Efic's Chief Economist, Cassandra Winzenried prepared this Export Outlook for our partner Wine Australia.
The world economy is strengthening, despite significant risks. While China continues its economic slowdown, solid middle class consumption growth will continue to reorientate wine exports toward Asia. A muted economic recovery in Australia’s traditional markets and supportive domestic conditions add further upside to the outlook.
Strengthening world economy but downside risks prevail
World economic growth is forecast to accelerate to 3.5% this year (Chart 1)—owing to buoyant financial markets and a long-awaited recovery in manufacturing and trade. But low productivity growth and high income inequality are holding back a stronger recovery, and risks remain tilted to the downside.
First, growing disillusionment with globalisation threatens to escalate trade protectionism. While President Trump’s strong protectionist rhetoric has moderated, the risk of a disruptive US approach—which prompts retaliatory actions from trade partners—remains. Second, higher US interest rates or a reversal in market confidence could strain vulnerable emerging markets. In particular, China’s continued reliance on credit-fuelled investment has led to unsustainable debt accumulation. The IMF considers corporate indebtedness to be ‘a key fault line in the Chinese economy’, and China’s growing integration in global trade and finance raises the potential for contagion.
Mixed growth outlook for Australia’s largest and fastest growing wine markets
Asia accounted for 35% of wine exports in 2016 (compared to 5% a decade earlier) (Chart 2). While China’s economic slowdown continues, improved performance in Hong Kong, Japan and the majority of South East Asia will provide some offset.
China’s GDP growth is expected to fall to 6.6% in 2017—the slowest pace of expansion since 1990. The ‘new normal’ of slower growth reflects the gradual withdrawal of policy support, substantial excess capacity in key industries, and efforts to rebalance the economy toward consumption. Korea’s GDP growth is also expected to fall this year (to 2.5%), reflecting the expiration of policy support and high household debt. Though the election of liberal reformist Moon Jae-in may pave the way for a more competitive business environment.
Better news is found in Hong Kong, where GDP growth will accelerate this year (to 2.4%), owing to a recovery in world demand and robust wages growth. Similarly, strong export growth will support Japan’s economy, though a shrinking labour force and stagnant incomes will curtail medium term prospects. GDP growth in 2017 is also forecast to accelerate in the small open South East Asian economies—Taiwan (to 1.7%), Singapore (to 2.2%), Indonesia (to 5.1%), Malaysia (to 4.4%), Vietnam (to 6.5%) and Thailand (to 3.5%)—underpinned by stronger domestic consumption and recovering Chinese imports.
Solid Asian middle class consumption growth will support exports
Despite pockets of economic weakness in Australia’s fastest growing wine markets, the Brookings Institution forecasts the middle class will consume an estimated US$10t more in 2022 than in 2016; of which US$8t will be in Asia. By 2030, Asia will account for two-thirds of the global middle class and well over half of middle class consumption (Chart 3). Indeed, despite China’s much-hyped economic slowdown, real GDP output remains strong owing to the enlarged size of the economy (Chart 4). Improved market access will increase Australia’s potential to leverage this growing demand.
Muted economic recovery for historically important markets
The US is expected to accelerate this year and next. President Trump’s promised policy mix has buoyed markets and strengthened business confidence—though there is a risk that deregulation and infrastructure policies will underperform. Likewise, the EU recovery has gained momentum—supported by easier financial conditions and a weaker euro. But the medium term outlook remains dim, held back by weak productivity, adverse demographics, and pockets of banking sector weakness. While the election of French President Macron was a win for the EU project, uncertainty surrounding Brexit will continue to weigh on activity. The UK has proved unexpectedly resilient—but growth is expected to erode next year owing to the impact of uncertainty on investment and barriers to trade and migration.
AUD and interest rates expected to remain supportive
The more competitive AUD has been an important tailwind for Australia’s wine export renaissance (Chart 5). The AUD is primarily determined by a) relative interest rates in Australia and the US, b) key commodity prices (Chart 6)—and related to that China’s economic performance, and c) risk appetite in financial markets. On average, economists predict the AUD will remain at, if slightly below, current levels over the next year. That reflects an expectation that the US Fed will continue to hike interest rates while weak Australian wages growth and below-target inflation will limit the potential for higher Australian interest rates. It also reflects expected continued softness in commodity prices consistent with China’s economic rebalancing and increased supply coming online.
Cassandra Winzenried, Chief Economist