The news that the unemployment rate in the United States has risen from 5.0 to 5.5 per cent makes it clear that the US economy is now in recession, even allowing for all the usual qualifications about one months’ data, possible revisions and so on. Unemployment tends to be a lagging indicator, and the housing downturn still has a long way to go before it turns around. The long-overdue downgrading of the main mortgage insurers, MBIA and Ambac, and of course the further depreciation of the US dollar and increase in the price of oil add to the picture. Not surprisingly, this produced a big drop on Wall Street last Friday. What are the implications for Australia.
The most direct, I think, is for the Reserve Bank. It’s now virtually impossible for the US Fed to raise interest rates, so the prospects for US inflation staying low depend on the assumption that high prices for food and oil, and increasingly for US imports, won’t be reflected in prices more generally or in wages. The Australian economy is sufficiently fragile that it seems sensible to take a similar view here and not increase interest rates further (of course, that still leaves Australia with much higher interest rates, and lower inflation, than the US).
The second is for the sustainability of the economic model pursued by the whole English-speaking world for the last couple of decades with large trade and current account deficits and low to zero rates of household savings in traditional terms, offset by capital gains on housing and equity investments. Australia has followed this model even more enthusiastically than the US in some respects, and so far has not suffered any serious consequences. But a sudden loss of confidence in the US could easily spread here. I’d be a lot happier if our current account deficit was declining as a result of the mining boom. Instead, it’s now at record levels.