Macro (Re)view (5/6) | Australian Q1 GDP contracts; US payrolls fly

The highlight on the tape of events domestically this week was the March quarter national accounts that confirmed the Australian economy recorded its first contraction on GDP in 11 years as activity was heavily disrupted by the emergence of the COVID-19 pandemic and the bushfires earlier in the summer. In Q1 GDP contracted by 0.3% slowing the annual pace from 2.2% to 1.4% matching its low during the GFC (reviewed here). Relative to other advanced economies, this was a modest contraction with the US (-1.3%), euro area (3.8%), UK (-2.0%) and Japan (-0.9%) all recording much steeper declines in the March quarter. However, the full scale of the disruption will be recorded in the June quarter, which is likely to show a contraction of around 7 to 8%, and the peak in the unemployment rate is reached.   

As a result of the progessive tightening of social distancing measures and travel restrictions, mostly to their full extent by the end of March, household consumption saw its sharpest decline on a single quarter since 1986 falling by 1.1% to be 0.2% lower over the year. This alone subtracted 0.6ppt from economic activity in Q1 (see chart of the week, below). The pattern of consumption highlights the change in behaviour the pandemic brought on as spending associated with preparation for lockdown (food +5.7%, alcohol +3.5%) and working from home (furnishings +1.3%) lifted strongly, while discretionary spending was avoided (travel -12.0%, cafes and restaurants -9.2%, clothing and footwear -8.9%) and was likely accentuated by the bushfires earlier on in the quarter. Activity in residential construction — in a downturn since the second half of 2018 — extended its weakness falling by a further 1.7% in Q1. Ahead of more material falls in line with the collapse in measured confidence and trading conditions as well as a highly uncertain outlook, business investment softened by 0.8% as a 1.7% contraction from the non-mining sector was moderated by the early stages of an expected upturn in the mining investment cycle (3.6%). The weakness across these components resulted in private demand falling by a sharp 1.1% in the quarter. In what has become a familiar theme, headline economic output was bolstered by strong contributions from public demand, which lifted by 1.5% on pandemic and bushfire aid, and net exports (+0.5ppt), though the outcome for the latter conceals the extent to which trade flows have been derailed by the COVID-19 crisis. 

Chart of the week

Amid what will be the most severe contraction in economic activity since the depression of the 1930s, the Reserve Bank of Australia maintained its pledge to provide more support to the recovery if required at its latest policy meeting this week (see here). That would firstly involve restarting its bond purchases that have stalled over recent weeks with yields on 3-year maturities being anchored near the 0.25% target and functioning across global markets having improved from the period of extreme volatility in February and March. The decision statement from Governor Philip Lowe contained reason for optimism noting that the earlier-than-expected easing of restrictions and the success the health authorities have achieved in slowing the rate of infection meant that the severity of the downturn may not be as sharp as feared. However, the governor also highlighted that the nature of the recovery "remains highly uncertain" and that even as the reopening occurs the damage to the economy from the pandemic would likely leave it with "long-lasting effects". 

In a full calendar of data releases this week the outturns reflected the reality of the lockdown over April. Retail sales collapsed by a record 17.7% in the month, which came after a record rise of 8.5% in March that was driven by stockpiling ahead of the lockdown (see here). Growth in basic food swung from 24.1% to -17.4% in April, while non-food sales dived by 17.9% as spending on clothing and footwear (-53.6%) and at cafes and restaurants (-35.4%) and department stores (-14.9%) plummeted. With the shops either closed or avoided, online sales surged to a record high, accounting for around 11% of total retail spending in the month. The trade balance moved lower from a record high in the month prior to $8.8bn in April (see here). Exports posted their largest decline in 11 years (-11.3%mth) on weakness in iron ore shipments and inbound tourism, while the fall on imports (-9.3%) was its sharpest in 36 years as the effect of the overseas travel ban saw outbound tourism vanish (-98.3%mth). Building approvals slid by 1.8% in April but were yet to show any meaningful weakness due to COVID-19 (see here), though the pandemic did put the brakes on the upswing in national property prices in May (-0.4%) as they posted their first monthly decline since last June according to CoreLogic data, albeit on very low volumes. 

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Moving offshore, sentiment in markets continues to remain notably upbeat driven by the tide of monetary and fiscal support and the sequential improvement in the data flow, taken as signs that their expectation for a sharp recovery in the global economy was on track. Adding weight to that was a stunning upside surprise on the latest US employment report for the month of May. Employment on non-farm payrolls (NFPs) surged higher by 2.5 million in the month in complete contrast to the median forecast for a decline of 7.5 million. This was the highest month-on-month gain on NFPs in history and comes immediately after its worst-ever result of a 20.7 million fall in April. As a result, the unemployment rate fell from 14.7% to 13.3%, though due to classification issues identified by the Bureau of Labor Statistics underemployment offers a better guide and that measure is much more elevated at 21.6%, down from 22.8% in April. It is a difficult report to interpret because the measurement period was ahead of when the reopening started occurring and it is against the run of play from all the other leading indicators, most notably initial jobless claims — up by a further 1.88 million last week — and continuing claims were up around 650k to just shy of 21.5 million on the latest numbers. One possible explanation could be that workers previously furloughed may have been taken back by their employers under the government's Paycheck Protection Program, even if they were not able to be back at work at that time.

In Europe, the response to the pandemic is really gathering pace now and the support is coming from both the fiscal and monetary policymakers. The European Central Bank (ECB) surpassed expectations announcing at its policy meeting this week that it would be increasing the size (from €750bn to €1,350bn) and duration (from the end of 2020 through to at least June 2021) of its Pandemic Emergency Purchase Programme (PEPP). Under the PEPP, the ECB has the flexibility to deviate from its capital key, and that in effect removes any constraint that it may have otherwise encountered in keeping spreads on sovereign bond yields compressed. The major beneficiary here has been Italy as revealed by the ECB's first breakdown of PEPP purchases this week. In terms of the outlook, the ECB's baseline view is for GDP to contract by 8.7% in 2020 ahead of a 5.2% rebound next year and then growth of 3.3% in 2022, meaning that output is expected to take around 2 years to return to its pre-pandemic level. In Germany, Chancellor Merkel unveiled a €130bn fiscal support package that is targeted at boosting household spending and providing assistance to small and medium-sized businesses. Included is a temporary cut in the value-added tax rate, assistance payments to families as well as cash flow and tax relief support for businesses hit by the pandemic.