Dr Shane Oliver, head of strategy and chief economist for AMP Henderson, says 2003 will bring stable interest rates, a stronger Aussie dollar, better stock performance and solid corporate profits. But Telstra 3 won't be sold and all bets are off if the US goes to war with Iraq.
What is your interest rate outlook for Australia this year?
It is predicated on what is happening globally. The Reserve Bank will be encouraged to leave rates where they are for the first six months, but as growth starts to accelerate in the second half there will probably be pressure to raise them again.
Did the experiment of raising rates ahead of the US last year work? Did the Reserve Bank achieve what it set out to achieve?
In a way. It didn't prick the bubble in housing prices but it has certainly slowed the rate of price increases on property. The central bank raised rates once in May and then again in June but at that point they stopped. So they obviously realised that going any higher would have been a bad idea given the global economic slowdown and the effects of the drought in Australia. Ultimately they did the right thing in not raising them too aggressively, as has happened in New Zealand.
You say that global economic growth will accelerate in the second half of 2003, is a six-month turn around a bullish prediction?
I suppose the risks are still there. The geopolitical uncertainties persist. The Iraq situation could blow up and in the US it is unclear whether consumers will continue to spend or whether companies will continue their staff cutbacks. So the risks are still there but there is plenty of stimulus coming through from low interest rates and we will see some benefits from President Bush's fiscal stimulus package. These things should help the US economy to recover. We also expect a modest recovery occurring in Europe and Japan.
What sort of recovery will Japan experience?
Not an obvious one. I mean more of a cyclical upswing. While the economy overall remains depressed it is still operating on a cycle. It is cycling around a very low average rate of growth but there are peaks to be seen. Until the country does something about its structural problems you can write it off as a long-term play, but cyclical fund managers can find opportunities there.
Back to Australia, what is your prediction on the value of the dollar?
It has some more upside potential. It is still undervalued against the US dollar and at A$0.59 it has only gone back to where it was in June last year. One factor driving it higher is the general weakness in the US dollar which relates to concerns about the blow out in the current account deficit and the threat of war. This means that US investors are keeping their money at home and the US dollar is losing value. As a result, the Aussie dollar should strengthen further to about A$0.65 particularly if commodity prices increase later this year. We think fair value for the currency is about A$0.70.
So what does this economic climate mean for the capital markets?
The positive outlook should translate into profit growth for Australian companies which could bring more debt and equity issuance. From an investor's perspective, Australia is still an attractive proposition. It is undervalued compared with other world markets and our stock market comes with a dividend yield of about 4% which is high. In that sense it is seen as a relatively secure and defensive market, particularly in the region where we now occupy about 35% of the MSCI Asia ex-Japan free index. On the new issuance front, everyone is still lamenting the postponement of Telstra 3.
When will Telstra come back to market?
The government postponed the sale because of the low share price which was an appropriate decision considering that they want to maximise the returns when they do eventually offload it. But now it has been postponed to an election year and I can't see the government fighting an election with the sale of Telstra on their agenda –given that the majority of the population don't want it to be sold. So whether the sale will ever occur is now very uncertain.
What is your take on the health of the banking sector and its ability to continue lending?
The main issue is the household sector and what damage will be caused to the banks if the property bubble bursts. Over the last decade the banks have been focused on housing loans and this has been a great source of growth for them. It has also kept their immune to some of the corporate collapses that have happened locally. But if property prices fall and mortgages start to feel the pressure then there could be an argument for the banks to put their focus back on to the corporate sector.
At what point will Australian households reach debt servicing problems?
There would need to be at least a 2% increase in the cash rate to about 7% or 8% before we reach the same problems as we had back in the early 1990s. Even though this is a lot less than the 18% interest rates that applied at the time the level of household debt is now much higher. As a percentage of household income it has gone from below 50% to about 120% now. But the Reserve Bank is very aware of this situation and therefore I don't see them raising interest rates to a level where mortgagers would really start to suffer. There is no point.