Shocking GDP fall due to collapse in household consumption: NAB's Alan Oster

Q2 GDP fell by a massive 7% (-6.3% y/y), confirming the large hit to economic activity as a result of the shutdown to limit the COVID-19 pandemic.

The fall in activity was driven by a collapse in household consumption, where spending on services fell 18% amid the peak of the restrictions.

Likewise, by industry, hospitality and recreational services saw the largest falls in activity, although nearly all industries were heavily impacted. We expect that we are past the peak impact on activity, but the recovery will be still be a long process.

We forecast a broadly flat outcome in Q3 (which will be impacted by the Victorian restrictions) and a ramping up in the level of activity as the economy reopens in the first half of 2021.

The labour market will continue to deteriorate given the lags from activity to labour market and the worst in unemployment will probably be in early 2021. These accounts also clearly demonstrate the unprecedented support provided by policy makers, which has more than offset the hit to household income - but not the fall in the level of activity itself.

Overall, private sector demand drove the weakness in Q2, where it subtracted 7.9ppt from GDP. In particular, household consumption fell by a record 12% – with a very large 18% fall in services consumption, reflecting widespread restrictions in place early in Q2.

Dwelling investment also saw a sharp 7% decline in the quarter, while new business investment fell 3.5%. This was partially offset by public sector spending and net exports. These accounts also show the substantial support from government.

Despite the large hit to activity and the 10% collapse in hours worked, household income rose 2.5%. This reflects the significant 42% increase in social assistance benefits (welfare payments) and 22% increase in gross mixed income (boosted by JobKeeper), while compensation of employees (wages) only saw a fall of 2.2% (also supported by JobKeeper).

Looking forward, we expect a flatter outcome in the September quarter and a gradual recovery from there – but do not expect the economy to recover its pre-virus level until early/mid 2023. The unemployment rate will continue to rise from here, reaching a peak of over 9% later this year and nearer 10% in early 2021. It will then begin to recover over the course of 2021 and 2022, but will remain well above its starting point and the NAIRU.

From a policy perspective this outlook warrants ongoing support to ensure the recovery can happen as quickly as possible. We expect the RBA will remain on hold for an extended period with the risk of some further easing in policy should their forecasts be disappointed.

On the fiscal side we think ongoing support is required and that more will be likely done – likely in the form of ongoing wage subsidies, higher unemployment benefits and possibly the bring forward of tax cuts. They may also bring forward infrastructure investment and structural reform which would also help.

Alan Oster is the NAB Group Chief Economist