Wednesday, May 11, 2011

The Australian Budget

Despite floods and cyclones, the Australian Government expects to be back in fiscal surplus by 2012/13. This would make Australia one of the first developed economies to get back into surplus. This result is being achieved via a mix of expenditure restraint and robust economic growth – the latter at least by developed world standards. It also helps having avoided recession during the GFC.

The Budget deficit is expected to be larger this year with a forecast now of 3.6% of GDP. That largely reflects the upfront impact of the recent natural disasters and subdued household spending. A larger deficit is now also projected for 2011/2012. Nevertheless a small surplus is expected the following year.

Underlying real economy forecasts appear reasonable. GDP is forecast to expand 2.5% in 2010/11, rise to 4.0% in 2011/12 and then remain above trend in 2012/13 at 3.75%. With this robust growth the Government is expecting the labour market to tighten, wage growth to pick up and for inflation to rise to the top end of the RBA’s 2-3% target range in 2013.

The RBA will no doubt be welcoming a tighter fiscal stance as it will inevitably reduce the work that monetary policy has to do. However, in light of the real economy projections in the Budget, which we agree with, and the recent more hawkish tone from the RBA, we expect monetary policy to tighten further this year. I’m still happy with the view that the Australian cash rate will be at 5.5% (currently 4.75%) by year-end.