Australian construction activity up 3.4% in Q1

Australian construction activity outperformed expectations with a 3.4% rise in the December quarter, multiples of the 0.8% consensus. In fact, this was the strongest quarter the sector has put together in three years, though the series is often subject to significant revisions. Growth accelerated from 3.2% to 6.3% through the year. Much of the strength in this result for the March quarter was concentrated in the engineering segment (6.9%), most notably in mining powerhouse of Western Australia (43%). Building work saw only a modest rise (0.6%).  

Construction activity increased by 3.4% in the March quarter, its strongest quarterly rise since the start of 2023, to be up by 6.3% through the year. That signals an acceleration after a flat back half last year (0.1%). The key movements behind the headline result were: a 6.9% rise in engineering work (strongest since Q1 2023) and a 0.6% lift in building work, incorporating a 2.5% increase in non-residential construction and a 0.6% decline in residential building.   

By sector, activity continued to diverge. Private sector construction jumped 5.6% in the quarter, its fastest rise since 2017, for annual growth of 10%. That compares to a 2.4% fall in the public sector, its second consecutive fall. Output was down 3.1% for the year, likely reflecting the earlier completion of major projects, after growth peaked in late 2023 at nearly 16%. 

Engineering work lifted 6.9% in the quarter but was up only by 4.7% through the year. Work done in this segment captures projects in the mining sector as well as utilities (such as energy) and infrastructure. As noted above, the strong result from Western Australia is a likely indicator that this was driven by the mining sector.  

Total building work rose 0.6% quarter-on-quarter, a moderate result after lifting by 6.6% in the second half of last year. The strength was driven entirely by the non-residential segment, up 2.5% in the quarter and 11.2% through the year, with data centres playing a key role. By contrast, strength in residential construction came off (-0.6%q/q), slowing annual growth from 8.4% to 5.6%. Private new housing construction declined 1.3%q/q, a weak lead for March quarter GDP. 

Australian CPI 4.2% in April

Australia's latest inflation report was better than expected, due largely to a 7% fall in fuel prices after the federal government halved the excise tax from April 1. Headline CPI rose 0.4% in April - well down from March's 1% surge - slowing the annual pace from 4.6% to 4.2%, below market forecasts for 4.4%. The less volatile trimmed mean measure was little changed increasing by 0.3% in April and 3.3% over the year, indicating that inflationary pressures remain on the high side of the RBA's target band. Markets continue to price one further rate hike from the RBA this year, but the move is widely expected to be delayed after the unemployment rate unexpectedly hit a 4-year high in April.   

Monthly inflation was 0.4% in April, well down from March (1%) after the Middle East conflict saw fuel prices surge by almost 33%. The halving of the federal excise tax cut, in effect for 3 months from April 1, had an immediate impact as fuel prices fell by 7%, directedly deducting 0.3ppt from monthly inflation. But that only moderately offset the rise in March, leaving fuel prices 23.5% higher than before the Middle East conflict escalated. The more detailed data reported falls of between 9-10% in the month for regular and premium fuel to $2.06 and $2.28 per litre respectively; however, diesel continued to rise, up 14% to $2.92 per litre. 

While fuel declined sharply (shown under the transport category in the green bars in the chart below), several categories continued to push up on inflation. Recreation and culture (2.6%m/m) rose as Easter and school holiday-related demand pushed up prices for domestic travel. Private health insurance premiums, which reset in Australia on April 1 every year, surged by their most in years, reflected in the health group notching a 4% increase. Meanwhile, clothing and footwear prices rose 3.9% to also make a notable boost to inflation.   

Trimmed mean inflation, the key gauge for the RBA in assessing broader inflationary trends, rose 0.3% in April and lifted from 3.3% to 3.4% over the year. This measure rose above the 2-3% target band over the back half of last year, leading to the RBA responding with three consecutive rate hikes in 2026. That reverses the three rate cuts delivered in 2025 and leaves the cash rate 'somewhat restrictive' according to the RBA's latest communications. There was also some recognition given to the rising risks to the full employment side of its policy mandate, concerns seemingly given credence to in last week's April labour force report.      

Macro (Re)View (22/5) | Shifting outlooks

Markets continued to take an optimistic view of the situation in the Middle East despite conflicting headlines over a US-Iran agreement. WTI crude oil futures fell by almost 8% over the week, supporting broad equity gains. FX and rates pricing was more mixed. A hawkish shift from the Fed saw the US rates curve lift at the front end, though the USD was largely flat this week. Locally, a weak update on the labour market has thrown doubt on further RBA hikes, a headwind to the AUD.    

A near-term pause in the RBA's tightening cycle is strongly backed by markets after a very weak labour force report for April. Australia's unemployment rate rose to 4.5% - its highest since late 2021 - from 4.3% in March, driven by an 18.6k fall in employment (see here). Both outcomes were significant downside surprises, with markets looking for the unemployment rate to hold at 4.3% on the back of a 15k rise in employment. 

Market pricing for a 4th consecutive RBA rate hike in June was cut to a 5% chance from around 15% prior to the release, though one further 25bps hike to the cash rate (currently 4.35%) is still expected by year-end. That broadly reflects the RBA's narrative around capacity pressures and inflation risks, reiterated again this week in a speech by Deputy Governor Hunter and in the May meeting minutes. However, in my view a more interesting observation in the minutes was the Board's acknowledgment that risks to the full employment side of its dual mandate had increased due to its hiking cycle, a view seemingly validated by the April labour force report. 

In the US, a hawkish shift now has markets pricing in a 25bps hike as the next move by the Fed, previously expected to hold the fed funds rate steady in the 3.5-3.75% range through year-end. That reflected commentary from the Fed moving away from the question of when to cut rates to considering when it may need to hike. This is the discussion that Kevin Warsh, the incoming Fed Chairman sworn in by President Trump on Friday, will now lead. The April meeting minutes communicated the shift noting that 'a majority of participants' would likely support a hike if inflation remained above target, while 'many' members were in favour of removing the long-standing easing bias from the decision statement. A speech from Fed Governor Waller titled Policy Risks Have Changed was another key development. Waller said that the longer the energy price shock persists, the greater the risk that this translates to a broader spillover into inflation.

The policy outlook in the UK and euro area is showing signs of divergence. Markets price a moderate risk of a BoE hike this year whereas 2-3 hikes are priced in for the ECB, starting in June. This week, UK labour market and inflation data surprised to the downside, casting significant doubt over BoE tightening prospects. UK unemployment rose from 4.9% to 5% in March, while earnings growth softened from a 3.6% to 3.4% annual pace. In April, annual inflation slowed from 3.3% to 2.8% in headline terms and from 3.1% to 2.5% on a core basis, both undershooting expectations for 3% and 2.6% respectively. Additionally, the April reset of many prices saw services inflation - the key part of the basket being monitored by the BoE - fall from 4.5% to 3.2%, below the 3.5% pace expected. 

Australian employment -18.6k in April; unemployment rate 4.5%

Australia's unemployment rate shot up from 4.3% in March to 4.5% in April, reaching its highest since late 2021 as employment fell by almost 19k in the month. These were both huge downside surprises, with markets going into the report anticipating a 17.5k rise in employment and a steady unemployment rate of 4.3%. The RBA was already marked at long odds to deliver a 4th consecutive hike in June, but markets were pricing in one additional hike to the cash rate by year-end. The May meeting minutes released earlier this week noted that while the Board was adamant that the labour market was tight, it was mindful that risks to the downside had increased following its tightening cycle. There may be signs of that coming to fruition.    

Employment slipped by 18.6k in April, its worst result in 5 months, with both full (-10.7k) and part time employment (-7.9k) declining. That slowed the 3-month rolling average to just 11.2k. It is worth noting there are question marks over the data: the April survey was conducted during the Easter holiday period, and the ABS is also in the midst of an overhaul of the labour force series, but this was the sort of report that markets find hard to look past.     

The unemployment rate climbed to 4.5% in April. That was its highest reading since December 2021 and a clear break above its levels since the start of the year. As a result, the 3-month average for unemployment is now 4.4%, tracking above RBA forecasts for 4.2% and 4.3% by mid-year and year-end respectively.   

Notably, the higher unemployment rate reflected a weakening in labour demand, unable to be offset by a fall in labour force participation from 66.8% to 66.7%. The employment to population ratio - a measure of the share of people in work - rolled back to 63.7%, its lowest since mid 2022. With the unemployment rate lifting by 0.2ppt to 4.5%, total labour market spare capacity rose from 10.2% to 10.3% despite underemployment - that includes workers wanting more hours - actually falling from 5.9% to 5.8%.     

 

Hours worked were surprisingly strong rising by 0.8% in April given that employment fell and the timing of the Easter holiday period. The positive volatility from base effects saw annual growth lift to 3.6% from 2.5% previously. Curiously, full time (0.8%) and part time (0.5%) hours rose, despite employment levels falling in both segments.   

Preview: Labour Force Survey — April

The latest read on Australia's labour market is due today, with the April survey scheduled for 1130 AEST. Solid employment growth since late last year has kept the unemployment rate in the low 4% range, supporting the RBA's assessment that labour market conditions remain tight. That has been cited by the RBA as a key factor as it has hiked the cash rate three times this year. However, with the cash rate now seen as 'somewhat restrictive', the May meeting minutes released earlier this week noted that the Board is increasingly recognising there are rising risks to the employment side of its dual mandate. 

April preview: Steady as it goes 

Labour market conditions are broadly expected to have been little changed in April. The potential headwinds to hiring from RBA rate hikes and the Middle East conflict are likely to take a while longer to show. Markets go into today's report expecting employment to rise by 17.5k, around a 10-28k forecast range. The unemployment rate is expected to remain at 4.3% for the third month in succession, with estimates ranging from 4.2% to 4.4%.

Recent form shows that employment (green line in chart below) has surprised to the upside of expectations (yellow line) in three out of the last 4 prints - though the previous report for March was a modest downside surprise.   

March recap: Solid employment growth holds unemployment steady  

The labour market delivered a 17.9k increase in employment in March, just short of the 20k consensus but enough to hold the unemployment rate at 4.3%. All of the increase in employment came in the full time segment (52.5k) as part time fell (-34.6k). This brought the total increase in employment over the quarter to a solid 93.1k, tracking at an annualised pace of around 2.5%.  

A slight decline in labour force participation to 66.8% played a role in the unemployment rate holding at 4.3%. Still, the unemployment rate averaged 4.2% in the quarter. Underemployment stood at 5.9% in March, unchanged since the start of the year, while total underutilisation was 10.2%.  

 

Hours worked posted at 0.5% rise in March, more than rebounding from a decline in February (-0.2%), with base effects lifting annual growth to 2.5%. Quarterly hours increased by 0.9%, up from a 0.6% gain in the December quarter. 

Australian housing finance slows in Q1

Australian housing finance slowed in the March quarter, with falls seen in both lending commitments (-3.8%) and loan volumes (-6.2%), marking the weakest outcomes since late 2022. Sentiment was likely impacted by RBA rate hikes in February and March, while the first home buyer segment saw a pullback after surging in the prior quarter as the government expanded accessibility to its deposit guarantee scheme. Mostly pertinent to investors, changes to concessional tax arrangements coming out of the Federal Budget shape as another headwind.      

Lending commitments retraced from cycle highs with a 3.8% decline in the March quarter to $103bn, still up by more than 18% through the year. Both major segments weakened, with owner-occupier lending ($61.4bn) falling by 4.3%, while investors ($41.5bn) saw a 3% decline. In the owner-occupier segment, first home buyers took a step back from the previous quarter to see lending fall by 6.7%. Upgraders (-5%) also weakened. 

In terms of volumes, the total number of loans approved fell to just below 140k in the March quarter, a decline of 6.2%. At the peak post the pandemic, approvals were pressing 160k. A slightly larger contraction was seen in the owner-occupier segment (-6.9%) compared to investors (-5.3%).    

 

Australian Q1 Wage Price Index 0.8%; 3.4yr

Australian wages growth was 0.8% in the March quarter, with the annual pace easing slightly from 3.4% to 3.3%. These outcomes were broadly in line with expectations and RBA forecasts. There was little change in the pace of private sector wages growth, but the public sector saw a notable slowing after several new wage agreements went through in recent quarters.    

Wage inflation in the Australian labour market continues to track a solid pace. The headline Wage Price Index printed at 0.8% for the third quarter in succession in the March quarter. The major influence on quarterly wages growth came from enterprise agreements, largely linked to the public sector in Queensland (1.1%) as well as new policies in childhood education. 

Base effects saw annual growth ease from 3.4% to 3.3% but has seen little change for more than a year now. Underlying conditions in the labour market have loosened a little since the back half of last year but importantly remained consistent with being tight in the RBA's judgement. This has been a key factor behind the RBA's 3 rate hikes so far this year, which have sought to respond to inflation rising above target again. 

Private sector wages growth matched growth in the headline index at 0.8% in the quarter but was slightly softer in annual terms at 3.2%. Wages growth in the sector has slowed from a peak of 4.3% in the back half of 2023, though it has been broadly stable in the 3.3% area since late 2024. ABS analysis reported that the average pay rise in the private sector was 4% - but only 13% of jobs saw a wage change in the March quarter. 

Over in the public sector, wages growth has been more volatile in recent times than is typically the case, due to new wage agreements coming into effect. In the latest quarter, wages growth stepped down to 0.5% - its slowest outcome in two years. The annual pace slowed from 4% to 3.3%, a movement accentuated by base effects.  

In review: Australian Federal Budget 2026/27

Despite the headwinds from the Middle East conflict and rising inflation, Australia's fiscal outlook has improved somewhat. Surging energy and commodity prices are a net positive for Australia, while a higher inflation and nominal growth backdrop also boost tax revenue for the government. Policy changes are also part of the picture. Measures to curb spending in the nation's disability insurance scheme make, by far, the largest contribution to reducing deficits; however, changes that make long-standing tax concessions less favourable to investors have taken the limelight in post-budget coverage. 

The budget deficit in the current financial year (2025/26) is now on track to come in at $28.3bn or around 1% of GDP. That is an improvement from the $36.8bn deficit forecast back in the December update. Deficits through to 2029/30 (the forecast period covered by the budget) are expected to accumulate to $151bn all told, a $44bn reduction since the December update.  

As has been the case in recent years, a broadening set of measures have fallen under 'off-budget' spending, essentially regarded as investment expenditure. Including those measures, the headline budget deficit (yellow line in chart below) is $47.9bn in 2025/26 and around $265bn across the forward estimates.   

In the near-term, the economic outlook in terms of growth and the labour market is little changed - though inflation has been revised significantly higher to peak at 5%. That largely reflects the surge in global oil prices. The assumption for the Tapis oil price was raised to $100 per barrel from around $80 (in USD terms) forecast in December. Meanwhile, prices for key commodities (iron ore and coal) are likely to surprise typically conservative forecasts to the upside. 

With the conflict driving higher energy and commodity prices, the terms of trade is now expected to rise by 4.5% this year, upgraded from a flat prior forecast. This boosts nominal GDP growth (6.75%) and will ultimately be a windfall to the government. Forecast company tax revenue has been raised by $10.5bn over this financial year and next.  

However, with global growth slowing in 2026, these headwinds, as well as higher interest rates, will weigh on the domestic economy. Growth in 2026/27 was revised down by 0.5ppt to 1.75%. Those factors contribute to the forecast for inflation to cool rapidly, returning to the midpoint of the RBA target band.   

The changes to the economic forecasts have boosted the fiscal outlook by around $37bn through the forward estimates. Policy decisions taken by the government add another $8bn over the period. Thos factors are behind the reduction in forecast deficits.    

Regarding new policy, much of the limelight is around the changes announced to tax concessions on investments. From July 1 2027, negative gearing will apply only to newly constructed homes, while the government will remove the 50% discount that applies for capital gains tax, winding back the clock to 1999 where real gains on assets sold was taxed, attracting a minimum rate of 30%. These changes are forecast to net the government $3.5bn. Changes made to the NDIS are a far larger influence, expected to save the government almost $38bn - though over the next couple of years those savings will be outweighed by spending.   

Overall, the policy and economic parameter changes stabilise government spending at 26.8% of GDP before declining over 2028/29 and 2029/30. But that will remain higher than government revenue, reflecting the structural pressures on the budget, still including the NDIS and other major areas such as aged care, child care, debt interest and defence spending. 

Government net debt remains on a rising trajectory, forecast to lift from 18.8% of GDP in 2025/26 to 21.9% by 2029/30. Interest payments will lift to just below 1% of GDP over the coming years. The AOFM's issuance notice following the Budget has been estimated at $125bn in 2026/27, up from expected issuance of $120bn in 2025/26.  

Macro (Re)View (8/5) | Optimism continues

Market sentiment supported risk assets this week, with optimism towards a de-escalation in the Middle East remaining the central expectation. Front month crude oil futures fell by more than 7% on the week to below US$95, helping drive equity markets to broad-based gains and a bid into bonds reflecting reduced inflation risks. Higher beta currencies (EUR, GBP and AUD) were supported amid that backdrop. In central bank news, the RBA was joined by Norway's Norges Bank in hiking rates this week.  

The RBA delivered its third consecutive 25bps rate hike this week, raising the cash rate to 4.35%. Markets price in at least on further hike for the cycle, though the stage has been set for a near-term pause. At the post-meeting press conference, Governor Bullock described the cash rate as 'a bit restrictive', now at a level that addresses inflation risks while also giving the Board time to assess developments in the Middle East and in the Australian economy. 

Under current futures pricing for brent crude oil, the RBA raised its forecasts for inflation to peak later this year at 4.8% in headline terms and 3.8% on a core basis. But using a much higher path for the cash rate than was assumed by markets in February, the growth outlook has slowed materially this year (1.3%) and next (1.4%). For a full review of the meeting please see my note here. On the Australian data front, household spending in March was boosted by the fuel price surge (see here); the trade balance swing into deficit for the first time since 2017 (see here); and dwelling approvals retraced (see here). 

US nonfarm payrolls beat expectations for the second time in as many months, up 115k in April against the 65k consensus. Backward revisions were a net negative but only deducted a modest 16k from payrolls over February and March. With employment picking up and labour force participation declining slightly to 61.8%, the unemployment rate remained at 4.3%. Meanwhile, average hourly earnings growth firmed from 3.5% to 3.6%yr. Overall, this was a solid update on the US labour market that has remained more resilient than widely expected - including the Fed. Amid the uncertainty around the Middle East, markets have the Fed remaining on hold through year-end. 

Local elections in the UK have so far not been a market event, with counting to take some time and the early results largely as expected seeing heavy losses for the incumbent government. More volatility in GBP exposures could be seen next week if the results continue to increase pressure on PM Starmer. In the euro area, the unemployment rate fell from 6.3% in February to 6.2% in March, returning to cycle lows. However, the Middle East conflict and trade uncertainty remain headwinds to the labour market outlook - though the ECB appears on track to hike rates in June.