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more give, less take State Update: New South Wales – September 2015 NAB Group Economics Contents Photo: Mai Thai Key Points 2 In Focus: Impacts from the housing market 3 Consumer and household sector 4 Business sector 5 Labour market 7 Demographics 8 Residential property 9 Fiscal outlook and semis 10 Economic structure and trade 12 Key points • • • • • • NSW state final demand is forecast to be robust, while export demand will remain subdued before slowly improving over coming years. Consequently, Gross State Product (GSP) growth is expected to remain solid at just below 3% in 201516 and 2016-17 (Chart 1). Further out, there is a risk that rising interest rates (from late 2016) will weigh more heavily on NSW given its relative debt levels. State final demand growth has been stronger in NSW than the national aggregate (Chart 2). This is consistent with the Australian economy’s transition away from the mining boom towards more diverse drivers of economic growth. However, subdued conditions in other states and internationally are expected to weigh on the traded sector, although AUD depreciation should be helping. Improvements in state domestic demand have largely stemmed from residential markets, buoyed by low interest rates, population growth, undersupply and strong investor demand. Dwelling investment has picked up sharply on the back of higher property prices. The elevated stock of residential projects will sustain growth in dwelling investment for some time to come. Chronic under-supply of housing and strong price growth validates these high levels of residential investment in Sydney, although the potential for oversupply in the apartment market has risen. The NAB Residential Property Survey suggests sentiment in NSW remains solid. However, growing supply and a tightening of investor credit will take some steam out of the market. Spill-over effects from the residential market are being felt elsewhere. The boost to household wealth has been good for consumption, although the positive momentum slowed somewhat in late 2014/early 2015. Consumer activity lifted again more recently, but this is partly a reflection of Federal Budget incentives for small business. With interest rates expected to remain low and lower oil prices assisting disposable income, consumption growth should improve further, although subdued wages growth and consumer confidence will remain a constraint. The labour market has improved notably in Greater Sydney, but continues to look soft in the rest of NSW. The NAB Business Survey suggest that labour intensive (non-mining) sectors of the economy are gaining momentum, which should continue to drive employment growth. However, additional labour supply (returning from the mining states) is expected to keep falls in the unemployment rate relatively modest. The unemployment rate is forecast to drift downwards toward 5½% by mid-2017. Conditions are gradually improving for business and investment, while public infrastructure spending will provide key support to the local economy over coming years. Both business conditions and confidence have steadily improved in NSW and spare capacity has been tightening, but high ‘hurdle rates’ remain a constraint on investment. Consequently, investment intentions and non-residential building approvals remain subdued (although some major projects have been approved in areas such as health). Business conditions have been particularly solid in service sectors, which appear to be seeing some benefit from AUD depreciation – short-term arrivals and international education enrolments have been picking up. Contact James Glenn, Senior Economist Riki Polygenis, Head of Australian Economics Skye Masters, Head of Interest Rate Strategy Chart 1: State GSP Growth Forecasts 7 6 5 4 3 2 1 0 NSW VIC 2013-14 QLD SA 2014-15 (e) WA TAS 2015-16 (f) NT 2016-17 (f) ACT Chart 2: State Growth 12 8 28 12 State Final Demand NSW Australia 824 4 420 0 016 -4 8 -8 12 Gross State Product Growth* 8 -12 4 4 -16 0 0 -4 -20 -4 1991 1993 1995 1997 1999 2001 2003 2005 2007 2009 2011 2013 2015 *NAB Estimate Sources: ABS; NAB Economics 2 In Focus: Impacts of the housing market boom The NSW housing market is performing extremely well, especially given the patchy (albeit improving) economic context. House prices have increased 18.4% over the year to July and show very little sign of slowing (Chart 3). Falling rental yields and higher price-to-income ratios (towards record highs) are raising concerns of a looming market correction (Chart 5). The measures, however, fail to account to improved borrowing power due to lower interest rates. Accounting for this suggests prices are not yet significantly overvalued. Ratio $000 800 700 Sydney Dwelling Prices 200 104 103 NSW - Dwellings to resident 101 500 Capital City Dwelling 100 99 400 300 98 200 97 100 96 0 1995 150 102 population (rhs) 600 100 50 95 1997 1999 2001 2003 2005 2007 2009 2011 0 1985 2013 Chart 5: Rental yields & price-to-income ratio 8 Rental Yield Price-to-income 7 6 1991 NSW House App to pop NSW Unit App to pop Aust House App to pop Aust Unit App to pop 1997 2003 2009 2015 1987 1993 1999 2005 2011 2017 Chart 6: NSW Retail sales growth by category 6-month annualised growth, smoothed Cafes etc 5 Hardware Clothing 6 4 5 Electrical Goods Furnishings 3 4 3 1996 Nevertheless, strength in the residential market is having a positive flow-on effect to the broader economy, namely consumption (Chart 6). Chart 4: Approvals relative to population growth (LRA = 100) Chart 3: House prices and under-investment in dwellings 900 Housing supply is responding to prices. Chronic under-supply in Sydney would appear to justify such high rates of construction, although the ratio of apartment approvals to population may indicate some potential over-supply for that market in the near term – suggesting down price pressure from supply will be more pronounced in the apartment market (Chart 4). Department stores Other 2 2000 2004 2008 2012 Sydney house rental yield Aust unit rental yield 1996 Source: ABS; CoreLogic; NAB Economics 2000 2004 2008 Aust house rental yield Sydney unit rental yield 2012 Food 0 5 10 % 15 3 Wealth effects helping to offset weak income growth, supporting consumption Labour income growth in NSW has remained relatively subdued, reflecting the degree of spare capacity in the labour market and well contained expectations for inflation (Chart 7). Despite this, wealth effects from higher house prices helped to support retail sales growth, although the impetus appeared to slow from late 2014 (Chart 9). Consumer activity appears to have picked up again in recent months – in part reflecting Budget initiatives for small business. Chart 8: NAB Consumer Anxiety Survey – spending behaviour (net balance index) Chart 7: Average Compensation and Household Consumption Growth ( YoY) 10% Compensation of employees The Q3 2015 NAB Consumer Anxiety Survey showed some improvement, but continues to highlight a number of challenges for consumers. Despite enjoying the wealth effects from rising house prices, consumers continue to report a high degree of caution in relation to their spending behaviours. In Q3 2015, households still showed preference towards conservative spending (eg. paying down debt), but were more inclined to spend on nondiscretionary items as well, such as travel and eating out (Chart 8). Household consumption 8% 6% Entertainment 4% Transport 2% Medical expenses 0% -2% -4% 1995 Paying off debt 1997 1999 2001 2003 2005 2007 2009 2011 2013 2015 Chart 9: Retail Turnover and House Price Growth Utilities 28% Major HH items Eating out Charitable donations Personal goods 20% Sydney House Price Growth (Y-o-Y %) 22% Retail Turnover Growth (Y-o-Y%) 16% Groceries Use of credit 12% 16% 8% 10% 4% 4% Children Savings, super, investments Home improvements Travel 0% -2% -8% 2004 20 10 0 -10 -20 -30 -40 -4% Q2'15 Q3'15 -8% 2006 2008 Sources: ABS; NAB Economics 2010 2012 2014 4 Business environment improving (outside of mining), but firms still reluctant to invest According to the monthly NAB Business Survey, capacity utilisation of businesses in NSW has steadily improved over the past 12-months, and is well above the national average (Chart 10). This trend is consistent with a trend improvement in business conditions in the state, which along with Victoria, has tended to outperform the other mainland states (Chart 11). Tighter capacity (labour & capital) is a positive indication for wages and investment in the state. However, measures of investment intentions are mixed. Expectations from the NAB Business Survey are looking reasonably robust (Chart 12), while ABS capex expectations remain relatively muted (slide 6). Firms appear reluctant to invest in the current business environment, demanding high rates of return (hurdle rates) before committing to new projects. Services sectors have consistently shown the best business conditions in the NAB Survey, but confidence has been more mixed -- retail confidence has been a standout post the Federal Budget in May (Chart 13). Chart 10: NAB Business Survey – Capacity Utilisation 86 NSW Chart 11: Spread in NAB Business Conditions 40 Total 30 84 82 80 78 Spread Min Total 40 30 NSW 20 20 10 10 0 0 -10 -10 76 -20 -20 74 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 2012 2014 -30 2007 Chart 12: NAB Survey Capex Expectations & Private Business Growth 60 Investment 50 40 NSW Capex Expectations (12-month, lhs) 20 50 30 10 10 0 -10 -20 -30 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 2012 2014 Sources: ABS; NAB Economics 2009 2010 2011 2012 2013 2014 2015 Chart 13: NSW Business Conditions & Confidence by State NSW Business Investment Growth (rhs) 30 -30 2008 -10 -30 30 20 10 0 -10 -20 -30 -40 -50 Net Balance (%). Latest Quarter Conditions Confidence -50 5 Business reluctant to invest, although some large projects still in the pipeline Reflecting firms reluctance to commit to new investment, non-residential building approvals have been relatively muted compared to the trends seen in the residential sector (Chart 14). However, some very large projects – such as the $6bn Barangaroo project – will help support construction activity in the near-term. Falling office vacancy rates are consistent with an apparent improvement in office (and other commercial property) markets according to NAB Commercial Property Survey (Charts 16 & 17). Expected capital expenditure (capex) by businesses (according to the ABS survey) suggests that spending on buildings and structures in NSW is likely to remain relatively flat in the next 12 months, while planned spending on machinery and equipment is expected to improve moderately (Chart 15). Part of the subdued outlook is explained by the continuing contraction of mining investment. Chart 15: NSW Capital Expenditure & Expectations Chart 14: Non-residential Building Approvals ($ millions) 600 $b 18 500 16 Actual & expected based on previous realisation ratio 14 400 12 300 10 200 6 8 4 100 0 2000 2 0 2002 2004 Retail/wholesale 2006 Offices 2008 2010 2012 Factories Warehouses Building & Structures 2014 Other 2012-13 Chart 16: NSW Office Market Conditions % 5 300 6 250 7 200 8 150 9 20 100 10 10 50 11 0 12 -10 2007 2009 Office Approvals (lhs) Sources: ABS; JLL; NAB Economics 2014-15 2015-16 (e) Chart 17: NAB Commercial Property Index - NSW $m 350 0 2005 Machinery & Equipment 2013-14 2011 2013 2015 Office Vacancy Rates (inverse, rhs) 60 Jun14 Mar15 Jun15 50 40 30 -20 Office retail industrial Total 6 Strong employment growth despite elevated unemployment rate Labour market conditions vary considerably across the state. While conditions appear to be improving around Greater Sydney, regional areas continue to look relatively weak (Chart 18). Aggregate job growth has been strong in NSW, with 118k jobs created over the year to July 2015 – the strongest gain in around 7 years. However, solid population growth and a rising participation rate meant that the unemployment rate has remained near its recent peak (at 6%, Chart 20). Chart 19: Change in employment by industry, last 12 months, NSW, '000 Chart 18: Unemployment rate by region, % nsa 10 NSW Greater Sydney In the last 12 months to June 2015, most of the jobs created were in construction – consistent with the large residential construction pipeline – and the services sectors. Unsurprisingly, job losses have been largest in public administration and mining, consistent with fiscal restraint, a deterioration in coal markets and falls in mining investment (Chart 19). Rest of NSW Public admin 9 Mining 8 Arts 7 Other services 6 Wholesale trade 5 Utilities 4 Finance 3 Manufacturing 2 1999 Admin services 2001 2003 2005 2007 2009 2011 2013 2015 Chart 20: Unemployment rate & NAB capacity utilisation rate 74 % Per cent; Dollar billions 76 78 12 $b 10 Unemployment rate (rhs) Agriculture Rental services Hospitality Communications Education 8 Health Retail trade 80 82 6 Capacity Utilisation (inverse, lhs) 84 1989 1991 1993 1995 1997 1999 2001 2003 2005 2007 2009 2011 2013 Sources: ABS; NAB Economics 4 2 Transport Business services Construction -20 -10 0 10 20 30 7 Demographic trends turning more positive as mining investment boom winds down Since peaking in 2009, NSW population growth has slowed, but much more modestly than in other (especially non-mining) states. The slowdown has largely been driven by net overseas migration and natural increases. In contrast, net interstate migration continues to slow as the mining boom unwinds (Chart 21). After lagging behind for more than a decade, NSW population growth is now consistent with national average levels (Chart 23). Chart 22: NSW Employment by country of birth Chart 21: NSW Population growth (000s, over the year) 140 Change in number employed over 12 months (000's) Natural increase Net overseas migration Net interstate migration Total population growth 120 100 80 Population trends are consistent with observations from the labour market. While employment growth in NSW has improved notably, it appears that domestic workers have largely satisfied the growing demand (Chart 22). Australia 60 New Zealand 40 20 NORTH-WEST EUROPE 0 -20 Full-time Part-time SOUTHERN & EASTERN EUROPE -40 -60 Source: 1982 source 1985 1988 1991 1994 1997 2000 2003 2006 2009 2012 NORTH AFRICA & THE MIDDLE EAST SOUTH-EAST ASIA Chart 23: NSW Population growth (year-ended growth) 2.5 NSW NORTH-EAST ASIA AUS 2.0 SOUTHERN & CENTRAL ASIA 1.5 AMERICAS 1.0 SUB-SAHARAN AFRICA 0.5 0.0 1982 OTHER 1985 1988 1991 Sources: ABS; NAB Economics 1994 1997 2000 2003 2006 2009 2012 -30 -20 -10 0 10 20 30 40 50 60 8 70 Residential property market a stand out, but momentum likely to slow The NSW residential property sector remains very strong, supporting high levels of approvals and commencements, as well as the rapid pace of residential property price growth (Chart 24). The NAB Property Survey suggest the market will continue to perform well in the near-term, although the pace of price growth is likely to slow (Chart 26). Approvals 16000 Residential property price growth by sub-region in Sydney suggests fairly consistent capital growth for both houses and units across regions (Chart 27). Chart 25: NSW Residential Property Price Growth Chart 24: NSW Residential Approvals & Commencements 18000 Price growth has varied across property types and regions, although all have generally performed reasonably well (Chart 25). Price growth is particularly strong in Sydney houses, followed by units. Growth has been more subdued for regional houses, but has still risen by more than 5% over the year to July. 30 Commencements 14000 Sydney Units Regional Houses 20 12000 15 10000 10 8000 5 6000 4000 0 2000 -5 0 1985 1988 1991 1994 1997 2000 2003 2006 2009 2012 2015 Chart 26: NAB Property Survey – House Price Expectations (%) 4.0 Estimated price growth in relevant survey 0.0 Australia Sources: ABS; CoreLogic; NAB Economics Next 2y Next Qtr Q2'15 Q1'15 Expectation Q4'14 Q3'14 Q2'14 Q1'14 Q4'13 Q3'13 Q2'13 Q1'13 Q4'12 Q3'12 Q2'12 Q1'12 Q4'11 Q3'11 Q2'11 Q1'11 NSW Next 12m -2.0 -10 2000 2002 2004 2006 2008 2010 2012 2014 Chart 27: Sydney - Median Property Price Growth (year to Q1 2015) 2.0 -4.0 Sydney Houses 25 St George-Sutherland Outer Western Sydney Outer South Western Sydney Northern Beaches Lower Northern Sydney Inner Western Sydney Inner Sydney Fairfield-Liverpool Eastern Suburbs Central Western Sydney Central Northern Sydney Central Coast Canterbury-Bankstown Blacktown House Prices Unit Prices 0 5 10 15 20 9 25 Fiscal position helped by residential transfer duties. Extensive infrastructure investment pipeline The State Budget for NSW continues to anticipate an operating surplus going forward. While the surplus has been boosted by a restructuring of transport assets, the surplus excluding the restructuring for 2014-15 and 2015-16 is still up from the 2014-15 Budget (Chart 28). Upward revisions to revenues in 2014-15 reflect higher-than-expected residential transfer duty, the re-profiling of Commonwealth grants, and higher distributions from the Public Non-Financial Corporation sector. Revenue growth is expected to moderate in coming years due to a change in GST relativities and falling CNP payments. The NSW government remains focused on expense restraint. Expenses for 2014-15 are expected to come under Budget by $311 million, while expense growth over coming years is expected to average 2.8%. Nevertheless, there continues to be an extensive infrastructure investment plan in NSW, which will help to drive support to the local economy over coming years. The 2015-16 Budget includes $68.6b committed to infrastructure projects over the four years to 2018-19 (across both GG and PNFCs). Much of this relates to previously announced transport projects. Chart 28: NSW net operating balance & transfer duty revenue (% of GSP) Transfer duty revenue Net operating balance 1.6 1.4 Chart 29: NSW Composition of state revenues 1.2 1.0 Royalty Income 2% Sales of Goods and Services 11% 0.8 0.6 0.4 0.2 0.0 2013-14 2014-15 2015-16 2016-17 2017-18 2018-19 Chart 30: NSW state capital spending by function 20 $b 16 Other 7% Taxation 39% Other Common wealth Grants 17% GST 24% 12 8 4 0 2015-16 Housing Education 2016-17 Health Water Sources: NSW State Budget; NAB Economics 2017-18 Electricity Other 2018-19 Transport 10 Net debt to rise but manageable; borrowings to decline with sale of ‘poles and wires’ NSW net debt is being impacted by asset sales where the initial reduction in net debt position (as proceeds are included) is unwound as these are reinvested into capital expenditure. Current estimates do not include proceeds from the partial lease of electricity network. NSWTC plans to issue AUD7.3bn in 2015-16, comprising AUD5.1bn of refinancing and AUD2.2bn of new borrowings. NSWTC forecasts issuance to average AUD7bn over the forward estimates. Projections do not include retirement of debt from the lease of polls and wires. Chart 31: NSW Non-Financial Public Sector net debt Chart 32: S&P credit metric: Operating balance as % of revenue AUDbn 14% 65 Adj Operating balance as % of adjusted operating revenues FY16 60 55 The AAA rating with stable outlook was unaffected by the 2015-16 budget. S&P noted that budgetary performance will be slightly weaker due to the softer revenue growth profile. Projections for budgetary performance and debt are consistent with AAA rating. In 2015-16 NSWTC plans to issue AUD4-5bn of fixed rate benchmark lines and AUD1-2bn of FRNs. With legislation liming NSWTC to only lend to entities that are 100% owned, the sale of ‘poles and wires’ will reduce borrowings by AUD15.7bn (currently at AUD50bn). MYBR 15 12% FY15 MYBR FY14-15 10% 50 Budget 15-16 8% 45 6% 40 35 S&P Operating balance scoring threshold 4% 30 2% 25 0% 20 2014-15 2015-16 2016-17 2017-18 2011 2018-19 Chart 33: NSWTC borrowing programme 7.0 New financing Borrowing programme 5.0 5.00 4.0 3.00 3.0 1.00 2.0 Pre-funding 2014 2015 2016 2017 2018 2019 AUDbn 6.0 7.00 -1.00 2013 Chart 34: NSWTC term bonds outstanding as at early Aug 2015 AUDbn 9.00 2012 Refinancing issuance as at 30 Jun 2015 issuance FYTD 1.0 0.0 -3.00 -1.0 -5.00 FY 15 FY 16 (e) FY 17 (f) Source: NSW budget papers; NSWTC; NAB FY 18 (f) FY 19 (f) 11 Net exports still subdued, but AUD depreciation is starting to help export demand Nevertheless, AUD appreciation is starting to have an impact on export demand, particularly for services such as tourism. Short-term visitor arrivals to NSW have been steadily increasing (Chart 36). Chart 35: NSW Net Trade (AUD millions, 3mma) 500 -500 Chart 36: Short-term visitors – state where most time spent 250 150 -2500 Queensland 100 Victoria 50 0 2001 -1500 New South Wales 200 Thousands Soft economic conditions interstate and internationally has kept demand for NSW exports relatively subdued. Meanwhile, moderate improvement in domestic demand has supported imports, weighing on the state’s net trade position (Chart 35). 2003 2005 2007 2009 2011 2013 2015 Chart 37: Composition of employment & GVA -3500 -4500 -5500 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 2012 2014 Top export destinations, NSW, 12-month average to May 2015 Value of imports ($m) Value of exports ($m) 1 Japan 9289 1 2 China 5723 2 EU 19264 3 ASEAN 3592 3 ASEAN 13013 4 Korea 3292 4 US 11245 5 US 2880 6 Taiwan 2164 5 Japan 6318 7 New Zealand 2044 6 Germany 5004 8 EU 1783 7 Korea 4849 9 India 1327 8 Singapore 2965 9 UK 2780 10 HK 730 11 UK 12 Singapore 13 Germany China 27084 681 10 New Zealand 2473 452 128 11 Taiwan 2111 Source: ABS; NAB Economics 12 HK 518 Other services Arts Health Education Public admin Admin services Business services Rental services Finance Communications Transport Hospitality Retail trade Wholesale trade Construction Utilities Manufacturing Mining Agriculture Employment GVA 0% 2% 4% 6% 8% 10% 12% 14% 12 Group Economics International Economics Global Markets Research New Zealand Alan Oster Group Chief Economist +61 3 8634 2927 Tom Taylor Head of Economics, International +61 3 8634 1883 Peter Jolly Global Head of Research +61 2 9237 1406 Stephen Toplis Head of Research, NZ +64 4 474 6905 Jacqui Brand Personal Assistant +61 3 8634 2181 Tony Kelly Senior Economist – International +(61 3) 9208 5049 Australia Craig Ebert Senior Economist +64 4 474 6799 Australian Economics and Commodities Gerard Burg Senior Economist – Asia +(61 3) 8634 2788 Riki Polygenis Head of Australian Economics +(61 3) 8697 9534 James Glenn Senior Economist – Australia +(61 3) 9208 8129 John Sharma Economist – Sovereign Risk +(61 3) 8634 4514 Economics Ivan Colhoun Chief Economist, Markets +61 2 9237 1836 David de Garis Senior Economist +61 3 8641 3045 Tapas Strickland Economist +61 2 9237 1980 Vyanne Lai Economist – Australia +(61 3) 8634 0198 FX Strategy Ray Attrill Global Co-Head of FX Strategy +61 2 9237 1848 Amy Li Economist – Australia +(61 3) 8634 1563 Emma Lawson Senior Currency Strategist +61 2 9237 8154 Phin Ziebell Economist – Agribusiness +(61 4) 75 940 662 Interest Rate Strategy Skye Masters Head of Interest Rate Strategy +61 2 9295 1196 Industry Analysis Dean Pearson Head of Industry Analysis +(61 3) 8634 2331 Rodrigo Catril Interest Rate Strategist +61 2 9293 7109 Robert De Iure Senior Economist – Industry Analysis +(61 3) 8634 4611 Credit Research Michael Bush Head of Credit Research +61 3 8641 0575 Brien McDonald Senior Economist – Industry Analysis +(61 3) 8634 3837 Karla Bulauan Economist – Industry Analysis +(61 3) 86414028 Simon Fletcher Senior Credit Analyst – FI +61 29237 1076 Doug Steel Markets Economist +64 4 474 6923 Kymberly Martin Senior Market Strategist +64 4 924 7654 Raiko Shareef Currency Strategist +64 4 924 7652 Yvonne Liew Publications & Web Administrator +64 4 474 9771 Asia Christy Tan Head of Markets Strategy/Research, Asia, + 852 2822 5350 UK/Europe Nick Parsons Head of Research, UK/Europe, and Global Co-Head of FX Strategy + 44207710 2993 Gavin Friend Senior Markets Strategist +44 207 710 2155 Derek Allassani Research Production Manager +44 207 710 1532 Distribution Barbara Leong Research Production Manager +61 2 9237 8151 Important Notice This document has been prepared by National Australia Bank Limited ABN 12 004 044 937 AFSL 230686 ("NAB"). 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