Nab's Survey Picks Up Confidence Leap

Here's what it said yesterday.

Within the three key components of business conditions: profitability increased to a new historical high, while trading conditions were steady at strong levels notwithstanding still subdued export sales and job gains remained steady but strong.

Nevertheless, business conditions remained mixed across industry and states in the June quarter.

Business, financial and property services and mining continued as the strongest sectors.

Agriculture has moved up with the passing of the worst of the poor seasonal conditions in most of Australia.

On the other hand, parts of manufacturing and recreational services remained relatively weak. The discrepancy in business conditions by region can be divided into three groupings.

After further gains, business conditions in WA continued to outperform in the quarter.

Both Victoria and SA also improved strongly in the quarter, joining Queensland at robust levels. Meanwhile, NSW and Tasmania remained laggards but still reasonable.

Reflecting the strong conditions, capacity utilisation is also around a record high rate and labour market conditions appear tight from a historical perspective. A record 68% of businesses reported that labour availability was a significant and/or minor constraint on output in the June quarter.

Wages have responded to these stronger conditions, with a small rise in annual rises of late. However, the increases remain moderate by historical standards at annual rates of around 3½%.

Furthermore, wage pressures have mostly been evident in the areas of greatest strength in the economy – notably WA and industry sectors such as mining, construction, and finance, business and property services.

While employers report some increase in wage pressures associated with enterprise-based bargaining, firms have also raised their expectations of the productivity offset to about 2% over the medium term.

To date, firms also report that retail and economy-wide inflation remain contained. Economy-wide prices rose by 0.4% in the June quarter to be 1.8% higher on an annual basis, compared to annual rises of 2.5% and 3.4% for purchase costs and wages, respectively.

Sales margins also reportedly came off a touch in the June quarter for retailers and economy-wide – albeit to a lesser extent than the corresponding outcomes a year ago.

Businesses expect conditions to improve significantly in the September quarter and also reach record high levels.

Put another way, firms do not see any slowdown in sales and profits growth and job gains in the near term. Longer term, business also raised expectations for the next twelve months – albeit from a historical perspective. Business conditions for the next year are still significantly below the peaks reached in mid 1995, largely reflecting sales and profit expectations.

On the other hand, employment plans for the next year are well above previous record levels. Demand remains the main constraint on the profitability outlook for the next twelve months. However, this concern is waning to around record low levels – consistent with strong conditions.

Firms are increasingly concerned about 'other' and company specific factors and the availability of suitable labour.

Finally, investment plans for the year ahead were upgraded significantly – and very broadly across all sectors – unlike the Statistician's survey released a few months ago. Importantly, given the supply-side constraints, this is consistent with a re-acceleration in real underlying business investment growth to around 15-20% by the middle of 2007.

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Business Conditions: Looking at the survey in detail, the NAB said that after accounting for seasonal factors, the Business Conditions Index (a composite index of trading conditions, profitability and employment) rose by 2 to 20 index points in the June quarter. This brings the index back to the high recorded in 2004.

• Business expectations rose even more significantly for conditions in both the next quarter and the next twelve months. The Quarterly Business Expectations Index for the September quarter rose by 7 points to 30 index points and for the year ahead was upgraded by 4 to 38 index points – the highest on record and for over 12 years, respectively.

• Firms continue to report that business conditions are relatively stronger than the Statistician's estimates of domestic demand (and non-farm GDP). This growth "gap" is arguably explained by the boost from the current record terms of trade on returns.

It said that by industry, business services has now surpassed mining as the strongest sector, with both financial and property services also very strong.

All of these industries improved, except financial services.

Manufacturing and recreational services remained relatively weak, with further declines in the quarter. All other industries recorded solid conditions, with all but construction improving in the quarter.

• The disparity in business conditions by region can be divided into three groupings. WA continues to outperform by a large margin, having improved further in the quarter. Victoria and SA improved strongly in the quarter, joining Queensland at robust levels. And NSW and Tasmania remain the laggards.

Trading Conditions: After accounting for seasonal factors, the Trading Conditions Index was at 26 index points in the June quarter – unchanged for three quarters and at the highest level for over ten years. In original terms, both total and domestic sales were unchanged from the prior quarter, but both were up significantly from the corresponding quarter last year.

• Added to this, export sales were up slightly in the June quarter, but down over the year. In unadjusted terms, the Export Sales Index was 7 index points in the June quarter, compared to 10 in the same quarter a year ago.

After accounting for seasonal factors, the Forward Orders Index fell by 1 point to 7 index points in the June quarter. On average, this level of forward orders is consistent with underlying annual growth in non-farm output of around 3½% - well below the 4.6% rise in the March quarter. By contrast, expectations for forward orders over the next three months rose by 2 points to 15 index points – its highest level in 5 years.

• Non-farm business stocks were broadly unchanged in the March quarter. In seasonally adjusted terms, the Stocks Index rose by 1 point to 10 index points in the June quarter.

Employment: After accounting for seasonal influences, the Employment Index was unchanged at 12 index points in the June quarter. The 3-month employment outlook rose by 8 points to 20 index points for the September quarter, with employment expectations for the next 12 months improved another 3 points to 28 index points – the strongest level on record.

Consistent with strong business conditions, labour market conditions are on the tight side and capacity utilisation is at historically high rates.

• The proportion of businesses citing sales and orders were not a constraint on output has moved above 48% of respondents in the June quarter to a new record.

• Likewise, the labour market remained very tight in the June quarter. Around 31% of respondents indicated that finding suitable labour was no constraint on current output – a new historical low (see left hand chart below). Put another way, about 68% of businesses reported labour availability was a (minor or significant) constraint.

After adjusting for seasonal factors, capacity utilisation moved down a bit from 83.7% to 83.5% in the June quarter.

• Wages rose by 0.8% (seasonally adjusted), down from a 0.9% rise to the March quarter, but still 3.4% higher in through the year terms. Wages are rising at the highest annual rate in several years, due to the high rates of capacity utilisation and the tight labour market.

• Some sectors and regions are experiencing significantly stronger pressures, driving the generalised upward pressures. Wage growth is stronger than average in mining, construction, recreational and personal services, and finance, business and property services.

• Labour costs are expected to rise by just 0.7% in the September quarter – albeit recent outcomes have tended to rise above business expectations. Around 31% of firms expect to complete a new wage agreement during the next year – with an expected rise in average earnings of 3¼% over the next 12 months, higher than expectations over the past few quarters.

Purchase costs rose by 0.4% in the June quarter to be 2.5% higher than a year ago. This is down from the high rates recorded in the previous four quarters. Economy-wide price increases remain subdued and significantly below rises in costs. Economy-wide prices increased by 0.4% in the June quarter to be 1.8% higher on an annual basis.

• Retail prices are even more subdued rising by 0.3% in the June quarter to be 1.2% higher during the past year. This is unusually lower than the Statistician's underlying CPI outcome, likely due to wider coverage of the Statistician's measure of consumer inflation. The latter includes prices for health, education and a number of public sector good and services, rather than business sector.

• Expectations point to an even slower rise in retail prices, and economy-wide prices of final products are expected to rise by around the current rate in the September quarter. Expectations have tended to exceed actual outcomes during the past few quarters.

• Firms report less downward pressures on sales margins. Retail sales margins declined slightly in the June quarter – but to a lesser extent than historically occurs. More generally, margins for economy-wide products were broadly unchanged in the June quarter.

Profits: The Profitability Index rose by a point to 17 index points in the June quarter. Also, both near and longer-term profit expectations were revised up significantly to 29 and 36 index points, respectively.

• In terms of expected constraints on profits over the next year, respondents continued to nominate demand as the main factor, cited by 35% of businesses. This, along with concerns around the availability of suitable labour and wage costs remained around constant. "Other" factors – largely a residual item – rose noticeably (cited by 27%), with concerns around interest rates and capital capacity dropping.

Annual capital expenditure plans have been upgraded by an additional point, following the 10 point jump in the December quarter, to 33 points in the June quarter – higher than the levels recorded in 2004, which were joined by very high rates of business investment growth around that period.

• Unlike the Statistician's capex Survey of expectations, the Survey points to a re-acceleration in real underlying business investment growth, to near 20% from a current pace of about 7% to the March quarter.

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And looking out into 2008, the NAB says global growth will be around 4.75% in 2007 and around 4.5% in 2008.

At this stage, a stronger China is more than offsetting a weak USA.

"But the latter needs to be watched. Housing problems and associated weaker US consumption are expected to see Fed cutting interest rates in the first half of 2008."

The bank left its Australian GDP forecasts unchanged at 4% in 2007 and 3.75% in 2008.

"The currency is expected to remain strong, given rate prospects and strong commodity price outlook.

"Core CPI is likely to move up to near 3% in early 2008, causing RBA to take added insurance in August.

"That, given our forecasts, should see core inflation easing back to around 2.6% by late 2008.

"But no scope for further fiscal stimulus given current economic outlook."

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