Thursday, May 24, 2012

New Zealand Budget 2012

Budget 2012 is a product of the times.   A “zero” budget was the only real option open to the government as it works to get back to surplus and start repaying debt again.  That remains an important goal in an environment in which markets (and rating agencies) are paying close attention to countries financial accounts, especially those reliant on financing from global capital markets.

The strongest feature of this budget is expenditure restraint with new initiatives being funded out of reprioritised spending.  That’s an excellent process and one that we would support regardless of the health of the Government’s finances or the state to the economy. 

The Government has had a lot to cope with over the past four years.  The Global Financial Crisis and the Canterbury earthquake have been significant economic, and therefore also fiscal, events.  The good news is that the New Zealand Government’s finances were in good shape before those events.  They are therefore able to be put back into shape without too much pain.   


·    A deficit of 4.1% of GDP in 2012, down from the earthquake impacted 9.2% in 2011.

·    The deficit improves to 3.6% of GDP in 2013, and a small surplus is forecast in 2014/15.

·    The Budget includes new spending of $4.4 billion over 4 years.  That is funded by new revenue measures that are expected to raise $1.4 billion over 4 years and $3 billion over 4 years funded out of reprioritising existing expenditure

·    The targeted proceeds of $5-7 billion from selling minority shares in five SOEs will be funnelled into the Future Investment Fund to invest in modern schools, hospitals, innovation, and transport.

·    Net core crown debt as a percentage of GDP is set to rise from 25% in 2012 to a peak of 28.7% in the June 2014 year.  It then falls to 27.7% of GDP in 2016.

Economic Assumptions

·    The Treasury is relatively optimistic on the economic outlook, expecting GDP growth to climb to a peak of 3.4% in the March 2014 year (AMP Capital 2.9%).   Their growth assumptions are higher than ours through-out the forecast horizon, which infers downside risk to the Government’s revenue forecasts.

·    We broadly agree with the Treasury’s forecasts for consumption and the external sector, but we appear to differ most on the magnitude of the impact from the Canterbury rebuild.

·    The government sees the unemployment rate dropping steadily over the forecast period, to 4.7% by 2016.  That is a slightly faster decline than we currently envisage.

·    The Treasury sees the current account deficit heading back to around 6% of GDP over the next couple of years.  We concur.

The fact that New Zealand is able to get its fiscal house back in order without all the extreme angst that is currently playing out in Europe is reason in itself to get the books back in order.  In that regard we welcome the Government “proposing changes to the fiscal responsibility provisions of the Public Finance Act , including seeking parliamentary support to legislate for a limit on increased spending based on inflation and population growth”.  Such a provision would help ensure a focus on the quality of government spending.  That’s a good thing.

While we may be avoiding extreme angst, fiscal consolidation is having a negative impact on GDP growth.  The negative fiscal impulse from the Budget lowers GDP growth by 2.0% in the year to June 2014 and 1.1% in the June 2015 year.   That’s not insignificant.

There are limited implications for the Reserve Bank in this Budget.  In terms of our own monetary policy view, this doesn’t change anything for us either.  The Treasury’s interest forecasts are a tad lower than ours, even though our GDP growth expectations are lower.  There are a lot of possible reasons for that difference – as you know we are concerned about the capacity of the economy to grow (structural unemployment and potential GDP). 

All in all it’s a good Budget.  There’s nothing in here to spook the markets or the rating agencies.

Wednesday, May 23, 2012

Austerity, growth and Greece

The note below has been prepared in collaboration with our Head of Investment Strategy, Keith Poore.  A PDF of this document can be found on the AMP Capital website,

Key points
>   Europe is in the early stages of moving towards a better balance between fiscal consolidation and structural economic reform.
>   Credibility of fiscal commitments and structural change will be important for markets.
>   Our base case scenario is that Greece stays in the euro, largely because no one gains from its exit.
>   Systemic risks are reduced thanks to continued building of the European firewall and the ECB’s commitment to unlimited banking sector liquidity.

Austerity vs. growth
In the aftermath of the Global Financial Crisis, large fiscal adjustments were required across many of the world’s major economies.  In the early stages of that process, there was an opportunity for those adjustments to occur over the long term.   That would have required governments to articulate credible long term plans around such issues as pension entitlements and the rising cost of healthcare at the same time as they tackled structural economic reform. 
That proved too difficult for many politicians. Such an approach would, however, have allowed a more appropriate balance between fiscal consolidation and economic growth.  Stronger economic growth remains the best solution to addressing high debt levels.
Failure to take a long term approach led to markets making their own assessments of individual country’s fiscal sustainability and some were found wanting.  As a result of increased market concern, some governments in Europe have been forced to front load increasingly harsh fiscal austerity measures that have had considerable economic costs.  The balance between fiscal consolidation and supporting economic growth has effectively been lost.  Deep recessions and sharply higher unemployment rates are now seeing a popular backlash.

Striking a better balance
The new French president Francoise Hollande was elected with a mandate to seek a better balance between fiscal consolidation and economic growth.  Inconclusive elections in Greece have raised the spectre of a reneging of the commitments made under the terms of two bailout agreements and the possibility of a messy exit from the euro.
Fiscal sustainability ultimately requires stronger economic growth.  In many parts of Europe, higher economic growth requires structural reform.  Front loaded austerity and deep recession have reduced the capacity for effective structural reform to be put in place that addresses loss of competitiveness, rigid labour markets and access to trade.  In the absence of exchange rate adjustment, wages (or more precisely, unit labour costs) must fall.
For those structural reforms to be made, it will require the foot to be taken of the pedal of austerity.  That means credibility and strength of commitment will be important.  The institutional framework to be provided by the fiscal compact should help with that credibility.  That would allow a more gradual fiscal adjustment to take place and allow a growth compact, heavy on structural reform, to be developed and implemented alongside. 

Focus on Greece
Greece has made significant progress on deficit reduction.  IMF data shows the Greek structural budget deficit peaked at 17% of GDP in 2009.  That was reduced to a deficit of 6.8% in 2011 and is estimated to reduce further to 4.7% this year.  Greece is committed to further reductions that the European Commission estimates requires further cuts of 3.8% of GDP. 
However, the costs have been high.  At the end of 2011, the Greek economy was 13% smaller than it was pre-GFC.  It is estimated, again by the IMF, to contract a further 4.7% this year. The unemployment rate has risen from 7.2% in 2008 to 21% currently.

Without its own exchange rate to allow a competitiveness adjustment, wages are bearing the brunt of the adjustment.  Unit labour costs have fallen around 5% over the last two years and are projected by the European Commission to fall a further 8% this year.  That’s a significant adjustment that will assist the tradeable sector, but the impact versus Greece’s European neighbours is ameliorated by the fact that unit labour costs are falling across the continent.

The problem with Greece exiting right now is not so much the direct cost, but the indirect contagion through the assumption that if Greece exits, Portugal, Ireland and Spain would be likely to follow.  That could lead to runs on banks in those countries.
The adjustment process for Greece should it leave the euro would be more harsh.  A significant reduction in the exchange rate (presumably the Drachma) would be a boost to the external sector, but would come with massive inflation and a significant further reduction in purchasing power and living standards.  And it would come with a significant boost to debt, as Greece’s debt is denominated in the euro, making default inevitable.
Under the terms of the second Memorandum of Understanding between Greece and the troika of the European Union, the International Monetary Fund and the European Central Bank (ECB), the plan was for Greece’s debt to GDP ratio to reduce to 120.5% of GDP by the end of the current decade.  We continue to think that’s a stretch.
It seems to us that any renegotiation of deficit/debt targets as a pragmatic solution to the way forward would have to include a further write-off of Greek debt obligations.  With private sector debt only 25% of outstanding debt following the initial private sector write down, any further write down must involve the public sector, including the ECB.  In that case some recapitalisation of the ECB would be inevitable.

Elsewhere in Europe
Spain is the primary concern.  The new government recently renegotiated the 2012 Budget deficit target to 5.3% of GDP from 4.5%.  In its most recent forecasts the European Commission believe Spain will miss that revised target and have a higher deficit in 2013 than the projected 3%.  That’s largely due to the depth of the recession with GDP growth of -1.8% this year and -0.3% in 2013.  Furthermore, the banking sector remains vulnerable to further house price falls.  In that respect an extension to the deficit reduction target should be allowed, rather than forcing more extreme budget cuts.
In Portugal the government is putting in place deficit reduction measures of around 5% of GDP, mostly through expenditure reduction.  The European Commission estimates the structural budget deficit will reduce from -6.2% of GDP in 2011 to -3.0% this year.  On the back of that adjustment the recession will deepen with GDP forecast to contract 3.3% in 2012 and the unemployment rate will rise to over 15%.  Portugal would also clearly benefit from an extended period of time to meet its deficit targets. 
Italy is less of a concern right now.  Sound progress is being made on its deficit reduction targets: the structural budget balance will reduce from -3.6% of GDP in 2011 to -0.7% this year.  GDP is expected to contract 1.4% this year.
March quarter Europe GDP came in at a better than expected zero for the quarter, thanks largely to a better than expected result in Germany.  That followed a contraction of 0.3% in the December quarter.  Despite the better than expected March quarter result, we are leaving our Europe calendar GDP forecast at -0.5%, with risks skewed to the downside.

The firewall and the ECB
Despite the recent renewed turmoil in markets, systemic risk indicators remain at lower levels than that seen late last year.
Work has continued on building the European firewall, with around €700 billion available through the European Financial Stability Facility (EFSF) and European Stability Mechanism (ESM).  The International Monetary Fund has also been building its resources with recent commitments from all around the world totalling €430 billion.
The ECB has stepped up as ‘lender of last resort’ to banks with two tranches of Long Term Refinancing Operations providing €1 trillion of cheap liquidity. We would expect the ECB to continue its commitment to providing unlimited liquidity to the banking sector.
However, to ease current nervousness the ECB may need to become the lender of last resort to sovereigns too.  That could be through a resumption of direct sovereign debt purchases through its Securities Market Program or the granting of a banking license to the ESM which would then have unlimited capacity to purchase sovereign debt.   A euro wide retail deposit guarantee scheme might also be necessary to limit deposit flight. Our own index of Europe-wide finance system risk has risen in the last few weeks but it remains below levels reached in 2008 and late 2011. The main reason being interbank and dollar funding pressures are less acute thanks to ECB lending facilities.
*   Derived from average of Italian and Spanish 10-year spreads to German bunds, 3-month change in the Euro Stoxx bank index , 3-month Euribor-Eonia spread and 3-month USD/EUR currency basis swap; Source: AMP Capital.

At this stage, our diversified portfolios remain overweight growth assets but the presence of systemic risk means the overweight is lower than a strict valuation-based approach would suggest. Taking a medium term view, with global and domestic bond yields at historic lows, equities look very attractive relative to bonds. Picking each market wave is extremely difficult, but given the recent decline in equity markets and the authorities’ commitment to do all that is necessary to support the euro zone, we think a bounce is more likely than a further decline. What we can be sure of is the tide looks a long way out on bonds.
Meanwhile, with the New Zealand (NZD) dollar falling recently the portfolios’ overweight to foreign currency is limiting some of the equity market losses. At 76 cents, the NZD/USD remains above our medium term fair value estimate and any escalation of euro zone risks would likely see it fall further.

Wednesday, May 16, 2012

Europe GDP...and politics

Political uncertainty in Greece seems likely to keep markets unsettled for a while longer.   Efforts to form a Government following the inconclusive elections of May 6 have failed.  The country now appears headed for a second election on June 10th or 17th. 

The leaders of the main parties were unable to move beyond political rhetoric in each of the various attempts of the last few days to pull a government together.  With a second election increasingly likely as time progressed, the aim was to maintain their line to maximise their share of the vote at the second poll.  The unanswerable question is whether a second election will yield any significantly different result.  One interesting observation is that only 65% of the eligible population voted in the first election.  One wonders what impact a greater voter-turnout in the second poll might have. Only time will tell. 

As I said last week, the odds of a Greek Euro exit (I promise to never use the latest buzz-word “Grexit”) have risen, but it is not a done deal.  There will be ample opportunity for a good dose of political pragmatism to play out before we get to that point, and from a variety of sources.  One interesting comment yesterday was Luxembourg Prime Minister Jean-Claude Juncker (Chair of meetings of Euro finance ministers) hinting that while any new government would have to stand by the austerity program, the EU would not close itself off to debate about extending deadlines.  However, others were not sounding quite so pragmatic.

In the meantime the sun still comes up each morning and the data continues to flow.  Euro area GDP came in at a better than expected “no change” in the March quarter.  Average market expectation were for a contraction of -0.2% for the quarter following the -0.3% in the fourth quarter of 2011.

That flat overall result belies sharply divergent performance across the Euro area with Spain contracting -0.3% in the quarter, Italy -0.8% and Portugal -0.1%. At the other end of the spectrum Germany grew 0.5% over the quarter.  France recorded “no change” over the quarter. 

Greece does not produce quarterly seasonally adjusted data, but recorded -6.2% for the year.  Euro area annual growth now stands at 0% for the year to March, with Spain -0.4%, Italy -1.3%, Portugal -2.2%, France at +0.3% and Germany +1.2%.

The surprise in the data was the strength of the German economy over the quarter.  Exports were stronger than expected (most likely to destinations outside Europe) while domestic demand continues to hold up well, reflecting the relatively low unemployment rate.  Strong private consumption in Germany is a bright spot for the rest of Europe for whom Germany is a major export market.

We had expected small contractions in GDP for the Euro area for both the March and June quarters of this year.  This latest better-than-expected result does not alter the view that conditions will remain tough across Europe in the foreseeable future, especially in countries where austerity is hitting hard.  Forward looking indicators such as the PMI support that view. Furthermore, the latest political uncertainty can only detract from business and consumer confidence.

Monday, May 14, 2012

Has China got further to slow?

Last week saw the release of a plethora of Chinese economic activity data, all of which came in weaker than expected.  Money supply and loan growth data dipped down again in April after having put in reasonably strong growth in March.  Industrial production also came in weaker than expected at 9.3% for the year to April.  Retail sales growth also dipped lower over the month.

The only bright spot in the news was a move lower in inflation from 3.6% in March to 3.4% in April.  That’s comfortably below the official target of 4%.

A weak start to second quarter activity indicators raises the prospect that GDP growth slows further into the second quarter of the year.  You will recall March GDP came in at 8.1% for the year which was below market expectations, but higher than our expectations of a result under 8%.  A sub-8% GDP result is now on the cards again, but now for the year to June.

The good news is there is plenty of scope to ease policy settings in China. Indeed following this latest data release authorities moved quickly to lower the reserve ratio requirement by a further 50bps which will help boost lending. 

The authorities are understandably reluctant to give up the hard won gains on inflation.  For that reason we believe further easing will continue to focus on cuts to the reserve ratio with interest rate reductions coming through later in the year if inflation continues to drift lower.  There is also room for fiscal policy to do more work if required.

Disappointment in the China data last week was offset somewhat by better news out of the other half of the G2.  Data out of America last week showed increases in consumer sentiment, consumer credit, weekly mortgage applications and a small fall in weekly jobless claims. 

Wednesday, May 9, 2012

Europe Elections

Uncertainty has returned to Europe in the shape of a new President in France and a highly fragmented poll result in Greece, leading to the high likelihood of a second election there.  While the results themselves were not that much of a surprise, the uncertainty is around what it all means.

That uncertainty is greatest in Greece where markets are most concerned about the potential for Greece to fail to meet its obligations under the terms of the second bailout, triggering a cessation of funding from the EU and IMF, followed by default and likely exit from the Euro.

There’s still a lot of water to flow under the bridge before we get to that point.  The first step will be the formation of a new government which will most likely require a second election, the timing of which appears likely to be mid-June.  In the meantime the political rhetoric will escalate as each of the parties vie for a greater share of the vote in that next poll.  However, the process of forming a coalition Government will most likely result in a moderation of extreme views.  Once a Government is formed there will then be a decision to be made by the signatories to the second Memorandum of Understanding, the IMF and EU, as to whether they are willing to renegotiate the terms of the second bailout.   Ultimately the new Greek Government will have a pragmatic decision to make about the relative costs (and pain) of staying in the Euro or departing. 

The odds of Greece exiting the Euro have risen.  It’s for this eventuality we have been pleased to see work continuing around building the Europe firewall and the implementation of the two ECB tranches of Long-Term Refinancing Operations.  Should a Greek Euro exit eventuate it will be messy, but we don’t think it would have the same negative consequences it would have had last year.

In France, President-Elect Francoise Hollande is to be applauded for wanting a better balance between fiscal consolidation (read: austerity) and economic growth.  Unfortunately he is three years too late.

When the European fiscal crisis was in its infancy, there was a window of opportunity to solve the problem of unsustainable fiscal policy by taking a long-term approach.  That would have required Government’s to articulate credible long-term plans for dealing with the weighty issues of rising fiscal costs such as healthcare, pensions and broader entitlement policies.  That proved to be too difficult. 

Such an approach would have afforded a better balance between long-term fiscal consolidation plans and the structural reforms necessary to build higher sustainable economic growth.  That did not occur and the opportunity to strike such a balance was lost.  That’s unfortunate.  We have said previously that we are not believers in the concept of “expansionary austerity”.  The best solution to high debt is to pay it back.  That requires stronger economic growth.

Instead various governments have at various times been subject to market scrutiny of their finances.  Many have been found wanting and have been forced into the position of taking harsh near-term measures.  Those same measures that politicians couldn’t deal with in 2010 are now being front-loaded.  Politicians are now feeling the wrath of a vengeful public.  Take note America.

One recent positive development was the recognition of the need for a “fiscal compact”.  It is this compact that Mr Hollande wants to re-negotiate.  That appears unlikely if recent comments from Chancellor Merkel are anything to go by.  It is more likely that we see the development of a separate “growth pact” to run alongside it.  Mr Hollande’s call is made doubly difficult by the fact that his pro-growth policy ideas are not shared with most of the rest of Europe, most notably Germany.

It’s essential and inevitable that Europe policy-making strikes a better balance between growth and austerity.  Unfortunately that reality may be some time away.  The other important factor here is markets.  Any softening of commitment to fiscal consolidation will be dealt to harshly, at least until governments have made greater progress towards reduced budget deficits and stability in debt ratios.  Unfortunate but true. 

Saturday, May 5, 2012

US April Employment

Another disappointingly soft US payrolls number in April with employment increasing 115k in the month, below market expectations of 160k.  The disappointment was tempered somewhat by the continuation of the trend of upward revisions to prior months with February and March being revised up a combined 53k. 

Private sector employment rose 130k and the unemployment rate fell from 8.2% to 8.1%, thanks to a further decline in the participation rate. 

The sectoral breakdown was much as expected with growth in manufacturing, business services education and health.  The weak sectors were government and construction.  The weak construction result gives credence to the theory that good seasonal factors boosted growth in this sector earlier in the yera and that weaker data now is the payback.

Aggregate hours worked rose a miserly 0.1% in the month, but are up 2.1% over the year, supporting our view the economy is growing a about a 2% pace.  Average hourly earnings are up 1.8% over the year.

This result doesn't alter our view of continued modest growth in America and a gradual decline in the unemployment rate.  After two soft results from the labour market, it's timely to remind ourselves that the high unemployment rate is as much a structural problem as it is cyclical.

We continue to worry that there is a significant mismatch between the skill-set of the currently available pool of labour and the new jobs that are being (slowly) created.  I think that's a key factor behind the decline in the participation rate: some folk just don't think there's a job out there for them.

Monetary policy can't fix structural problems.  American policymakers  need to get their skates on and work up a comprehensive skills development program.  The labour market, via soft jobs growth, is a significant constraint on a stronger US recovery.  It could prove to also be the next biggest constraint via skills shortages.

Friday, May 4, 2012

New Zealand Labour Market

There was something for everyone in this week’s plethora of New Zealand labour market data.  We saw growth in jobs, a rise in the participation rate, an unexpected rise in the unemployment rate and a tick up in private sector wages.

The best bit of news was the 0.4% increase in jobs over the quarter.  That was the combined impact of a rise in part-time jobs (+13000), offset by a decline in full-time jobs (-3000).  That mix takes the gloss off the result a bit, but we’re ok with it.  Sometimes the first step towards a full-time job is a part-time job.

The rise in the unemployment rate from 6.4% in December to 6.7% in March was the result of participation in the labour force rising faster than employment.  The participation rate is now at a near historical high of 68.8%.  That fits with the modest improvement in consumer confidence recently: perhaps people who had previously given up looking for work are now looking again.  That’s a positive development.  From an inflation perspective, greater participation in the work force delays pressure on wages, especially if those folk (re)entering the labour market are skilled.

On the wages front we saw a 0.5% increase in the private-sector Labour Cost Index in the March quarter, taking the annual rate to 2.1%.   That doesn’t sound like a number the Reserve Bank of New Zealand (RBNZ) will be losing any sleep over, but this particular index is better described as a measure of unit labour costs, and the trajectory is clearly upwards.  Nominal wage growth is relatively stable at 3.5%, not robust by historical standards but neither is it a sign of a weak labour market.  With inflation running at 1.6% over the same period, that’s a reasonable boost to real incomes.

So what are we and, perhaps more importantly, the RBNZ to make of all of this.  Let’s go back a step for minute.  Part of our post-GFC recovery story was that potential GDP would prove to be lower, and that structural unemployment would prove to be higher than they were pre-GFC.  That means capacity constraints would get hit earlier in the cycle and that those pressures would emerge in the labour market first.  That’s not just a New Zealand story: this phenomenon is playing out across the developed world.

My read of the results above is that the labour market is in better shape than a cursory glance at the unemployment rate would suggest.  There is momentum, albeit non-robust, behind growth in both jobs and unit labour costs. We continue to believe that employment will grow in line with modest growth in the economy, and that the unemployment rate will trend lower.

When it comes to important concepts such as structural unemployment and potential GDP we (and the RBNZ) need to consider the data above in light of their “new normal” levels.  From a monetary policy perspective, absolute levels of GDP growth and unemployment are less important than where they are relative to their new trend levels. Of course the problem is we, nor the RBNZ, know where those levels are!  With regard to the labour market, measures of skills shortages will be important indicators to keep an eye on. 

It seems to me there is nothing in the data above that should cause the RBNZ to shift from their bias to tighten, although the timing of when that tightening should start is still open to debate.  At this point we still stick to our view of a first tightening in the OCR in December.

Wednesday, May 2, 2012

Manufacturing PMI's

The recent release of the major global manufacturing PMI’s we monitor were all broadly consistent with our view of the world.

In America the PMI was one of those results you occasionally get to anoint as “unambiguously strong”.  The overall index rose to 54.8 in April, up from 53.4 in March.  But it was the rise in the important sub-indices that was especially pleasing with production rising to 61.0 (from 58.3 in March), new orders 58.2 (54.5), exports 59.0 (54.0) and employment 57.3 (56.1).  The inventories index fell to 48.5 from 50.0, alleviating some of our inventory concerns in the recent GDP data (see post below).   The prices paid index was stable at 61.0, telling us that while price pressures are strong, they have not got worse.  That’s good news from both an inflation and manufacturing sector profitability perspective.

As you will recall export (and therefore manufacturing sector) growth is a key part of our US growth story.  The combination of new orders and lower inventories is positive for future production, at least in the near term.  One note of caution is the extent to which recent better weather has seen some activity “borrowed” from future quarters.  That would likely lead to a drop in activity in the next few months, but at this point we can say the June quarter is off to a good start.

In China the official PMI consolidated at 53.3 in April, up slightly on the 53.1 recorded in March.  Also the gap closed between that and the HSBC index with the latter measure coming in at 49.3, marginally stronger than the flash estimate of 49.1 and the first rise in that index since February.  The key difference between the two indices is coverage, with the HSBC index focussing on smaller private companies while the official index focuses on larger and state owned enterprises.

This result along with other recent data such as lending and money supply growth supports our view that the Chinese economy reached the bottom of the current cycle in the March quarter.  From 8.1% GDP growth in the year to March 2012, we expect growth to recover to around 8.5% by the end of the calendar year.  That assumes authorities continue to reduce the reserve requirement ratio and to follow through with budget commitments on infrastructure and social housing.

In Europe the recession is clearly not over with the combined headwinds of fiscal consolidation and bank deleveraging continuing to impact on activity.  The Europe-wide manufacturing PMI fell from 47.4 in March to 46.0 in April, supporting our view that Europe will remain in recession through to mid-year at least.

Tuesday, May 1, 2012

US GDP Growth

March 2012 quarter US GDP growth came in a bit below market expectation at a seasonally adjusted annual rate of 2.2%.  This was slightly below market expectations of 2.5% and below the December 2011 quarter out-turn of 3.0%.

There was good and not so good news in the make-up of the result.  The good news first: real personal consumption expenditure rose 2.9% in the quarter.  That’s thanks largely to a sharp increase in expenditure on durable goods as American motorists headed to the car yards.  The American vehicle fleet has been ageing recently as consumers have delayed replacing big ticket items such as cars.  Some things can only be delayed for so long.  Growth in services spending was pretty soft at 1.2%.

Growth in investment spending was mixed.  Residential construction rose an annualised 19.1% (off a low base) while non-residential construction fell 12.0%.  Business spending on equipment and software put in its weakest quarter since the depths of the GFC recession, rising at an annualised 1.7%.  That worries us somewhat: our growth “recipe” for America continues to rely on business investment and exports as the primary ingredients.  We were also a little concerned at the build-up in inventories over the quarter.  The extent to which that was or wasn’t intentional will have implications for production down the track.

Net exports were flat over the quarter.  That belied a relatively strong exports quarter with their highest quarterly growth rate in a year.  That was, however, offset by imports also having their strongest quarter in 12-months.  The Government sector continues to be a significant drag on growth falling an annualised 3% in the quarter, its sixth consecutive contraction in activity.  This will be a long-term phenomenon as local, state and federal government inch their way to more sustainable fiscal positions.

This was the eleventh consecutive increase in quarterly GDP.  That’s a pretty good result considering at least two double-dip panics.  There will no doubt be more.  In fact we believe June quarter growth will be lower again at around 1.8% (saar), but 2.2% followed by 1.8% is significantly better than the 0.4% and 1.3% recorded for the same quarters last year.  We continue to believe the US economy will continue to grow at around a 2% pace on average, with fiscal consolidation the major looming headwind.