Australia’s Mid-Year Economic and Fiscal Outlook (MYEFO) released on 18 December highlights a modest improvement in the fiscal outlook, largely reflecting a boost in tax collections, including from higher corporate profits in the mining sector. Fitch Ratings expects the gross public debt ratio to peak in 2018 and the fiscal balance to be brought into a surplus by 2021, which is consistent with our ‘AAA’/Stable sovereign rating on Australia. Nevertheless, the rise in public debt over the last decade has eroded the sovereign’s buffer against economic shocks.
The government’s MYEFO forecasts an underlying cash deficit of 1.3% of GDP in the fiscal year ending June 2018 (FY18), slightly smaller than the 1.6% projected in the May 2017 budget. Moreover, the cumulative deficit through FY22 is now forecast to be AUD9.3 billion lower than in May, with AUD5.8 billion of that improvement expected to come in FY18.
Fitch still expects the deficit to shrink at a slower pace than forecast in the MYEFO, largely owing to our less upbeat forecasts for real GDP growth and commodity prices. The economy should be supported by buoyant employment growth, the fading drag from mining investment and improved non-mining investment prospects. However, weak wage growth will weigh on household consumption, while slowing growth in China is likely to constrain commodity price rises and Australia’s export growth.
The government has revised down its growth forecast for FY18 to 2.50%, from 2.75%, but still expects a rebound to 3.00% in FY19 and for growth to remain at that rate until FY22. That compares with our growth expectations of 2.4% in 2017 and 2.7%-2.8% in the following years.
Australia’s economy and fiscal performance are vulnerable to negative global economic developments, particularly a sharper-than-Fitch-expects slowdown in China or drop in commodity prices. Risks might also stem from a faster-than-expected rise in US interest rates, which could lift borrowing costs and pressure domestic liquidity conditions, given the banking system’s reliance on international wholesale funding. High household debt levels could make the economy especially sensitive to rising rates.
The sovereign’s buffer against economic shocks has diminished over the last decade, as debt ratios have increased. General government gross debt was less than 10% of GDP in 2007, but it is likely to peak next year at close to the median public debt-to-GDP ratio for ‘AAA’ sovereigns of 42%. That said, the flexible exchange rate and credible monetary policy framework should help cushion the economy against external volatility.
