As Australian economic stagnation threatens, it’s apparent that critical growth drivers of the economy face major challenges.
As last year drew to a close, the Australian economy was nearing stall speed. True, the economy had avoided falling into a technical recession. Rather than two consecutive quarters of negative growth, the September 2024 national accounts showed real GDP had expanded for a 12th consecutive quarter. But in annual terms, the economy had grown at just 0.8 per cent. Excluding COVID-induced disruption, it marked the weakest outcome since the early 1990s recession. Moreover, what little growth there was had again been driven entirely by an expanding population powered by high rates of net overseas migration. Strip that out and the economy remained stuck in a lengthening per capita recession as GDP per head contracted over the quarter for a seventh consecutive decline.
The disappointment didn’t end there. The composition of GDP growth revealed that private sector activity had been stagnant at best, with private final demand failing to contribute to quarterly growth for two straight quarters. Instead, activity was largely reliant on public sector demand plus a modest contribution from net exports.
Mostly, this reflected adverse consequences for interest rate-sensitive sectors of the economy of the Reserve Bank’s restrictive monetary policy stance, plus the impact of the cost-of-living squeeze on household consumption. As inflation continues to ease, and as the RBA finally gets around to delivering interest rate relief this year, these pressures should start to subside, and private sector activity should recover.
Aside from the ups and downs of the business cycle, more fundamental questions appear. Several issues stand out as posing noteworthy challenges for what until now have been critical growth drivers for the Australian economy.
Household consumption
First, there are the relationships between the household sector, consumption and the housing market. As the largest expenditure component of output, household consumption has been at the heart of Australia’s recent growth performance. It rose from about 48 per cent of real GDP in the early 2000s to around 51 per cent on the eve of the global financial crisis (GFC), as real consumption growth ran ahead of real GDP growth. Between the end of the GFC and the start of the pandemic, the two grew mostly in tandem, keeping the consumption share relatively stable. But the pandemic saw the ratio drop to 48 per cent and while recovery has returned it to around 50 per cent, across four of the five past quarters, consumption growth has again lagged GDP growth.
Weak consumption reflects the way growth in real household disposable income, already markedly slowed over the post-GFC period, has gone backwards over the past two years. Interest rates and inflation explain much of this. But a lacklustre labour productivity performance, which pre-dates COVID by roughly a decade, had already contributed to a sustained period of disappointing real wage growth. The post-pandemic era is yet to deliver better news on the productivity front.
Some households have been able to substitute positive wealth effects from rising house prices for lagging wage gains. More generally, the housing market, in tandem with consumption, has been another critical driver of private demand growth and Australian governments have repeatedly deployed demand-side policies to support it, ostensibly to improve affordability, but in practice to sustain asset values. Yet here, too, there are complications. Declining housing affordability and sliding home ownership rates have become an increasingly potent political issue, even as the dysfunctional nature of the housing market has served as another drag on productivity.
Migration and trade
Next, the political economy of net overseas migration has its own challenges. Past migration waves have contributed positively to both the demand and supply sides of the Australian economy. But against the backdrop of a political backlash across much of the developed world, making the case for high rates of migration to sceptical voters is considerably harder when those same rates have most recently been associated with an extended period of falling GDP per capita.
Then, there is the nexus between the role of the resource sector in delivering export growth, investment spending, income gains (via the lift to our terms of trade) and tax receipts, and the central place occupied by China as the dominant overseas market for Australian exports. For much of the current century, we have successfully doubled down on the gains from comparative advantage and specialisation in international trade, albeit at the price of relatively high levels of product and market concentration. While that bet has paid off handsomely to date, the associated risks are rising. Reliance on China as our main source of external demand has already faced headwinds from Beijing’s economic travails over the past year, and significant uncertainties surround US President Trump’s tariff plans and the prospects for intensified US-China geo-economic and geopolitical competition. The medium term poses yet more uncertainties, related to climate change and the energy transition, for key energy exports.
Last year, Australia proved able to substitute public for private demand to an extent sufficient to stave off outright recession, but in a way that also confirmed that slow growth often entails an expanding government footprint. Ongoing changes — an ageing population and the growing demands of the care economy, the investment requirements of the energy transition, and ambitions to ramp up defence spending in response to a more insecure international environment — all point to a larger role for government.But that raises questions about the dangers of crowding out private sector activity, the potential consequences for economy-wide productivity, and the financing of these additional demands at a time when politicians (and their electorates) struggle to countenance significant reforms to either the revenue or expenditure sides of the budget.With a federal election imminent, perhaps this year will see our would-be leaders explain in more detail how they plan to meet these various challenges.
AICD chief economist Mark Thirlwell GAICD has focused on the international political economy at the Bank of England, JPMorgan, Austrade and Export Finance Australia.
This article first appeared under the headline ‘Stuck in the doldrums’ in the February 2025 issue of Company Director magazine.
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