Australian Market Notes – 3 November 2006

MELBOURNE AUSTRALIA, 3 November 2006 - The All Ordinaries may very well be hovering around it's all time high, but just like the Dow Jones Industrial Average, it is not looking particularly convincing at the moment.

It wasn't helped by the August retail sales figures coming in at 0.1% compared to the 0.5% as predicted by economists surveyed by Bloomberg News. Add to that a widening trade deficit, a continuing drought and the real possibility that the Reserve Bank of Australia will raise interest rates at its Melbourne Cup Day meeting to combat inflationary pressures. In another survey by Bloomberg, all twenty-give economists they asked believe that interest rates will rise at the meeting.

On the drought, Federal Treasurer and Prime Ministerial wannabe Peter Costello told the Australian Chamber of Commerce & Industry that the drought could take as much as 0.8 percentage points from economic growth in 2006-07.

In addition to that, grumpy Pete also told the ACCI that the resources sector would not be able to provide the same boost to the economy in the future that it has done in the past, mainly due to the levelling in commodity prices in recent months.

According to the report in the Australian Financial Review, Mr Costello said, "During the 2003-03 drought, farm GDP fell by around 25 per cent and the direct impact was a 0.8 percentage point subtraction from GDP growth. Rural exports fell by almost 13 per cent."

He went on to say, "This year we are expecting farm GDP to fall by around 20 per cent and rural exports to fall by around 9 per cent. You would expect a commensurate detraction from GDP. This year drought will cut economic growth below its long-term average."

Shane Oliver, chief economist at AMP Capital Investors told Bloomberg that "Today's figures indicate the economy is slowing and that complicates the Reserve Bank's decision on interest rates. It's a risky time to be contemplating a rate hike, but that won't stop them."

Well, perhaps the RBA's decision next week isn't as clear cut after all. Oliver went on to say, "Drought will slow the economy, consumer spending is slowing in response to interest rate increases, and the global economic outlook is softening."

On top of the lower agricultural exports, Access Economics predicts a further softening in metals prices, with nickel, tin, aluminium and copper on their list as decliners for next year. In 2008, Access Economics believes iron ore, gold, silver, uranium and zinc will fall. We shall see.

Meanwhile, across the Pacific the Associated Press reports that "The productivity of American workers slowed to a standstill in the summer while wage pressures were rising at the fastest clip in more than two decades, a combination likely to raise inflation concerns at the Federal Reserve."

The figures released by the US Labour Department showed that productivity for the recent quarter ending September stood dead still while labour costs increased by 3.8% during the same period, taking annual labour costs up to 5.3%.

Can it be any coincidence that both in Australia and the United States, that the respective central banks took their foot off the breaks too early. Both Bernanke at the US Fed and Macfarlane/Stevens at the RBA thought they had inflation licked even though it looked reasonably obvious to many that inflation was still a potential problem.

Unfortunately, the central bankers thought better of it, deciding to focus on their 'pet' inflation indicators that discounted or ignored this that and the other, all the while the real cost of goods and services has been rising.

If only they had taken the medicine a few months back things may not be tasting quite so bad now. ###

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