The flow of economic data has so far made June a good news month for Australia, notwithstanding the abrupt resumption of COVID-19 restrictions had on economic activity in our second-largest state.
National accounts—which provide the most comprehensive reading of the economic pulse—reported that the first quarter of 2021 was the third straight quarter of outsized growth, which lifted GDP to a level almost one percent above where it was at the end of 2019 before the pandemic started to affect the economy.
Employment likewise has exceeded its pre-pandemic level. Australia is one of the very few countries in the world that can boast of such outcomes.
Then, one of the prominent credit rating agencies, Standard and Poor’s, announced it was removing the “negative outlook” caveat it had slapped on the Australian government’s AAA rating during the financial turmoil of 2020. Few other countries in the world enjoy a pristine credit rating like this.
Last year, economists had a field day speculating about whether the post-COVID recovery would take the shape of a V, U, W, K, an L or even a Nike swoosh. There was a lot of pessimism about the outcome. But Australia’s recovery has taken the best shape—an emphatic “V.”
What went right, and why was the pessimism so rife?
One reason is that SARS-CoV-2 was suppressed more rapidly and comprehensively than anyone dared expect in the dark days of national lockdown. With the exception of Victoria, the local outbreaks (if that’s what they can be called) since mid-2020 have been too small and short-lived to derail the strong recovery.
The second reason is that many economists, including this one, failed to understand how different the pandemic-induced slump was from a conventional recession. Once restrictions were removed, economic activity bounced back quickly, aided by the JobKeeper scheme (a temporary wage subsidy measure) that kept employer-employee connections intact and ready to resume where they left off.
We also failed to anticipate the extent to which the economic losses in highly exposed sectors such as international travel and higher education would be offset—in a macroeconomic sense—by gains elsewhere, such as in e-commerce and home improvement.
But while the news has been good, the horizon is by no means clear of dark clouds.
We don’t yet know how the latest outbreak in Melbourne will play out, and we do know how panicky state premiers are at the first sign of COVID infections, with the possible exception of New South Wales.
Then there is the fact that although GDP has slightly exceeded its pre-pandemic level, the economy has foregone most of the growth that would otherwise have occurred in the five quarters since. From that perspective, the economy is still at least two percent smaller now than it would otherwise have been.
Indeed, the Treasury expects the economy to be permanently smaller as a result of the pandemic. This is partly because the population will be permanently smaller but also because of long-term economic “scarring” from the 2020 slump. The scarring has been limited by the shorter than expected duration of the slump, but it will still happen.
The economy will also suffer from the setback to international travel, skilled migration and higher education, which add a dimension to Australia’s economic vigour that cannot be easily replaced by increased consumer spending in other sectors, including in-home IT equipment and renovations.
The run of outsized quarterly growth rates is probably behind us now, and the rate of growth will return to something more ordinary. This is a reminder that Australia’s economic performance was mediocre before the pandemic—marked by low growth in productivity, which is the well-spring of improvements in living standards.
This is the mediocrity to which economic performance will return unless there is a more concerted policy effort to strengthen the incentives and enabling conditions for productivity growth. Fiscal and monetary stimulus has its limits and is not a substitute for self-sustaining growth.
Finally, the outlook for the nation’s public finances remains worrying, notwithstanding Standard and Poor’s brighter outlook. The rating agency’s upgrade this week came with the qualification that preservation of the AAA rating will depend on a return to the fiscal discipline of the past.
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