The following is a summary of findings from Treasury's business liaison conducted in February 2003.1
Contacts in the non-farm sectors of the economy suggested that activity in the second half of 2002 was strong, and in many cases was stronger than anticipated. Contacts remained generally positive about the outlook for 2003. However, sentiment continues to be tempered by an uncertain international environment and the drought.
Treasury greatly appreciates the commitment of time and effort made by the Australian businesses and industry associations that participate in this program.2
The February business liaison round comprised approximately 70 interviews, with the bulk of these meetings being conducted in Sydney and Melbourne. The meetings were supplemented by phone interviews with contacts in other states.
The business liaison round focused on investment activity and profitability. In addition, conditions in the farm sector continued to be closely monitored. Treasury met with contacts in the following industries in February: agriculture, construction, transport and storage, communications, tourism and accommodation, manufacturing, mining and energy, and finance.
As in the November 2002 business liaison round, sentiment concerning the outlook was generally positive, but tempered by uncertainty around global economic conditions and geopolitical tensions. However, while still positive, sentiment appears to have softened slightly in early 2003.
The drought continues to depress the farm sector as well as indirectly affecting other businesses downstream. Contacts noted that the full price effects of the drought are yet to be felt, particularly on produce such as meat.
General business conditions and profitability
Many contacts reported strong trading conditions and profitability in the second half of 2002. Profitability appears to have been driven by increasing sales volumes rather than changes in profit margins. Manufacturing contacts in sectors that are benefiting from the construction cycle continued to comment that their businesses are running at or near capacity.
In addition to industries benefiting from the high levels of construction activity, businesses that had recently undertaken significant measures to control costs reported improved profitability, or expected improved profits over the next year. In many cases competitive pressures prompted the cost cutting.
Although the recent appreciation of the dollar has assisted some firms through lower import costs, not all firms are positively affected. Businesses exporting goods and services in $US terms have generally reported a decline in margins and profitability due to the appreciating Australian dollar, along with a loss in cost competitiveness.
Businesses were cautiously optimistic about profitability going forward. However, expectations have been dampened by the uncertainty surrounding international conditions. Some businesses felt that they were reasonably well insulated from such developments, unless the wider Australian economy was derailed.
According to tourism contacts, activity has been holding up surprisingly well in recent months, with occupancy rates being relatively steady. Nevertheless, contacts in the tourism and accommodation sector expressed concerns about the outlook for inbound tourism should international risks crystallise. Additionally, contacts continued to indicate that the corporate travel segment remains weak.
Conditions for business investment remain favourable with low interest rates, reports from liaison contacts of high profitability, high levels of capacity utilisation and robust domestic demand. While liaison interviews cover a wide range of business activities, the importance of investment as a driver of economic growth in the period ahead suggested that investment warranted greater focus during Treasury's February business liaison round.
Activity in the non-residential construction sector remains high. While the strength of non-residential construction was evident across Australia, Melbourne was particularly strong for office developments though some contacts pointed to the potential for oversupply to emerge in this market. The construction of new industrial space was also strong in most cities. However, contacts suggested that there might be limitations to industrial developments arising from the lack of affordable sites around major city centres.
Contacts reported that most engineering construction projects are on track with contracts being signed as planned and running to budget. Additionally, there are a number of very large public and private investment projects planned to commence in 2003.
The combination of high levels of activity in non-residential and engineering construction has resulted in some contacts reporting activity at 20 per cent or more above normal levels. In addition, for many contacts there are at least 15 to 18 months of work on their books - record levels in some cases.
Consistent with this substantial activity, shortages in labour are being reported in some trades (for example, plasterers and painters). However, partly as a result of forward contracts, the cost of other inputs has been contained to-date. Emerging cost pressures in the construction industry were discussed in more detail in the summary report of the November business liaison round in the Summer 2003 Economic Roundup.
In addition to the businesses directly involved in construction, high levels of activity in engineering construction are also benefiting other businesses. For example, contacts in manufacturing that provide inputs into construction and engineering projects, are also reporting high levels of activity.
Plant and equipment
The outlook for plant and equipment investment remains firm according to business liaison contacts in February.
Most contacts reported capital expenditure intentions either slightly above or around average levels. However, contacts in sectors such as aviation, parts of manufacturing, and security services, reported plant and equipment investment intentions that were well above average. A high proportion of businesses' capital expenditure intentions related to long-term business planning rather than current conditions alone. Although, some business contacts noted that they needed to increase capital expenditure just to maintain capacity and meet current demand.
Contacts in the construction industry suggested that the high levels of activity in residential construction experienced in 2002 have continued into early 2003, although forward orders are beginning to decline. Most contacts reported having at least another 3 to 6 months of work on their books.
In the November 2002 business liaison round contacts expected residential construction to decline in the second half of 2003. This was still the case in the February 2003 round.
- However, some contacts felt that low interest rates may continue to drive relatively high levels of residential construction activity well into 2003.
- In contrast, other contacts continued to note a level of over-supply emerging in inner-city apartments and pointed to evidence of demand slowing.
Finance contacts indicated that borrowers were continuing to make mortgage payments in excess of minimum repayments, and that the level of defaults had not increased.
Update from agricultural contacts3
Recent rains were noted by some contacts as a positive early sign that the drought would break. Indeed, sentiment among agribusiness contacts appeared to be quite positive d
uring February. Nevertheless, contacts acknowledged that further solid rainfall would be required to put the drought behind them.
- Contacts have typically been forecasting crop production to rebound to average levels in 2003-04 - assuming the drought breaks.
- Contacts in the agricultural sector indicated that decisions around planting for the coming season would be made in ensuing weeks, based on regional rainfall, and depended on dam levels in other cases.
While the effects of the drought have already been seen in a large reduction in farm employment and exports, and increasing prices for some farm produce, contacts noted that the full extent of price effects from the drought are yet to felt. For example, meat prices are likely to rise once the drought breaks as farmers retain their stock to rebuild their herds, which could take around 2 to 3 years.
Wages and input costs
In general, wage increases are expected to be moderate in 2003. Most industry contacts indicated that they were not facing any general skill shortages, with the exception of the construction industry and the health sector. Wage increases of around 3 to 4 per cent per annum were anticipated by most contacts, offset by expected productivity gains in many cases.
Other input costs have increased in recent times, including the price of petrol. Additionally, several contacts highlighted that rising oil prices would add to the cost of other oil-based inputs, such as plastics. However, in the case of imported inputs, contacts noted that they had benefited to some extent from the recent appreciation of the dollar.
Increases in insurance premiums continue to be widely noted as a source of significant cost pressure for businesses. However, consistent with previous liaison findings, future increases are expected to be more moderate. Several contacts also noted difficulty in finding adequate insurance coverage and some reported that their businesses were taking on larger 'excess' amounts or greater 'self-insurance' in their policies.
Recruitment agency contacts reported positive hiring intentions in particular industries, including health, education and construction. Recruitment agencies expect a positive employment outlook for construction, transport and logistics, and travel and tourism.
Most businesses contacted in February reported either unchanged employment levels or plans to slightly increase employment over the period ahead. Businesses involved in residential construction activity noted that their employment levels were substantially above average and that they expected numbers to ease over the second half of 2003.
- A detailed explanation of the Treasury Business Liaison Program is provided in the Treasury Economic Roundup Spring 2001. Further information is contained in the November 2002 business liaison summary report in the Summer 2003 Economic Roundup.
- Summary reports of Treasury's business liaison reflect the views and opinions of contacts. A summary of business conditions reported by liaison contacts is provided for the information of readers. While Treasury's evaluation of the economic outlook is informed by findings from business liaison, a much wider range of information and data is utilised to ensure a rigorous assessment of the Australian economy.
- Further information is contained in the November 2002 business liaison summary report in the Summer 2003 Economic Roundup.