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What bad news? Australia's forecast budget deficit has jumped two-thirds in three months and Canberra just cut its growth forecasts. The Aussie dollar was already at a three-year low and falling after the central bank had hinted at an easier stance. Stocks meanwhile, are as optimistic about earnings as they were during China's post-Lehman boom years. Something does not add up – and it isn't likely to be the economy.
Perhaps the cricket team's surprisingly strong start to its third Test match against England has distracted everyone. The slowing economy is admittedly no real surprise. The government's forecast for growth of 2.5 per cent in the current fiscal year, instead of 2.75 per cent, has merely put it roughly in line with economists' predictions. But the budget deficit, now $30-billion Australian ($27.7-billion) from $18-billion in May, is painful, as is the $33-billion in expected revenues over four years that the government has now given up on.
At least the Reserve Bank of Australia is on the case. This week Glenn Stevens, governor, gave the market the confidence to expect a quarter-point rate cut to 2.5 per cent at the bank's meeting on Tuesday after a dovish speech that expressed comfort with the weaker currency. The Aussie has dropped 15 per cent in three months against the dollar and dipped below $0.89 on Friday – its lowest since August 2010. But Mr. Stevens also mused about structural changes that might be making monetary policy less effective, such as a lower level at which rates are neutral for growth.
Yet investors focused on the looming rate cut so shares rallied. The benchmark ASX 200 now trades on 15 times expected earnings – the average during China's post-2008 crisis boom. This is in spite of the fact that it is China's slowdown that has hit commodities and capped the mining investments that once drove Australia's economy. Expectations for miners' earnings have fallen and now trade on 13 times forward earnings. But that only leaves them in line with peers elsewhere in Asia. Australia's banks meanwhile, are among the most dependent on the home market of all the world's big banks, yet trade on 14 times expected earnings – twice the regional average. Consider a combination of soggy house prices, weak capital investment and rising unemployment – even before the government's newly constricted spending power. Those betting on rate cuts and a weak currency to significantly boost the economy and earnings are in for a long wait.