Macro (Re)view (28/2) | Global Equities Hit With Coronavirus

The increasing spread of the coronavirus outside of China, most notably through Italy, Korea and Japan, led to a rout on global equity markets of around 10% this week (see chart of the week, below) as the earlier sense that its impact on economic activity would be transitory gave way to something more uncertain and long-lasting. This risk-averse sentiment saw bond markets rally hard, highlighted by the move in the benchmark US 10-year treasury yield to its lowest on record, while Australia's 10-year yield also plunged to record lows.

Chart of the week

The theme of last week's review was that equity markets would be looking towards central banks across the globe for signs they would remain supportive through this phase of uncertainty, but that faith was stretched this week as the response from monetary authorities left markets underwhelmed, typified by the surprise decision from the Bank of Korea to hold rates steady. In any case, the efficacy of an easing in monetary policy in the prevailing situation has come into question when it can seemingly do little to offset the impacts of disrupted supply chains, travel restrictions and an unwillingness of consumers to venture from home. Nonetheless, the tightening in financial conditions brought on by the plunge in equity markets this week has resulted in rate cuts being priced back into the market, with the US Federal Reserve (Fed) now expected to cut three times in 2020.

For its part, the Fed is taking a measured approach in assessing the impact of the outbreak, with Vice Chair Richard Clarida using a speech during the week to outline that it was "still too soon to even speculate about either the size or the persistence of these effects, or whether they will lead to a material change in the outlook". The Fed's ongoing guidance is that the "current stance of monetary policy will likely remain appropriate" unless developments emerge that prompt a "material reassessment of our outlook". Markets have unequivocally decided that the coronavirus is that material change and appear likely to firm up pricing for further easing in the weeks ahead. On the data flow, the 2nd estimate of US GDP growth was unchanged at 2.1% annualised in Q4, but with its key support of the past year or so in consumer spending moderating, the economy appeared on a slightly less constructive footing heading into a coronavirus-impacted Q1. Meanwhile, durable goods orders ex-transportation posted a stronger-than-expected result rising by 0.9% in January.

In Europe, a cautious approach was also being taken by the European Central Bank (ECB) with President Christine Lagarde in an interview with the Financial Times explaining that while the Bank was monitoring the coronavirus outbreak "very carefully" it was not yet ready to provide a policy response as it was not clear that it would cause a "long-lasting shock" to activity in the bloc. Similar sentiments were expressed by Executive Board member of the ECB Isabel Schnabel in a speech this week on the basis that "very little is yet known about the potential medium-term implications" of the coronavirus outbreak. The main data point from the continent this week was the European Commission's Economic Sentiment Indicator, which at a headline level lifted by 0.9pts to a stronger-than-expected 103.5 in February. This was driven by a more optimistic assessment from consumers of economic conditions, though this comes with the caveat that it is yet to incorporate any coronavirus-related impact.   

— — —

In Australian developments this week, the partial indicators on construction activity and business investment ahead next week's GDP growth outcome for the December quarter (previewed here) came to hand, both of which provided material downside surprises. The downturn in Australia's construction cycle intensified over the final months of 2019 as construction work done pulled back by a sharper-than-expected 3.0% in Q4, whereas consensus was for a modest 1.0% decline, steepening the fall in activity through the year from -5.6% to -7.4% (reviewed here). 

Renewed weakness came through from residential construction, likely accentuated by the summer bushfires and related smoke haze, as private sector activity contracted by its most in a single quarter (-4.6%) since Q2 2003, driving the annual decline from -9.4% to -12.6% to make this the sharpest downturn the sector has encountered in 18 years. New home building saw an accelerated 5.1% decline in the quarter (-13.5%yr) and continues to reflect the deterioration in dwelling approvals through 2018 and much of 2019, while renovation work was also down by 1.2% in Q4 (-5.6%yr). Weakness in private sector non-residential building was also notable in the December quarter (-4.7%), though it remained positive through the year (3.7%) following from an earlier uptrend in approvals for commercial and industrial facilities. Consistent with one of the major themes in the domestic economy over the past year or so, weakness in private sector construction activity was in contrast to relative strength in the public sector in which work done lifted by 0.7% in the quarter and by 0.5% over the year. Within this, infrastructure work appeared to have regained momentum through the second half of 2019, which given the pipeline of work to be done will not only be supportive of the growth outlook but also help the major capital cities to cope with strong population growth.

The dynamics for business investment in Australia remain challenging with confidence in the sector having deteriorated to its weakest since mid 2013 according to recent NAB Business Surveys, soft domestic demand conditions and an uncertain global backdrop. This was reflected by a 2.8% fall in capital expenditure (capex) by private sector firms in Q4, which resulted in the contraction over the year widening from -1.6% to -5.8% (reviewed here). A sharp 5.9% fall in capex on buildings and structures in Q4 confirmed the weakness conveyed in the construction activity data, though spending on equipment, plant and machinery lifted modestly by 0.8% in the quarter. On a sector-by-sector basis, mining sector capex pulled back by 2.7% in Q4 but appeared to have stabilised over the past year (0.9%yr) as the remaining large-scale LNG projects were completed, while non-mining capex showed further weakness in falling by 2.8% in the quarter and by -8.3% in annual terms. In looking ahead, the 5th estimate of investment plans at $120.3bn implied a modest 2.1% rise in total capex in the 2019/20 financial year, with the mining sector remaining on track to end 6 consecutive years of decline (11.4%) against weakness from non-mining (-1.7%) in a challenging environment. On the surface, estimate 1 of 2020/21 investment plans was more constructive than anticipated at $100.2bn, some 8.8% ahead of estimate 1 for 2019/20, but is tinged with considerable uncertainty given the bushfires and coronavirus outbreak. 

Preview: Australian Q4 GDP

Australia's December quarter National Accounts are scheduled to be released by the ABS 11:30am (AEDT) today. Estimates for GDP growth in Q4 are situated around 0.3 to 0.4%. For more than a year now, the Australian economy has been losing momentum as a protracted slowdown in the global economy and domestically-generated headwinds have combined to hold back activity. From an above-trend pace of 3.2% at the end of the second half of 2018, GDP growth had decelerated to 1.7% by the end of the September quarter of 2019 to be around its weakest in the decade since the GFC. The dynamics driving this slowdown have been persistent uncertainty offshore in response to trade and geopolitical tensions, weakness in domestic demand with households reining in spending following years of slow wages growth, a downturn in the residential construction cycle and businesses scaling back investment plans, while farm output has been severely impacted by drought conditions.

As it stands | National Accounts — GDP

GDP growth in the September quarter was 0.4%, which was slightly softer than anticipated (0.5%), as the annual pace edged up from 1.6% to 1.7% to be fractionally outpacing the rate of population growth (1.5%). While the pace of growth is languishing well below trend (around 2.75%), the Reserve Bank of Australia (RBA) has for some time fundamentally assessed the domestic economy to be passing through a "gentle turning point" ahead of pick up towards the end of 2020, though this outlook has been made notably more complicated by the nation's summer bushfires and the coronavirus outbreak in China.

Global growth in the OECD economies remained soft in Q3 rising by 0.3% as annual growth held steady at 1.6%. A material slowing in global activity ensued from the second half of 2018 in response to the emergence of trade tensions, mainly between the US and China, and as geopolitical uncertainties in the UK, Europe and the Middle East unsettled confidence. These headwinds severely impacted activity and investment plans in the global manufacturing sector that was in the midst of its deepest downturn in 7 years, though the more domestically-focused services sector had generally remained resilient.  

This challenging and uncertain offshore backdrop increased the intensity of the headwinds faced by the Australian economy. At the forefront is a household sector that has ratcheted consumption spending down to its weakest pace in more than a decade (1.2%yr) as confidence in the outlook deteriorated on the expectation that slow wages growth had become more entrenched and was unlikely to pass in the near term. Household disposable income did at least see a sharp 2.5% rise in Q3 in response to earlier monetary and fiscal stimulus measures but with debt levels high and sentiment waning, households remained reticent to spend as the saving ratio surged up by 2.1ppt to 4.8% to a 2½-year high. The resumption of the RBA's easing cycle from earlier in 2019 had also been key in supporting an emerging upswing in national house prices by Q3 after a near two-year-long downturn, driven mostly by the Sydney and Melbourne markets. While supportive of the outlook further out, the downturn in the residential construction cycle intensified in Q3 with new home building contracting at its fastest pace in 18 years, reflecting a deterioration in dwelling approvals through 2018 and much of 2019. 

Business investment remained weak through the year to Q3, weighed by the ongoing unwind in the mining sector as large-scale LNG projects moved closer towards completion, while investment from the non-mining sector was subdued in response to soft domestic demand conditions and an uncertain global backdrop. The combined weakness in household consumption, residential construction and business investment resulted in private sector demand falling by 0.3% in Q3 to -0.4% in annual terms to be contracting by its most since the GFC. In contrast, public demand was the leading contributor to activity in Q3 and over the past year, rising by 1.7% in the September quarter and by 5.2% in annual terms, supported by healthcare-related spending. Economic activity was also bolstered by net exports in Q3 (+0.2ppt) and through the year (+1.1ppt) on strength in resources and services exports, the latter helped notably by a weaker Australian dollar, as import volumes pulled back in line with the weakness in domestic demand conditions.   

Key dynamics in Q4 | National Accounts — GDP

Household consumption — A more constructive outturn from retail sales volumes came through in Q4 rising by 0.5%, which was its strongest quarterly result since Q2 2018, likely driven by a Black Friday-related boost. While an upswing in house prices continued to emerge and stimulus from RBA rate cuts and tax offset payments combined to generate a 2.5% tailwind for household disposable income growth in Q3, a deterioration in consumer sentiment over Q4 is likely to have meant that the focus remained on saving and paying down debt. In addition, the summer bushfires and related smoke haze across several major capital cities is also likely to have weighed on spending as consumers opted to stay at home. Employment growth stepped down in December quarter after a robust Q3 and with participation near to record highs, spare capacity in the labour market remained elevated and ensured slowed wages growth persisted.

Dwelling investment — The residential construction cycle saw renewed weakness in the final three months of 2019 as activity contracted by 4.6% in Q4 to be down by 12.6% through the year, with the sector mired in its sharpest downturn since 2001. The weakness in Q4 was centred on an accelerated decline in new home building (-5.1%qtr), though alteration work also fell (-1.2%qtr).        

Business investment  — Strong headwinds from weak confidence, soft domestic demand conditions and an uncertain global backdrop continued to weigh on business investment as capital expenditure declined by 2.8% in Q4 to be down by 5.8% through the year. The wind-down in mining investment from its peak in the early part of the decade appeared to be close to the end of the line but non-mining investment was weakening.  

Public demand — Growth in underlying public demand was softer than anticipated in Q4 rising by 0.3%. This was supported by a 0.7% rise in public spending, which centres on health-related initiatives, as investment weakened (-1.3%).  

Inventories — After adding modestly to activity in Q3, inventories are likely to contribute around 0.2ppt to GDP growth in Q4. Strength in mining and utilities inventories offset weakness elsewhere.    

Net exports — After making a modest contribution to activity in Q3 (+0.2ppt), net exports will contribute 0.1ppt to GDP growth in Q4. Export volumes were flat in Q4, while imports declined by 0.5%. Meanwhile, the terms of trade fell by 5.3% in the quarter on weaker commodity prices. 

Q4 Australian CapEx -2.8%; 2019/20 investment plans $120.3bn

Capital expenditure by Australian private sector firms declined by 2.8% in the December quarter, which disappointed market consensus for a modest rise. A deterioration in confidence, soft domestic demand conditions and offshore headwinds are clearly weighing on business investment.    

CapEx — Q4 | By the numbers

• Total private sector capex spending contracted by 2.8% in the December quarter (-$816m) to $28.454bn against the consensus forecast for a 0.5% rise (prior revised -0.4% from -0.2%). In annual terms, the decline was accelerated from -1.6% to -5.8%.

• Equipment, plant and machinery investment lifted by 0.8% ($110m) to $13.639bn but this followed a 3.6% fall in Q3, while the annual decline slowed from -2.9% to -1.4%.  

• Buildings and structures investment fell by a sharp 5.9% in Q4 (-$925m) to $14.815bn after a 2.5% lift in the previous quarter; the annual fall steepening from -0.6% to -9.6%. 

 

• The 5th estimate of investment plans for the 2019/20 financial year was nominated at $120.3bn; an upgrade of 2.8% on estimate 4 but implying only a modest rise of 2.1% through the year. Meanwhile, firms' 1st estimate of investment plans for 2020/21 was $100.2bn; 8.8% above estimate 1 from 2019/20

CapEx — Q4 | The details

Australian firms pulled back on capital expenditure for a 4th consecutive quarter, with Q4's 2.8% contraction the weakest outcome since a 4.0% fall in Q3 2016. Over the year to the December quarter, capex fell by 5.8%, which is its weakest pace in nearly 3 years. The weakness has centred on the non-mining sector of the Australian economy where confidence among firms has deteriorated in response to weak domestic demand conditions and elevated uncertainty over the global backdrop, sapping their willingness to invest in spite of an unprecedented level of monetary stimulus from the RBA. 

  

Looking further into the details, non-mining capex contracted for the 4th straight quarter after falling by 2.8% in Q4 (-$592m)  to $20.303bn, accelerating the annual decline from -2.5% to -8.3% to its weakest point since Q1 2013. Within this, 'other industries' (mainly services) capex extended its period of weakness out to a year with a 1.9% fall in Q4 (-$343m) to $18.076bn to be down by 8.6% in annual terms, while manufacturing capex saw a notably sharp contraction of 10.1% in Q4 (-$249m) to $2.227bn (-5.4%yr), though this after strong rises in the previous two quarters that was somewhat counterintuitive given the global downturn in the sector. Mining sector investment fell by 2.7% in Q4 (-$224m) to $8.151bn, with the underlying detail indicating weakness in both building and equipment, though over the past year capex has stabilised (0.9%yr) as the remaining large-scale projects were completed.  

By state, capex saw broad-based declines in Q4; New South Wales -6.3% (-7.6%yr), Victoria -5.6% (-6.8%yr), Queensland -4.0% (-8.0%yr), South Australia -1.4% (-5.7%yr) and Western Australia -1.2% (+0.6%yr). Against this trend, the Northern Territory (+17.3%qtr, -11.7%yr) and Tasmania (+8.0%qtr, -25.0%yr) recorded increases in Q4 but are both down sharply on a year earlier, while the Australian Capital Territory is the only jurisdiction where capex was up in the quarter (+30.9%) and over the year (+10.5%).

Turning to the intentions component from today's survey, the 5th estimate of total capex spending by firms in the 2019/20 financial year was nominated at $120.3bn. This figure has been upgraded by 2.8% on the level firms reported to the ABS 3 months earlier ($117.0bn), but this implies that capex will only rise by 2.1% in the current financial year compared with 2018/19. Within this, mining investment remains on track to end 6 consecutive years of decline with an anticipated rise of 11.4%, but non-mining mining investment is projected to fall by 1.7% through 2019/20, weighed by the services sector (-2.3%) with some moderation coming through from a 2.5% rise in manufacturing capex. 

Firms also provided their 1st estimates for capex spending in 2020/21, reporting these to the ABS during January and February. Estimate 1 was nominated at $100.2bn, which is 8.8% above the first estimate that firms put forward for 2019/20. This, however, is centred on a projected rise of 28.0% in mining investment against 0.6% fall in non-mining investment plans, driven by services (-1.6%) with manufacturing up by 6.8%. Typically, 1st estimates prove to be an unreliable guide to actual investment and extra caution is warranted in this case after the summer bushfires and recent coronavirus outbreak in China.   

CapEx — Q4 | Insights

The weakness in today's report around the sharp contraction in building and structures (-5.9%qtr) confirmed the weakness conveyed in yesterday's construction activity data (see here). Details for equipment spending were a modest positive (+0.8%qtr) after contracting sharply in Q3. Overall, business investment is likely to have continued to weigh on economic activity in the December quarter with weakness in confidence, soft domestic demand conditions and uncertainty offshore strong headwinds.

Preview: Capital Expenditure Q4

Australia's capital expenditure (capex) survey for the December quarter is scheduled for release by the ABS at 11:30am (AEDT) today. The highly informative capex survey provides a partial read on business investment each quarter and also includes an intentions component where firms submit estimates of their anticipated level of capex spending. In each of the last three quarters, capex spending has declined where the weakness has centred on the non-mining sector in response to soft domestic demand conditions and uncertainty over the global backdrop. Meanwhile, the outlook for mining sector investment has been gradually improving following six years of decline.    

As it stands | Capital Expenditure

Capex by Australian firms fell by 0.2% in the September quarter to $29.4bn to be down by 1.3% over the year. The underlying details were mixed; spending on building and structures rising by 2.7% to $15.9bn (-0.3%yr) but more than offset by a 3.5% fall in expenditure on equipment, plant and machinery to $13.6bn (-2.4%yr).

On a cross-sector basis, mining sector capex posted a 3.9% rise in Q3 to $8.5bn, turning annual growth positive for the first time since Q1 2013 at 1.2%. Against an improving profile in the mining sector, non-mining capex contracted for the third straight quarter falling by 1.8% in Q3 to $20.9bn to be down by 2.3% over the year, which was its worst annual result in 4 years and comes in response to weak domestic demand conditions and uncertainty offshore. The decline was centred on the services sector where capex contracted by 2.7% in the quarter to $18.4bn (-3.0%yr), amid resilience from manufacturing investment (+5.5%q/q, +3.0%Y/Y) despite the global downturn in the sector.

The 4th estimate of firms' capex plans for the 2019/20 financial year was softer than expected at $116.7bn. This figure was up by 3.4% on estimate 3 and implied only a modest year-to-year rise of 2.5% in capex spending. Intentions for services firms were notably weak in pointing to a 3.3% decline compared with 2018/19 as a soft domestic economy and uncertainty over the global outlook weighed on investment plans. In the mining sector, intentions were much more constructive, with investment on track to expand by 15.7% through 2019/20 for its first year-to-year increase in 7 years.

For a full review of Q3's capex survey see here

Market expectations | Capital Expenditure

In today's report, the consensus outcome according to Bloomberg's survey is for capex to rise by 0.5% in Q4, between a range of estimates from -1.5% to +1.5%. The intentions component will include a fifth estimate for total capex spending in 2019/20 and also the first estimate of plans for the 2020/21 financial year. 

What to watch | Capital Expenditure

According to the NAB's Business Survey, confidence levels in the business sector have weakened to be around their lowest since mid 2013 in what has been a challenging climate of soft domestic demand conditions and an uncertain global backdrop. The situation has been further complicated by Australia's summer bushfires and the outbreak of the coronavirus in China. In light of this, the intentions component of the survey is where most of the focus will be for markets, most notably the first estimate for 2020/21. Firms reported their capex plans to the ABS in January to February, so this will offer an early gauge on how sentiment may have been impacted. For those casting their view towards next week's Q4 GDP outcome, the details for capex spending on equipment, plant and machinery is where to look.    

Q4 Australian Construction Activity -3.0%; 7.4%yr

The downturn in Australia's construction cycle intensified in the December quarter as activity contracted by much more than expected on renewed weakness in the residential sector, possibly accentuated by the summer bushfires. Furthermore, non-residential and engineering work also weakened in the quarter, with construction activity likely to weigh notably on next week's GDP growth outcome for Q4.     

Construction Work Done — Q4 | By the numbers

• Total construction activity (including the private and public sectors) fell by 3.0% in the December quarter to $49.773bn; much sharper than the 1.0% contraction expected. Activity in Q3 was revised up by the ABS in today's report to show a modest 0.4% rise from the -0.4% decline reported initially. Construction activity showed a steeper decline through the year from -5.6% to -7.4%. 
• The headline results were;  
• Residential work -4.6%q/q to $17.486bn (-12.8%Y/Y)
• Non-residential work -3.4%q/q to $11.451bn (+3.3%Y/Y)
• Engineering work -1.5%q/q to $20.836bn (-8.0%Y/Y)

Construction Work Done — Q4 | The details 

Australia's construction cycle remains mired in a sharp downturn with overall activity now having contracted in 5 of the past 6 quarters. This has has been driven by a rollover in residential construction work, residual weakness as remaining large-scale projects in the LNG sector completed and a slowdown in public works.   

Private sector construction activity showed renewed weakness in Q4 with a 4.2% fall to $37.674bn, driving the decline in annual terms from -5.0% to -9.7%. Engineering work pulled back for a 4th consecutive quarter with a 3.1% fall to $12.152bn (-13.3%yr), with tomorrow's capital expenditure data to provide further insight here. Building work fell by 4.6% in the quarter to $25.522bn to be contracting at its fastest pace in annual terms (-7.9%yr) in the post-GFC period. 

Within this, the residential construction cycle saw accelerated weakness in Q4 with activity falling by 4.6%; its sharpest quarterly fall since mid 2003, to be down by 12.6% over the year. This downturn is the deepest the sector has experienced since the early part of this century following the introduction of the GST. New home building contracted by 5.1% in the quarter (-13.5%yr), while alterations were down by a more modest 1.2% in Q4 (-5.6%yr).

Non-residential (commercial) building followed its volatile profile from the past few quarters in falling by 4.7% to $8.216bn, though this was after a 7.8% rise in Q3. Activity in this category is positive through the year (3.3%) and reflects strength in approvals from earlier in 2019. 

The public sector is providing some offset to weakness in the private sector, with activity lifting modestly in Q4 by 0.7% to $12.1bn as annual growth came back into expansion (+0.5%) for the first time in more than a year. Engineering (infrastructure) work drove this outcome rising by 1.0% in the quarter to $8.683bn (0.7%yr) and building work was flat in Q4 at $3.415bn (-0.1%yr). Overall, public works appears to be regaining momentum after coming through a slowdown between the second half of 2018 and the first half in 2019, and with an elevated pipeline of projects to be completed, it should remain supportive for the growth outlook.  

From a state perspective, the table (below) provides the breakdown for total construction work done in Q4 and over the year. In New South Wales, the construction cycle has been heavily impacted by the rollover in the residential sector, though strength in commercial work has proved some offset, while engineering work has been weak over the past year or so. It has also been a weak picture in Victoria, albeit not to the same extent as its northern counterpart. Residential weakness has weighed heavily on the construction sector in Queensland and Western Australia, with the full impact from the unwind in mining investment also being felt by these states, though commercial work has at least picked up. Following strength in 2018, both South Australia and Tasmania were mired in weakness by the end of 2019.  

Construction Work Done — Q4 | Insights

This was a much weaker-than-anticipated outcome and next week's national accounts are likely to show that construction activity weighed notably on GDP growth in Q4, led by the residential sector. There is a possibility that Q4's weakness has been accentuated by the summer bushfires and related smoke haze, with the ABS reporting some minor disruption to its data collection in New South Wales, Victoria and the Australian Capital Territory, but this is coming amidst a downturn in the construction cycle in any case. The contrast between private sector construction activity (-4.2%qtr, -9.7%yr) and the public sector (0.7%qtr, 0.5%yr) remains consistent with one of the key dynamics over the past year or so in the Australian economy, whereby private demand conditions have been weak at a time when growth in public demand has been expanding at a robust pace. A strong pipeline of public infrastructure work is likely to see this continue. The recent upswing in house prices and improving momentum in dwelling approvals will likely result in the downturn in the residential construction cycle ending by around Q3 or Q4, but not before subtracting further from GDP growth through the first half of 2020. 

Preview: Construction Work Done Q4

The ABS is due to release the latest update of Australian construction activity covering the December quarter at 11:30am (AEDT) today, which will feed into next week's GDP growth outcome for Q4. The nation's construction cycle fell into a downturn from the second half of 2018 as the residential sector rolled over, work on major LNG projects wound down and public works slowed. Expectations are that activity contracted further over the final months of 2019, potentially impacted by the bushfires and related smoke haze.    

As it stands | Construction Work Done

Construction activity recorded a fifth consecutive quarterly decline with a 0.4% contraction in Q3 to be down by 7.0% through the year, though this is well above the trough in the cycle of nearly -17.5%Y/Y in Q3 2018. 

Private sector residential construction activity fell by a further 3.0% in Q4 with the decline in annual terms increasing from -8.1% to -10.4% making this downturn its sharpest in more than 18 years. New home building saw a 3.4% contraction in Q4 as the pace of decline through the year steepened from -8.5% to -10.7%, while alteration work was broadly flat in the quarter (- 0.2%) but down by 7.9% across the year. Private non-residential (commercial) work provided some offset with a 4.1% rise in Q4 for an annual gain of 6.4% in response to an earlier upswing in approvals. Private engineering work remained weak with a 4.6% fall in Q4 (-11.4%yr), which largely reflected the wind-down in the final stages of the remaining large-scale LNG projects under construction.  

Public sector works lifted for the first time since the June quarter 2018 with a 5.4% rise in Q4, slowing the annual decline from -13.4% to -5.1%. This was led by renewed strength in engineering (infrastructure) activity (6.4%qtr) following several soft quarters but it remained down on the level from a year earlier (-7.0%). Public building rebounded from weakness in the previous two quarters rising by 2.6% in Q4 to be little more than flat through the year (0.4%).

For a full review of construction activity in Q3 see here 


Market expectations | Construction Work Done 

For today's outcome, the consensus forecast according to Bloomberg's survey of economists is for construction activity to fall for a sixth straight quarter with a 1.0% contraction in Q4. The range of individual estimates is between -3.0% and +0.6%. 


What to watch | Construction Work Done

Details on private residential construction activity are key, with the possibility that weakness in the cyclical downturn may have been accentuated in Q4 due to disruptions associated with the bushfires and smoke haze. Activity in December quarter is also likely to reflect sharp declines in dwelling approvals through Q2 and Q3. 

Macro (Re)view (21/2) | Support from central banks remains key

The labour market was the key focus in Australia this week as the latest updates on wages and employment confirmed an ongoing persistence of spare capacity. For the Reserve Bank of Australia (RBA), lowering spare capacity is key but while it still has policy space and the preparedness to ease further, it is far from a straightforward case for the Board. Wages growth remained confined to the slow lane in Q4 as the Wage Price Index lifted by 0.5% in the quarter and 2.2% on the year, both as expected and unchanged from Q3 (reviewed here). While wages growth has lifted off its 2016 lows of around 1.9% in annual terms, the momentum of this gradual uptrend faltered over the second half of 2019 in line with a slowing in the pace of employment growth.

In the private sector, wages growth posted its 4th consecutive quarterly rise of 0.5% but the annual pace moderated from 2.25% to 2.16% to its softest in more than a year. A sharper slowdown was seen in the public sector, with the quarterly pace stepping down from 0.5% to 0.4% as annual growth weakened from 2.49% to 2.25% to a 3-year low. The cross-industry breakdown highlighted the weakness of the wages impulse, with the pace of wages growth picking up in only 5 of 18 measured industries over the year, including in the mining and healthcare sectors. Outside of the Fair Work Commission's 2019 decision to raise the minimum wage by 3.0%, there appears to be very little underlying pressure being applied to wages from labour market conditions. 

This week, the first update on the labour market for 2020 was released by the ABS (reviewed here). The good news was that employment posted its third straight above-consensus result with a 13.5k increase in January, with markets anticipating a more modest rise of 10.0k. However, with the participation rate ticking up from 66.0% to 66.1%, employment growth in the month was vastly slower than growth in the labour force. As a result, the unemployment rate was driven from up 5.08% to 5.29%, which was its sharpest rise (+0.21ppt) in a single month in 4 years and unwound the declines achieved over the final two months of 2019. Of more concern for policymakers, spare capacity in the labour market became more elevated at the start of 2020, rising to its highest levels since mid 2018 as the underemployment rate (workers currently wanting more hours) lifted from 8.3% to 8.6% and the underutilisation rate (including the underemployed and unemployed) rose from 13.4% to 13.9% (see chart of the week, below).

Chart of the week

These are challenging dynamics for the RBA. On the one hand, it will see workforce participation at or near record highs as a long-term positive that will add to the nation's growth potential, but on the other, the current pace of employment growth means that it can only achieve gradual progress towards its objectives of full employment and inflation within the 2-3% target. The RBA's minutes from its February meeting showed that the Board had discussed further lowering that cash rate in an attempt to speed up the pace of employment growth and bring it closer to meeting its objectives, though it opted against that action on the basis that more time was needed to assess the impact of its three rate cuts in 2019, while it had also become mindful that even lower rates could pose risks to financial stability with house prices continuing their upswing. The Board's deliberations on policy settings are set to become even more nuanced following the outbreak of the coronavirus, which it noted: "presented a material near-term risk to the economic outlook for China and for international trade flows, and thereby the Australia economy". The Bank's recent set of updated forecasts implied that it anticipates activity to be held back over the first half of 2020, due largely to the coronavirus and bushfires, before picking up over the second half. Overall, it appears the Board will seemingly be prepared to look through some weakness in the near-term data flow, though its confidence in its outlook will be tested if this shows signs of being a more material deterioration.  

— — —

Moving abroad, the response to the coronavirus outbreak from authorities in China ratcheted up as the People's Bank of China (PBoC) announced a range of interest rate cuts, while government sources in media reports had also indicated that the banking sector had been providing key firms with cheap loans to support activity through the disruption. The stimulus measures saw Chinese equity markets surge higher on the week, though concerns around the global economic outlook in the face of the outbreak saw weakness ensue across the other regions. The first signs of the disruption caused outside of China were provided on Friday through weak Purchasing Managers' Index (PMI) readings for Japan, with manufacturing conditions falling further into contraction from 48.8 to 47.6, while the services sector swung from modest expansion (51.0) into contraction at 46.7. This followed a much sharper-than-expected contraction in activity in Japan in Q4 where GDP fell by 1.6%, and while this was influenced by a sharp decline in household spending following a rise in the sales tax rate from 8% to 10%, effective from the start of the quarter, it also reflected weakness from business investment and residential construction. 

In the US, the minutes of the Federal Reserve's (Fed) policy meeting at the end of January were released, where the Committee remained on hold and continued to assess that the "current stance of monetary policy (1.5-1.75%) was appropriate" to support the ongoing expansion in the economy, strong labour market conditions and inflation returning to target. Vice Chair of the Federal Reserve Richard Clarida reaffirmed these themes during the week, noting that "the fundamentals in the US are strong... It's a good picture". However, the Committee is clearly cautious on the global outlook due to the prominence of risks around trade uncertainty and the coronavirus, highlighted in the minutes by the line that it is "mindful of the possibility that the tentative signs of stabilization in global growth could fade". A deterioration in the global economy would have implications for the US and, most likely, the Fed's policy stance and this played through markets this week as yields across the curve flattened; the 10-year Treasury yield going sub 1.5% for the first time since 2016. Meanwhile, US equity markets reflected this risk-averse sentiment where declines accelerated after February's flash PMI readings came in weaker than expected, with the composite index falling into contraction for the first time in more than 6 years (from 53.3 to 49.6), which was driven activity in the services sector rolling over from 53.4 to 49.4 to signal its first contraction in 4 years. In the manufacturing sector, activity was also weaker in the month, though it was still able to remain in expansion at 50.8. 

Over in Europe, expectations were that Friday's flash PMI reads would show signs of the impact of the coronavirus spilling over into activity in the bloc. In the event, the readings came in better than expected, with the composite PMI for the Eurozone rising to a 6-month high of 51.6, as the services sector continued to show resilience (52.8) amid the ongoing contraction in manufacturing (49.1). In the Account of the European Central Bank's most recent policy meeting, released this week, the Governing Council had agreed that the performance of the services sector was a sign that its stimulus measures announced back in September were supporting the economy, even though investment intentions were still weak. With the euro area being heavily trade-exposed economy, the completion of the phase one deal between the US and China had been generally perceived as lessening the downside risks to the outlook. Nonetheless, some members had warned against becoming Governing Council "becoming too optimistic". Certainly, caution seems warranted on this week's PMI readings, with the impacts of the coronavirus on supply chains, tourism and external demand seemingly yet to be reflected in the data. 

Australian employment +13.5k in January; Unemployment rate 5.3%

Australian employment lifted by more than expected in January with a 13.5k increase, but that was outweighed by a sharp rise in the unemployment rate to 5.3% as the declines achieved towards the end of 2019 were unwound. 

Labour Force Survey — January | By the numbers

• Employment on net increased by 13.5k (seasonally adjusted) in January, beating the consensus estimate (+10.0k) for the third straight month. December's initially reported 28.9k increase was revised to 28.7k.

• Australia's unemployment rate lifted by more than expected rising from 5.1% to 5.3%, where consensus had been for a more gradual uptick to 5.2%.  
• Underutilisation rate increased from 13.4% to 13.9% and the underemployment rate lifted by 0.3ppt to 8.6%, with both measures rising to their highest since June 2018. 

• Workforce participation rate edged up unexpectedly by 0.1ppt to 66.1% (expected: 66.0%), just below its record high of 66.2%.

• Aggregate hours worked declined by 0.4% in January — its weakest monthly outturn since May 2018 — as the annual pace pulled back from 2.2% to 0.9%. 

Labour Force Survey — January | The details

Starting on a positive note, January's employment outcome of 13.5k was stronger than the 10.0k rise anticipated by markets and followed the outperformance recorded in November (37.1k) and December (28.7k). The last time employment came in ahead of consensus for three straight months was between March and May 2019. The downside was that employment in January was not nearly strong enough to meet the number of new entrants into the labor force (44.6k) as the participation rate lifted from 65.99% to 66.09%. As a result, the total of unemployed increased by 31.0k, which equated to the unemployment rate rising by its most (0.21ppt) in a single month in 3 years from 5.08% to 5.29%, unwinding the declines recorded in November and December.  

Arguably, of more concern to the Reserve Bank of Australia will be the rise in spare capacity. The underemployment rate (counting workers who want and are available to work more hours) increased from 8.3% to 8.6%, and the underutilisation rate (combining the unemployed and underemployed) escalated from 13.4% to 13.9%. An elevated level of spare capcity continues to restrain the pace of wages growth in Australia, as highlighted in yesterday's WPI data for Q4 (see here).  

Breaking January's employment outcome down, the 13.5k increase was the net result of full-time employment rebounding from several weak months rising by 46.2k, while the part-time segment declined by 32.7k after showing strength in the preceding two months. In annual terms, the pace of employment growth eased from 2.06% to 1.94%. Annual growth in the full-time segment softened from 1.76% to 1.65% and part-time moderated from 2.72% to 2.58%.

Aggregate hours worked were notably weaker in January falling by 0.4%, though the ABS's analysis had found no significant bushfire-related impact, while annual growth was lowered from 2.2% to a soft 0.9%. On an average basis, hours worked per employee declined by 0.6% to 137.1 hours in January to be down by 1.0% from a year earlier. 

Looking across the states, employment outcomes were generally subdued in the month; New South Wales -1.5k, Victoria +2.9k, Queensland +2.8k, Western Australia +6.7k, South Australia +1.0k and Tasmania +0.3k. In terms of unemployment rates, South Australia was the only state to record a decline this month falling from 6.2% to 5.7%. New South Wales' unemployment rate was maintained at 4.5%, but there were increases for all other states; Victoria from 4.9% to 5.4%, Queensland from 5.7% to 6.3%, Western Australia from 5.4% to 5.8% and Tasmania from 5.5% to 5.9%. 

Labour Force Survey — January | Insights

Employment growth softened over the second half of 2019, though the year did finish on a somewhat positive tone after the strong outcomes in November (37.1k) and December (28.7k). Today's result was much more modest at 13.5k, but taking into account the strength towards the end of 2019, the 3-month average has lifted to 26.4k off lows of around 9.0k between October and November. The surprise in today's report was the sharp rise in unemployment and spare capacity more broadly, even allowing for the increase in participation. The Reserve Bank of Australia has made it clear that further easing will be dependent on a deterioration in labour market conditions, and while today's report in isolation probably does meet meet that qualification yet, the warning signs are there.