economic policy settings, particularly the floating Australian dollar, is helping the economy adjust. This means WA is more resilient now than in previous downturns and more resilient than countries like Brazil, which is struggling in part due to falling commodity prices and unhelpful policy settings.
The lower exchange rate makes our domestic products more competitive, improving profitability and encouraging domestic businesses to expand. This includes farmers, retailers and tourist operators. Also, lower wages mean that those businesses which struggled to attract workers during the resource boom will now be better off and major infrastructure projects will be less expensive to deliver.
Part of the adjustment process will require expectations to be re-aligned. Over the next few years economic growth will come from different areas of the economy and it will be slower than the rapid pace set between 2011 and 2014. The transition period is not easy but the WA economy is resilient and conditions will improve.
[1] The headline consumer price index, which is based on the prices of a basket of goods and services commonly purchased by households rose 1.1% while the broader GSP deflator, which includes the price of housing and exports, fell 10%.
13 April, 2016 | Government & Social
