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Household spending stalls in 2023 and is set to remain weak in the first half of 2024.
The December quarter National Accounts showed continued weakness in the Australian economy. Real GDP rose a sluggish 0.2% in the December quarter, in line with both market and QIC expectations. In year-ended terms, growth slowed from 2.1% to 1.5% in Q4, the slowest rate of growth (outside of the pandemic) since the dot-com bubble slowdown in 2000. However, these year-ended rates mask the underlying loss of momentum in the economy, with GDP growth slowing to an annualised rate of just 1.0% in the second half of 2023, down from 2.1% in the first half of the year.
The weakness in the economy has been driven by tight monetary policy as the Reserve Bank attempts to slow demand enough to bring it back in line with supply, and inflation back in line with target. But growth has been supported by the rapid increase in population associated with strong migration flows. In per capita terms, GDP has fallen for three consecutive quarters, with the annual rate falling by 1% over 2023. This is the weakest per-capita outcome since the early 1980s. Whilst avoiding the technical definition of a recession, the economy is clearly faltering.
The subdued growth was underpinned by weakness in household consumption, which grew by a meagre 0.1% over the quarter, coupled with a significant 3.8% decline in dwelling investment. Households are facing pressures from high prices, interest rates and taxes which have weighed on real disposable incomes. While there was a modest rebound in real disposable incomes in the December quarter due to the timing of tax payments, the depressed level of incomes will remain a headwind for spending in the first half of 2024. The composition of spending highlights the strain household budgets are under with the proportion of consumption on essential spending rising over the quarter. Spending on clothing and footwear, cars and hotels, restaurants & cafes all fell over the quarter, while spending on the essentials like food, health and utilities rose.
The household saving rate rose to 3.2% in December, from 1.9% in September, but remains below its long-term average of 6-7% as households dip into savings to support consumption while incomes are weak. Despite running down savings in the last year, households still hold substantial savings buffers that were built up by the massive government support measures over the Covid period. We estimate the excess savings buffer to be around $190b, down from the peak of $250b in 2022, but still substantial enough to prevent a serious downturn in consumption, even with the depressed level of real incomes.
The outsized drop in dwelling investment reflects supply-side challenges faced by the housing industry, with cost blowouts causing record insolvencies and difficulties in completing the current pipeline of construction work. The weakness in supply and the prospect of rate cuts from the RBA later in the year has seen house price gains gather momentum, with the CoreLogic measure of national house prices accelerating to rise by 0.6% in February and by 11% since the trough last January.
On the positive side, government consumption continues to support the economy, growing by 0.6% in the December quarter due to the rollout of cost-of-living subsidies. Strong investment by state government corporations also continues to boost the economy. Non-residential building construction was also a bright spot, rising by 5.0% in the quarter and 11% over the year, supported by an expansion in supply across the industrial sector.
Productivity growth was positive for a second consecutive quarter helped by a continued unwind in hours worked as the labour market softens. Importantly though, productivity growth still lags wage growth, meaning that unit labour costs continue to rise solidly. Annual growth in unit labour costs was 6.6% in the December quarter, similar to rates seen over all of 2023. Unless businesses absorb these increased unit labour costs into their margins, the higher input costs will be passed onto consumers and keep inflation elevated. Our view is that it will take until later this year for a gradual improvement in productivity, combined with a deceleration in wage growth as the labour market softens, to make a meaningful dent in unit labour cost growth, such that the inflation rate comes down comfortably towards the Reserve Bank’s target.
The slowdown in the economy has been reflected in a rapid deterioration in the labour market data over the last two months, although we believe changing seasonal factors have exacerbated the weakness and expect to see a sharp rebound in employment in February. However, the weak employment prints and slowdown in GDP growth have highlighted the risk that the first half of 2024 could turn out weaker than we forecast. Our expectation is that GDP growth will remain well below trend in the first half of 2024, but not deteriorate any further than we saw in the December quarter. This would likely see the unemployment rate lift gradually to 4.5% by the end of the year, allowing the RBA to cut rates late this year when it becomes clear that inflation is slowing toward target. But a faster deterioration in the labour market would put pressure on the RBA to cut rates sooner than we expect.