Australia edges closer to joining recession

Australia's economy, which has so far skirted the global recession, may stall after reports showed exports dropped to a 14-month low, bank lending fell and home-building approvals declined by the most since 2002.

Australia was one of few economies including China and India to grow in the first quarter as Government cash handouts and record interest-rate cuts stoked consumer spending.

Gross domestic product expanded 0.4 per cent from the previous three months, in contrast to a 3.8 per cent decline in Japan and a 1.4 per cent contraction in the US.

This week's reports suggest the global recession is biting as stimulus efforts fade, which may prompt the central bank to cut interest rates. Reserve Bank Governor Glenn Stevens said last month that slower growth and inflation gave him scope to reduce borrowing costs if it helped secure "a durable upswing".

"The full brunt of the deepest and most synchronised post-war global recession has yet to fully bear down on Australia," said Su-Lin Ong, Sydney-based senior economist at RBC Capital Markets.

"Export income, the terms of trade and business investment are all set to move substantially lower in 2009."

The benchmark S&P/ASX 200 stock index was down 1.8 per cent to 3806.5 during trading yesterday. Australia's dollar slipped 0.2 per cent to 79.26 US cents, headed for its biggest weekly decline against its US counterpart in seven weeks.

The local currency fell 1.8 per cent yesterday after a Government report showed exports slumped 5 per cent in May from April, widening the trade deficit to A$556 million ($702 million).

Economists surveyed by Bloomberg expected a A$125 million shortfall.

Imports of capital goods, which include trucks and machinery, tumbled 14 per cent, a sign businesses are cutting capital spending, yesterday's report showed.

"As Australia's GDP flatlines and unemployment climbs, the central bank may have to cut interest rates," said Annette Beacher, senior strategist at TD Securities in Singapore.

All 20 economists surveyed by Bloomberg before this week's economic reports forecast Stevens would leave the overnight cash rate target unchanged at 3 per cent on July 7. The central bank reduced the benchmark by 4.25 percentage points between September and April to a 49-year low.

Lower prices for coal and iron ore have damped a mining boom that has driven Australia's 17 years of economic expansion. BHP Billiton, the world's biggest mining company, and Rio Tinto Group have cut output, fired workers and reduced capital expenditure in response to the slowdown in world demand.

"The numbers this week provide a reality check for markets that continue to price in interest-rate hikes in early 2010," RBC Capital Market's Ong said.

Traders expect Australia's overnight cash rate target will be 42 basis points higher in 12 months, a Credit Suisse Group index based on interest-rate swaps showed. This week, the index was pricing in 63 basis points in rate increases in a year.

Further signs of weakness in the economy include a July 1 report that showed approvals to build or renovate houses and apartments fell 12.5 per cent in May from April, the biggest drop since November 2002. The decline was led by apartments, which tumbled 43.6 per cent.

Lending by Australian financial institutions slipped 0.1 per cent in May, led by a 0.7 per cent decline in borrowing by companies, the central bank said this week.

Sales of newly built homes slumped 5.7 per cent from April, the first drop this year, the Housing Industry Association reported on June 30.

Still, there was evidence this week of strength in a key area of the Australian economy.

Retail sales increased 1 per cent in May, twice as much as economists estimated, buoyed by spending at department stores and restaurants.

The services industry expanded for the first time in 15 months in June, according to an index from Commonwealth Bank of Australia and the Australian Industry Group.

Consumer spending rose 0.6 per cent in the first quarter, accounting for three-quarters of the Australian economy's growth in the period. Some retailers have raised profit forecasts.

- BLOOMBERG