Interest Rates, GDP & Inflation

[Michael Cornips]

The Gross Domestic Product (GDP) figures came out last week, and as everyone now knows, the headline rate was a fall of 1.2% in March GDP from December GDP. Much is written and analysed about this figure and the implications it has for our economy. It is interesting to analyse the figures in more detail.

GDP figures are reported in two ways: Nominal GDP growth and Real GDP growth. The nominal GDP figure is the actual unadjusted figure using current dollars. The real GDP figure is adjusted by inflation, such that our concern should really be the economy's growth adjusted by inflation. It is of no use if nominal GDP growth is 5% whilst inflation is 7% - it means the economy is going backwards.

Back to the GDP numbers of last week - the fall of 1.2% in the March GDP was a fall in real (inflation adjusted) GDP growth. From March 2010 to March 2011 the growth in real GDP was 1%. But in stark contrast was the nominal GDP growth for one year. Nominal GDP growth was 7.1% from March 2010 to March 2011. This was definitely lower than the 8.9% annual growth the previous quarter, but hardly recessionary. Keep in mind that the Government taxes nominal dollars, not real dollars, so a 7.1% growth rate is not entirely inconsistent with the growth forecast in the May budget.

So what turns a nominal GDP growth of 7.1% into real GDP growth of 1.0% - answer - rising inflation.

The graph shows the downturn in GDP growth rates, but also highlights increased inflation reflected in the GDP deflator.

This is probably the figure that is concerning the RBA when considering the raising of interest rates over the next few months. The recent bad economic news may delay a rate rise today (Tuesday, 7th June) but if the March GDP figure only reflected the effects of the floods on the mining sector, then rates rises are definitely to be expected.

The next graph tracks the GDP deflator, CPI and official RBA interest rates. The GDP deflator rate, implicit in the just released GDP figures, points to rate of 6.1% (ie Nominal growth of 7.1% less real growth of 1%).

The last time the rate was in this range in 2008, the official interest rate was 7.25%.

If I was to try and make a case for an interest rate rise today, I would point to a fall of 1.2% in real GDP for the quarter and a rise of .70% in nominal GDP for the quarter. This points a GDP deflator of 1.9% for the quarter or 7.6% annualised.

The Federal budget, using Treasury figures, is based on a projected investment boom. Any sign that the March 2011 GDP was only affected by the floods, and a sign that the investment boom is commencing, will definitely prompt the RBA to lift interest rates.


Michael Cornips

 

[Aussiejeff]

Thanks for the post Michael. Most informative.

If you look at the trend lines for CPI vs REAL GDP GROWTH in the comparative period post 1994, the RBA must be a tad concerned with the longer term performance of the economy, considering we are supposed to be riding on the coat-tails of THE biggest mining BOOM ever? That average decline in REAL GDP GROWTH from around 4.5% in 1994 to around 2.0% NOW is pretty sick. Surely this will need to be significantly reversed to get us out of Future Doo-doo's?

Cheers,

aj

PS - If you have an hour to spare, this might throw some light on why the "mining boom" which really kicked off from the last quarter of 2004 has done almost nothing to turn GDP growth around. http://www.ccag.org.au/images/stories/pdfs/mining_boom_final.pdf

In summary (to save you the pain... lol) -

During recent years, the impact of the mining boom has been clearly evident in the revenue
figures of mining companies, in their profit figures and in the significant increase in the market
value of their shares. In addition, the mining boom produced an expansion in mining activity that
is likely to persist. However, it is to be hoped that the boom generated benefits elsewhere in the
Australian economy as well. This paper asks what those benefits were.

The short answer to this question is that any benefits from the mining boom appear to have
dissipated soon after the initial impact. Even some of the early increase in the market value of
mining companies was lost as a result of unwise investments on the part of these companies.
More generally, the paper examines how incomes and other economic data have changed since
2004, which is taken as the base year or benchmark. Commodity prices took off after 2004 and
so it is assumed that the benefits of the boom should be apparent by comparing post-2004 data
with the data for 2004 and earlier.

Most of the increase in revenue from the mining boom went into the profits of mining companies
although some also went into payments on intermediate inputs, including labour costs. Much of
the benefit arising from mining company profits would have been diluted in Australia as a result of the substantial foreign ownership of Australia’s mining industry but some accrued to government
through higher taxes and royalties.

 

[Michael Cornips]

Thanks for the post Michael. Most informative.

If you look at the trend lines for CPI vs REAL GDP GROWTH in the comparative period post 1994, the RBA must be a tad concerned with the longer term performance of the economy, considering we are supposed to be riding on the coat-tails of THE biggest mining BOOM ever? That average decline in REAL GDP GROWTH from around 4.5% in 1994 to around 2.0% NOW is pretty sick. Surely this will need to be significantly reversed to get us out of Future Doo-doo's?

Cheers,

aj

PS - If you have an hour to spare, this might throw some light on why the "mining boom" which really kicked off from the last quarter of 2004 has done almost nothing to turn GDP growth around. http://www.ccag.org.au/images/stories/pdfs/mining_boom_final.pdf

In summary (to save you the pain... lol) -

Thanks aj

You make a good point. There may be a mining boom but our current account is only in surplus by $23 Billion for the 12 months to April 2011. Not much in a $1,400 Billion economy. Australia is normally in deficit and only got into an annual surplus in Feb 2009. So we need a mining boom to balance our account with the rest of the world. Things do need to change but I dont see the policies either.

 

[mullokintyre]

 

[Knobby22]

Australian GDP only went up by .1% in the March quarter. If you consider the effects added by immigration the quarter was negative.

Household savings rate dropped to 0.9% from 1.6% the previous quarter. This is historically very low.

Public investment has continued to drop but is still high. Further drops will help inflation and reduce the tightness still existing in the employment market.

Inflation continues to fall, this marks falls in five quarters in a row.

Most sectors of society are doing it tougher.
Looks like the tax cuts are just in time.

Australian economy grew 0.1% in the March Quarter

www.abs.gov.au

 

[Knobby22]

Canada is the first G7 country to cut interest rates.
Keen interest in Australian shares with good yields but not reliant on China e.g. banks.

https://www.reuters.com/markets/rates-bonds/bank-canada-cuts-rates-first-time-four-years-2024-06-05/

 

[noirua]

UK inflation has just been announced as 2% the same as last month. The Bank of England Minimum Lending Rate is 5.25%.

Inflation rate remains at Bank of England's 2% target rate

Cheaper clothes from summer sales and less expensive second-hand cars pushed prices down, while rising hotel prices acted to bring them up.

news.sky.com

 

[noirua]

China is now one of the first movers to lower interest rates:

Video: China surprise: rates cut to boost fragile economy | REUTERS​

ByLiveTube Newsdesk
July 22, 2024

https://www.livetube.tv/news/video-china-surprise-rates-cut-to-boost-fragile-economy-reuters
We need much lower interest rates to start a boom. It may then be followed by a bust at least it would give everyone a chance to cash in at the top. Boom and Bust is not such a bad thing providing people accept the bust if they get their investment moves wrong.

 

[divs4ever]

China is now one of the first movers to lower interest rates:

Video: China surprise: rates cut to boost fragile economy | REUTERS​

View attachment 181299
ByLiveTube Newsdesk
July 22, 2024

https://www.livetube.tv/news/video-china-surprise-rates-cut-to-boost-fragile-economy-reuters
We need much lower interest rates to start a boom. It may then be followed by a bust at least it would give everyone a chance to cash in at the top. Boom and Bust is not such a bad thing providing people accept the bust if they get their investment moves wrong.

now from what i read China has high but serviceable debt levels , that is room to maneuver

some G7 nations have very high debt levels , and possibly struggling to repay interest ( not the principal ) from national income ( no traditional strategy to resolve the situation , think Japan , but not the only one in this trap )

add in China has several extra levers to modify the economy and citizen behavior

sure watch China but it is not the monster debt pig some other nations are

 

[noirua]

now from what i read China has high but serviceable debt levels , that is room to maneuver

some G7 nations have very high debt levels , and possibly struggling to repay interest ( not the principal ) from national income ( no traditional strategy to resolve the situation , think Japan , but not the only one in this trap )

add in China has several extra levers to modify the economy and citizen behavior

sure watch China but it is not the monster debt pig some other nations are

China still hasn't got anywhere near solving Evergrande's problems and many of the company's subsidiaries. They have left a vast number of unfinished apartment blocks in China leaving many with no water supplies, no electricity, no windows and in the middle of nowhere with zero infrastructure. No one is allowed to complain in China if they value their liberty. In my view, it's necessary to drop interest rates to at least keep the economy flat-lining.

 

[Dona Ferentes]

meanwhile the in a fake economy with a GDP smaller than Texas...

The Russian Central Bank at its meeting on July 26 will most likely increase the interest rate from 16% to 18%, according to analysts of large Russian banks and investment companies. A broad step is needed due to the large deviation of inflation from the forecast of the Bank of Russia, the increase in inflation expectations of the population and the continuing growth of lending. According to the Central Bank's calculations, current seasonally adjusted inflation in Russia was 10.7% in May and 9.3% in June, and annual inflation in June increased to 8.6%. This is significantly higher than the Central Bank's inflation target of 4%.