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What's in Store for the New Financial Year?

By Perennial Investment Partners
7 July 2010

The Global Economy: To dip or not to dip?

As this recovery began over 2009, fuelled by fiscal and monetary stimulus, and with countries facing significantly different debt positions, it was expected to be two speed in nature and below long run trend growth rates. This has transpired and a continuation of this theme is likely over the next 12 months.

However, as the "easy" growth from rebuilding inventories is already in the bag and the time is coming where countries that borrowed to boost growth will have to pay back debt by tightening their fiscal belts. It is the fear this process could be mismanaged or excessively draconian that lies behind the double dip hypothesis.

What actually is a double dip?

A double dip recession is an event where the economy enters into a recession within a period less than 12 months following the end of the previous recession.

What is the historical precedence for a double dip?

The best place to look for this kind of data is the US where, according to the National Bureau of Economic Research, there have been 33 recessions registered in the US since 1854. Over this entire time frame, there have been only three recorded instances of a double-dip recession by this standard definition. The first one was in 1913, the second in 1920 and the third in 1981. That is only one in the modern era, so history suggests that the chances of a double dip are low.

Could this time be different, given the systemic nature of the GFC shock and fiscal adjustment task ahead?

If the recent G-20 meeting in Toronto is anything to go by, countries and policy makers are acutely aware of the difficult trade off between withdrawing public stimulus too early and starting too late on credible medium term fiscal withdrawal. As a group, they agreed to follow through on near term fiscal stimulus over this year but to also communicate "growth friendly" medium term fiscal consolidation packages that would at least halve deficits by 2013 and stabilise or reduce debt to GDP ratios by 2016. In the shorter term, they saw a role for low interest rates and were well aware of the risks of synchronised fiscal consolidation.

In these deliberations, the path to avoiding a double dip recession (follow through of fiscal easing and low cash rates) and the path to a double dip recession (too early, too aggressive and too synchronised fiscal withdrawal) are apparent. My take is that policy makers will err on the side of supporting growth and that this should significantly reduce the chance of a double dip recession.

A strong outlook for the Australian economy?

There is no doubt that the proposed resources super profits tax, which ultimately led to the demise of Prime Minister Rudd, led to a loss of confidence in the robustness of Australia's growth outlook. While a compromise appears on the cards, it is worth reminding ourselves that the Australian economy still has plenty going for it:

• National income has been boosted by recent gains in commodity prices
• Households have benefitted from a round of tax cuts effective from 1 July 2010, a lift in hours worked and a lift in the minimum wage
• With monetary conditions at neutral levels, the RBA will likely only tighten further if growth surprises on the upside
• Business investment is expected to grow strongly over the year ahead
• Australia's trade exposure is weighted to the faster growing emerging and developing economies
• Australia is a low debt country.

If you have any questions or if you would like to talk to one of our investment advisers about your investment portfolio, please contact us.

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