Economic and Financial Market Update: Bushfires & The Economy

Summary:

• The bushfire damage to date will be a small negative for the economy;
• The bigger worry for the RBA is the underlying economic momentum;
• There have been some better economic signs over the past couple of months;
• Unless the Q4 CPI number is low the RBA will keep rates unchanged in February.

"One Christmas time, when months of drought

Had parched the western creeks

The bushfires started in the north

And travelled south for weeks

At night along the river-side

The scene was grand and strange

The hill fires looked like lighted streets

Of cities in the range"

The Fire at Ross’s Farm

- Henry Lawson

The big news for some months now have been the devastating bushfires. It has been both a major domestic story and a significant global one. It has been a topic of conversation at Hollywood award ceremonies as well as part of the IMF discussion on the global economic outlook. 

As Henry Lawson’s poem highlights bushfires have been part of the Australian landscape for a long time. But there are reasons why the current fire season has garnered plenty of attention:

• The length of the season both started earlier in the Eastern States and lasted longer (so far) than the usual season (the 2006-07 season went from September-January);
• According to Wikipedia the current bushfire season ranks 5th for land damage and 6th for fatalities. But none of the seasons with more damage had greater fatalities (and none with more fatalities had more damage). In the main this is because the big damage seasons took place in the largely uninhabited spaces of the NT;
• Unusually fires this season have occurred in all states and territories;
• According to the Australian Institute for Disaster Resilience (AIDR) bushfire seasons appear to be becoming more regular. AIDR also noted that between 1967 to 2013 the insurance and total costs of bushfires (around $26b) was almost equivalent to the cost of cyclones.

Economic Cost

Understandably much of the focus has been on the terrible human cost of the bushfires. Economists being a more cold-eyed crew have started looking at the economic impact. The discussion has largely focussed upon the immediate fall in spending by tourists and in the shops. This decline will significantly impact local economies. It is a smaller negative nationally. Partly that reflects the affected areas being only a small part of the wider economy. Partly spending not done in the affected areas can be done elsewhere. For example, a newspaper report said Nelson Bay (on the NSW central coast and less impacted by the fires) has had a good holiday period. 

The national economy has almost certainly been weakened by a reduction of overseas tourists. Some mining is also likely to have suffered.  The smoke (temporarily) hurt the major East coast cities economies (less construction and recreation activity). 

Bushfires create additional demand for emergency services and health services (people going to hospital). It is unclear how much the bushfires will impact the jobs market (it will depend upon whether firms have permanently closed). One labour market consequence is that the volunteers fighting the fires is not counting in GDP but the work that they have not done in their ‘usual’ jobs has reduced GDP.  Bushfires may lead to a temporary rise of inflation, (higher food prices and potentially building construction costs).

The longer-lasting economic impact is the destruction of ‘capital stock’ (homes, farms, vineyards, shops), reducing growth until they can be rebuilt. Some capital (cars) can be replaced quickly. It will take longer to replace homes (exacerbated by shortage of builders and materials). Some (such as vineyards) will take even longer to replace. The rebuilding efforts will add to GDP growth in future quarters. Governments have already announced over $4b of assistance, with more likely on the way. Further spending will be funded from insurance claims (as well as firms and households). 

The bigger concern would be if the severity of the bushfires led to a sustained reduction of business and consumer confidence. Historically natural disasters have not had that impact. Over time this could change if bushfires of this magnitude become more regular (which would also impact tourism, overseas student arrivals and immigration). Other long-term negatives could include ongoing mental health problems from bushfire experiences and higher insurance costs in the impacted regions.

Many of the estimates suggest that GDP growth could be around one quarter percentage point lower because of the impact of the bushfires to date, hitting the Q4 2019 and Q1 2020 GDP numbers. It is widely agreed that the rebuilding effort will add to GDP growth later in the year. 

Bigger issue is the underlying economic momentum

A number of analysts have suggested that the negative economic growth impact of the bushfires increases the chances of the RBA cutting rates at its February meeting. In a speech last year the RBA Deputy Governor Guy Debelle noted that historically natural disasters have been treated as temporary events and had limited impact upon monetary policy (Debelle went on to state that this might be different in the future with the climate looking to have permanently  changed).

For now though the bigger issue for the RBA is the underlying state of the economy (although the bushfires may add noise to the data). The economic message of recent months has been mixed. There has been a stronger tone about the global economy. And better news on the Trade front. Many economists agree with the IMF that 2020 will be more upbeat. Domestically house prices have been rising. The news on housing has generally been less dire. But views on the Australian economy are still downbeat. A recent Reuters poll saw downward revisions for both GDP growth and inflation for 2020. A key reason for concern is ongoing household pessimism, held back by slow wages growth and high debt levels. 

Despite the general pessimism in the economy, the jobs market is still doing Ok. Monthly jobs growth over the year to December averaged around 20,000-plus (growth of 15,000 would be considered normal). The unemployment rate is not falling. But nor is it rising. The participation rate remains near record highs.

‘Hope for the better, prepare for the worst’ was in effect the RBA motto in 2019. For the RBA some signs of economic improvement are likely to keep them on the sidelines in February. The only thing that would get them to move is a weak inflation reading. As always the CPI data (next released on 29 January 2020) is very important.

Hopefully 2020 will be one for better economic news. And even more, that as 2020 progresses we get better news on the bushfire front.

We live in interesting times!

Regards,

Peter Munckton - Chief Economist