Jack Green
Brisbane continues to transform itself into a self-titled ‘new world city’. It is a destination for both domestic and international real estate investors off the back of Queensland’s improving economic growth and a multibillion-dollar infrastructure pipeline.
Brisbane CBD comprises over 2.2 million sqm of office stock, making it just under half the size of the Melbourne CBD and slightly smaller again when compared to Sydney. Its vacancy, however, is a lot higher, albeit on a downward trajectory having dropped to 11.9%, from 12.9% just six months previously. Brisbane fringe vacancy contracted from 15.7% to 13.8% over the same period.
This improvement indicates Brisbane is continuing to recover from its record-high vacancy rates after the end of the mining boom. The 11.9% Brisbane CBD vacancy rate is currently the lowest it has been since early-2013, indicating strong sentiment regarding the ‘River City’. This sentiment is amplified given the fact that Perth, the other major resource-driven office market, continues to struggle, with vacancy at 18.4% and incentives upwards of 50%.
Queensland’s economic fundamentals are mixed. According to CommSec’s July 2019 State of the States Report, Queensland ranks fifth in Australia in terms of overall economic performance, despite having the nation’s third best relative economic and population growth.
The State of the States Report, however, does not incorporate Gross State Product, a category in which Queensland (3.4%) outperformed the Australian average (2.8%) in 2018. Queensland’s unemployment rate is 6.0% at present, above the national average of 5.1%.
Overall, the Queensland economic outlook seems able to withstand weakening global and domestic conditions, particularly as a weaker currency is a positive to growth in key sectors such as resourcing, tourism and international students. Additionally, the reduction in housing construction has been offset by increased commercial construction and business investment in and around the Brisbane CBD.
A turnaround in the Brisbane CBD office market is slowly emerging, with an optimistic outlook for the remainder of 2019 and beyond. It is reasonable to anticipate the state’s economy will continue to pick up and investment sentiment to increase off the back of Australia’s weakening dollar. Significant public infrastructure investment and steady population growth will also help.
Investors seeking higher yielding assets have been looking at the Brisbane market for a while now, with 2019 on track to be a record year in terms of investment. The estimated volume of sales, either settled, pending or under due diligence, reached approximately $2 billion through the first half of the year. Only the limited availability of stock seems to be a hindrance for investors.
Rents appear likely to continue to edge upwards as vacancy drops, dictated by a positive combination of relatively low new supply and stronger tenant demand.
This should drive some further tightening of capitalisation rates as domestic and offshore investors continue to take advantage of the yield discrepancy between Brisbane, its southern counterparts and also comparable international city destinations.
One potential negative, however, is the proposed Queensland Government land tax change. This continues to be lobbied against by the industry but, if legislated as is, is likely to negatively impact foreign investors. On top of increases to existing land tax rates, which now range from 1.7% to 2.75%, a new proposed land tax foreign surcharge of 2% will apply to foreign companies.
International destination
Brisbane is one of Australia’s primary tourist destinations, with its array of restaurants, galleries and shopping, but it also acts as a gateway to everything else Queensland has to offer. The Great Barrier Reef, Whitsunday Islands and rainforests of Far North Queensland are a short flight away, while the Gold Coast and its famous beaches are within driving distance.
In 2018, Queensland’s international visitor count for the year grew 2.3% to 2.8 million. The weak Australian dollar is helping drive an increase in tourism, with international tourists flocking down under, as well as nationals forgoing an international holiday to travel domestically.
It’s not just tourism drawing international visitors to Brisbane. With seven world-class universities and a number of private schools accommodating international students, it is no coincidence international enrolments in Queensland educational facilities rose 9.1% in 2018.
Liveability
When measured against cities across the world, Brisbane is attractive for its liveability.
In 2019, The Economist ranked Brisbane 18th out of 150 cities worldwide, based on the criteria of stability, infrastructure, education, healthcare and environment. Mercer, which uses similar yet more extensive criteria, placed Brisbane at number 35 out of 231 cities evaluated in their 2018 Quality of Life index.
Relative value
Along the east coast of Australia, Brisbane’s residential market is comparatively well placed. As at March 2019, the median apartment value in Brisbane was $372,900, whilst Melbourne was $466,900 and Sydney a whopping $696,900. Similarly, for houses, Brisbane holds an average price of $563,700, while Melbourne’s $809,500 and Sydney’s $1.03 million sit far higher.
Those priced out of the residential market in the southern cities can find value in Brisbane.
Brisbane is well placed within the wider Australian commercial market, and has an abundance of infrastructure projects in the works. It is little wonder the ‘River City’ is becoming an increasingly popular destination for international real estate investors.
| Project | Cost | Estimated Completion | Description |
| Cross River Rail | $5.4 billion | 2024 | Set to be utilised by more than 160,000 commuters daily, the 10.2-kilometre rail line between Dutton Park and Bowen Hills will consist of almost six kilometres of tunnel beneath the Brisbane River and CBD. |
| Northshore | $5 billion | 2035 | With construction beginning in 2020, and spanning an area of 302 hectares, Northshore will be Queensland’s largest urban renewal project, consisting of high-end apartments, commercial space, retail, restaurants and bars. |
| Queen’s Wharf | $3.6 billion | 2024 | The 26-hectare integrated resort development will consist of five new hotels, as well as 50 bars, restaurants and cafes, a pedestrian bridge to Southbank, and is expected to draw an additional 1.39 million visitors to Brisbane each year. |
| Brisbane Live Precinct | $2 billion | 2022 | The Brisbane Live Precinct, located in Roma Street, will centre around a new 17,000-seat arena. |
| Millennium Square | $2 billion | 2021 | Millennium Square, located in Bowen Hills, is touted as the ‘city within a city’. It will consist of a state-of-the-art multimedia hub, residential towers, entertainment facilities and one-hectare garden. |
| Brisbane’s New Runway | $1.3 billion | 2020 | Brisbane’s New Runway is currently the largest aviation construction project in Australia. Once complete, Brisbane will have the best runway system in Australia, and current aircraft capacity will effectively be doubled. |
| Herston Quarter | $1.1 billion | 2028 | Linking old with new, Herston Quarter is set to become one of the nation’s largest and most complex biomedical precincts. The redevelopment is set to showcase the area’s local heritage, as well as provide aged care and retirement living, and residential accommodation. |
| Brisbane Metro | $944 million | 2023 | Construction has begun on Brisbane Metro, which will be a key part of Brisbane’s greater transport network, connecting the city to the suburbs. |
| West Village | $800 million | 2023 | Located on the fringe of Brisbane’s CBD, West Village will include seven residential buildings and about 13,000 sqm of retail and commercial space, alongside one hectare of open space linked by pedestrian and cycle laneways. |
| Brisbane International Cruise Ship Terminal | $158 million | 2020 | South-east Queensland currently does not have a dedicated facility able to accommodate mega cruise ships. However, once complete, the Brisbane International Cruise Ship Terminal will be able to cater to the largest vessels in the world. |
| Queensland Cultural Centre | $150 million | 2022 | The new development at Southbank will serve as the Queensland Performing Arts Centre’s fifth theatre, and will in turn make QPAC the largest performing arts centre in Australia. |
Joanna Tano
Activity, from both occupiers and investors, in the UK’s office sector recorded a relatively positive Q2 amidst the continued Brexit haze. While political uncertainty has tempered market activity, deals are being done, prime yields are at, or close to, historic lows, supply-strapped markets are seeing an uptick in headline rents and the resilience of the UK office market is evident.
Addressing the uncertainty of Brexit head on, there were inevitably some companies who decided to move some of their operations away from the UK when the outcome of the 2016 Brexit Referendum was announced. Further, there are some that have decided they cannot live with the continued delay to the outcome of Brexit and have relocated some staff. Finally, there are some companies that are looking at their structures and where their personnel are based and restructuring, unrelated to Brexit.
However, there are some, possibly overlooked headlines of positive job creation and investment banks buying their headquarter buildings. This further demonstrates the resilience of not only London, but the UK market as a whole. Unemployment is at its lowest level in a generation, which is finally seeing some real wage growth. Immigration levels might be lower than in the recent past, but the working-age population will still expand through natural increases and further rises in the state pension age.
The UK is in a leading position in several service sectors such as financial and business services. Additionally, according to JLL’s ‘Innovation Geographies’ report, London has the highest concentration of talent in the world due to its leading universities and a highly-educated workforce.
GDP growth is expected to reach 1.3% in 2019, stronger than the Eurozone average, suggesting a subdued but nonetheless encouraging level of confidence in the economy given the political situation and lack of a definitive outcome of Brexit. The latter will continue to deter some business investment until the UK’s future trading relationship with the EU becomes clearer, but businesses must continue to operate and cannot, therefore, take no action.
The UK real estate market offers size, diversity of product, depth of investors and breadth of occupiers all of which contribute to its appeal. Additionally, liquidity, transparency and high-quality stock in large lot sizes makes it one of the most significant markets in Europe.
In 2018, over £60 billion transacted, approximately 20% above the ten-year annual average. Both 2017 and 2018 trading volumes were above those of Brexit-year 2016, unlike the dramatic falls in activity following the GFC in 2008, after which volumes took at least five years to recover to pre-crisis levels.
In 2018, the office sector accounted for a 40% share of activity. £8.2 billion was invested into UK offices in H1 2019 – mirroring the expected slowdown following the decision to extend the Brexit deadline to October, and partly due to the flurry of deals that closed in the final quarter of 2018.
With limited distress evident and vendor expectations on pricing remaining high, some deals are being held back. There is, however, a noted rise in risk-aversion among some investors given the political landscape. Due diligence is tending to take longer as the market has reached a mature stage of the cycle, which is also impacting on lower investment volumes.
Simply, investors are taking a more considered approach. There is some, albeit limited, evidence that yields are beginning to soften in some secondary markets, which will present opportunities for investors willing and able to take a possible capex, long-term position.
The investor base remains broad, and looking back over the past 12 months, domestic buyers remained active (36%) with Asian buyers the next largest group, specifically capital from Singapore and South Korea. Different capital sources are seeing opportunities in different areas.
London, Europe’s leading gateway city, retains its crown in the UK office market, consistently attracting around 75% year-on-year of total capital inflows into the office sector. Manchester and Birmingham round out the top three spots. Private equity is more attracted to value-add opportunities with a focus on London, while longer-term capital such as Korean, is buying into the growth story of the stronger performing regional cities.
Fundamentals are robust by and large, with performance primarily driven by the lack of supply across key centres and supporting rental growth, especially at the quality end of the market. Development activity is increasingly constrained, with pipelines limited in a number of key locations. This does, however, present opportunities for the redevelopment and repositioning of secondary stock as companies continue their ‘flight-to-quality’ strategies.
Vacancy in London is 4.25%, having declined since the beginning of the year despite a slower Q1 2019 in terms of take-up, with Q2 seeing a more robust performance. More stock is coming through, with an estimated 13.2 million square feet (1.2 million sqm) under construction, but this is unlikely to dramatically impact the level of availability as around 55% has already been let or is under offer.
Active demand is also holding up well against the political headwinds, and at approximately 3.7 million square feet (344,000 sqm) is above the ten-year average of around 3.0 million square feet (279,000 sqm), suggesting the slower start to the market is not here to stay and a pick-up in activity will follow in the coming months.
With that said, there are further reasons for optimism. Both the professional services and technology sectors are forecast to account for the majority of London’s GDP growth in the next five years, which should translate to a need to increase headcount. Oxford Economics highlights other positives for London, including the continued high performance of London’s universities and colleges, an unusually young population, flexible labour market, and relatively easy access to finance. These strengths should help counteract the negative impact from Brexit as well as the threats to the global economy.
Regionally, 2.34 million square feet (217,000 sqm) of space was let in Q2 across the ‘Big Nine’*, bringing the half-year total to 4.3 million square feet (399,000 sqm), 10% above the long-term average. Activity was heavily focused on larger deals, quality space in city centres and flexible space. The technology sector was very active while there was a retraction from traditional sectors such as financial, professional and business services.
Landlords need to be creative and flexible. The way that office space is being used is changing, and owners and investors need to be open and responsive to these changes while looking to preserve income streams. The war on talent continues and the need for companies to tap into talent pools and having them accessible to transport infrastructure is increasingly important, as is the need to provide services and amenities in the office that were unheard of ten years ago.
Technological advancements, supporting the changing needs and lifestyles of employees and facilitating the rise of small businesses, as corporates strive to facilitate a productive workforce, are boosting the need for flexible space. In addition, the desire from larger corporates to have space they can expand into and divest from at short notice is more prevalent in today’s world than ever before.
Co-working space is gaining prominence amongst flexible operators. Conventional landlords are making a move to enter the market as well, rather than simply rent their buildings to flexible operators, they are looking to take a share of the profits.
Flexible workspace providers remain an important driver of leasing activity, accounting for 15% – 20% of office take-up in the UK capital over the past three years. The UK is also an important and growing market for flexible workspace solutions, with the concept being increasingly adopted with new entrants to the market alongside the established providers. Currently an estimated 5.1% of Central London’s office stock is occupied by flexible workspace operators, up from just 0.8% in 2008.
Given their success in meeting the needs of their customers, this trend is here to stay.
The UK may not be for all investors at the moment, but there are opportunities to be had. The UK continues to attract capital despite the backdrop of political uncertainty and a slower economic environment. For those that are taking a longer-term view and can see through the noise, supply constraints and a lack of speculative development remain key drivers of performance.
While transaction volumes are down, loan-to-value ratios and debt levels are lower than before the GFC, meaning any disruption due to Brexit is likely to be relatively limited, particularly for long-term investors.
Jack Green
For investors and operators alike, the phrase ‘traditional retail’ currently invokes feelings of uncertainty and dread, and there is a level of panic associated with the demise of brick and mortar retail. But is the fear of the so-called ‘retail apocalypse’ warranted?
The retail landscape varies dramatically from country to country. The United Kingdom is the home of high street retail, where the United States is the land of not only the free, but also the shopping mall and has more shopping space per person than anywhere else in the world.
Australia has traditionally been a mix of shopping centres, big box retail (think Ikea) and everything in between, while just about every European country has a different story to tell.
What is consistent, however, is that the retail landscape at present, wherever you may be, is very much a case of adapt or perish. A primary driver of this outlook is the rise of e-commerce, which has disrupted many traditional retailers. As such, the industry has reached a point of no return, where longstanding beliefs are no longer a ticket to success.
Adaptation to quickly changing consumer behaviours is not necessarily easy for retailers, but is paramount in order to attract and retain customers. For those who can adapt, there has arguably never been a better time to be a retailer, or investor – if you know where to look.
Despite sensationalist headlines about the ‘retail apocalypse’, consumers still go shopping. While run-of-the-mill discretionary goods spend is highly vulnerable to e-commerce and tightening household budgets, non-discretionary goods and experiential factors are still prominent. As such, brick and mortar stores, are still unmatched when it comes to creating a shopping experience.
As online sales reach 11.9% of total retail sales globally, up from 7.4% in 2015 and forecast to reach 17.5% by 2021, there seems to be no sign of a reprieve for traditional operators who have not embraced the internet.
In terms of uptake for e-commerce purchase patterns, Australia lags behind about half of Europe, as well as the US, at 9% of total sales. The UK leads the pack at 18% of total retail sales, with the US sitting at just over 14%.
Between 2018 and 2023, e-commerce growth will be headlined by the United States, increasing 45.7% to US$735.4 billion per annum. France, 45.6% growth to US$71.9 billion p.a., Australia, 44.6% to US$26.9 billion p.a., and Germany, 35.6% to US$95.3 billion p.a., follow closely. The UK is anticipated to grow by less, 31.3%, to US$113.6 billion a year, but this is from a high base.
Online behemoths such as Amazon, who accounted for 40% of the United States’ online retail in 2018, continue to change the way in which consumers buy goods. The widely-held position is that this is to the detriment of traditional stores. This is evident through the demise, or seemingly impending demise of a number of big-name chains, such as Barneys New York recently filing for bankruptcy, David Jones’ owners writing down the department store’s value by $437 million, and two UK high street stalwarts, Boots and Mark & Spencer, announcing plans to close more than 300 stores between them.
Coupled with e-commerce and cost of living pressures, the waning wealth effect also continues to impact retail investment decisions. These forces are altering consumer shopping behaviours, what they spend money on, and ultimately the performance of different retail subtypes.
Tightening of household budgets means consumers are ringfencing their non-discretionary spend while reducing their discretionary spend to the detriment of department and big box stores, as well as High Street retail.
Retail rents have also begun to plateau, with downward readjustments occurring in an attempt to save struggling brick and mortar stores. However, legacy players are encumbered by high rents (often fixed and escalating), high debt levels that need to be addressed and changing consumer tastes from a discerning and cost-conscious consumer.
Even though rental growth has begun to stall, this is off the back of decades-long growth. For example, the most expensive retail location on earth in 1998, East 57th Street in New York, cost approximately US$425 per square foot (US$4,575 per sqm). Fast forward to 2018, and Causeway Bay in Hong Kong took top honours for the sixth time, with a top rent of US$2,671 per square foot (US$28,750 per sqm) – a six-fold increase.
City Council researchers in New York reported that average Manhattan rents rose 44% to US$156 per square foot (US$1,679 per sqm) between 2006 and 2016. Across the East River, Brooklyn retail rents averaged at least US$100 per square foot (US$1,076 per sqm) in 15 neighbourhoods as of 2017, up from three a decade prior.
The UK High Street is in a similar predicament with landlords consistently increasing rents. Retailers were on the expansion trail in the noughties, blissfully unaware the impact of e-commerce would have just over a decade later.
Capital: Influx or in flux?Global
Institutional investors appear disinterested in retail assets halfway through 2019. The global retail outlook remains very much the same as it did early in the year – a degree of uncertainty clouds the economic outlook. A slowdown in China has weakened growth in emerging markets and some export-focused economies like Japan and Germany. The possibility of a no-deal Brexit has also weakened sentiment, as have the prolonged trade tensions between Trump’s United States and China. Equity markets have mostly bounced back from the lows experienced towards the end of 2018, but volatility still remains.
The retail sector continues to adjust to structural shifts, as global investment volumes in H1 2019 fell 20% on H1 2018 figures. The biggest decline was felt across Europe, the Middle East and Africa (EMEA), with H1 volumes down 43% year-on-year. The US saw a 10% decrease in H1, but on the flipside, Asia Pacific (APAC) saw a 7% rise in transaction volume.
Europe
To 30 June this year, just under 400 deals each valued at €5 million or more were closed, a stark decline on the 651 deals of a similar size through H1 2016. In terms of volume, the 400 aforementioned deals totalled €12.7 billion, which is contextually low given the €36.9 billion dealt in H1 2015.
Further, firms raising capital for strategies including retail peaked at US$3.5 billion through the first half of the year, down significantly on the last couple of years.
Australia
Retail transaction activity reached $8.1 billion in 2018, the third highest level on record. Unlisted funds dominated these acquisitions and it is anticipated the trend of transferring from listed to unlisted ownership will continue throughout 2019 as AREITs continue to refine their portfolios.
However, investors are proceeding with caution when it comes to retail fundamentals, particularly with regard to income stability and capital intensity.
United States
Marred by a spate of closures this year – approximately 7,500 of which were announced by major chains in the first half of 2019 alone – US retailers continue to be battered by high costs, competition from e-commerce and the debt burden carried from past leveraged buyouts.
Despite this, investors remain active. In the first quarter of 2019, US$11.1 billion in assets were traded, and despite a -4.9% year-on-year change, institutional investors are keen to deploy capital for well-located assets in primary or high-growth secondary markets.
Omni-channel retailing
Retailer success will depend significantly on a sound omni-channel strategy. Across most categories and price points, transactions are shifting online and retailers are using their store networks for customer acquisition, brand experience, online order fulfillment, returns and data gathering.
E-tailers, such as Amazon, are going one step further by adopting the ‘clicks-and-bricks’ trend, where previously online-only entities are opening physical stores – highlighting the need for an on-the-ground presence.
This makes sense, as a study conducted in Europe by Ipsos found 70% of consumers prefer to buy online with retailers who have a brick and mortar presence.
Experiential shopping
As shoppers are now able to buy almost any product, anywhere, shopping centres and malls, as well as brick and mortar retailers must therefore fulfil consumers’ desire for entertainment and experience, rather than the traditional procedure of purchasing and owning things.
Globally, leasing in malls and shopping centres will be dominated by food and beverage, cosmetics, lifestyle and experience-based offerings. Landlords of midmarket, mid-tier centres are repositioning to attract these types of tenants.
In the US, this is particularly easy given the sheer volume of vacancies caused by store closures. On the other side of the International Date Line, experiential factors remain a focus for APAC shopping centres, but a trend in co-working spaces in centre locations is also gaining prominence.
Another strategy is to seek operators that cater to the growing health and fitness-conscious consumer. This may include leasing space to a gym or fitness centre, as well as seeking health-focused food and beverage tenants, or even food and produce markets.
In APAC alone, growing consumer demand for experiential shopping is expected to see experience-based spending total US$825 billion between 2018 and 2030. Centres with established experiential retail models are proof of how successful they can be.
There is no shortage of opportunity for those who know where to look. Moving forward, in an almost oxymoronic way, retail will likely form a smaller part of the tenant mix, as non-retail facilities such as restaurants, childcare facilities, fitness and services become standard in many locations.
Traditional retail is therefore being resized, reinvented and reimagined. This is leading to retailer restructuring and shrinking store networks and the disruption is creating the inevitable opportunities for new operators and formats to emerge.
Jack Green
Australia’s birth rate between 1946 and 1964 increased substantially, fuelling a significant structural shift in Australia’s demographic make-up. Labelled ‘baby boomers’, and currently aged between 55 and 73 years of age, this generation is today shaping the way retirement accommodation is provided to older Australians.
Medical, economic and societal advances are allowing people to drastically outlive even relatively recent life expectancy estimates. If you are currently 65 years of age, your life expectancy when you were born was around 68 for males and 74 for females.
However, before you panic, there’s good news. Resulting from the aforementioned advances, as a 65-year-old, you are now, on average, expected to live another 19.5 years if you are a male, and 22.3 years if you are a female1.
As of 2017, there were 3.8 million Australians aged 65 or above, which comprised 15% of the total population. For reference, this figure was just 1.3 million (9%) in 1977 and is anticipated to be 8.8 million (22%) by 20572. This growth is expected to drive a large increase in retirement and aged care demand, and highlights the opportunity to both existing operators and new market entrants.
Defined as a residential dwelling and lifestyle complex, generally for independent and self-funded retirees over the age of 55, retirement living villages are made up of private homes, called Independent Living Units or ILU’s, and usually offer a range of shared facilities, such as community centres, pools, gyms and sports facilities.
According to the most recently available data, there were just over 170,000 ILUs in 2016, housing over 220,000 people. As baby boomers start to retire, it is anticipated that by 2036, the market will have approximately doubled in size1.
However, there is an increasing disparity between actual supply and this demand. The November 2018 PwC/Property Council Retirement Census, which saw contributions from 52 retirement living operators representing over 610 villages showed only 2,000 new ILUs are set to hit the market each year across the next four years. This current rate of supply is, on average, less than one quarter of what is required.
Unlike the retirement living sector, where additional healthcare and support is not the primary service driver, the aged care sector provides fulltime care to individuals requiring supervision and assistance.
As per the most recent statistics at June 2016, there were just under 200,000 residential aged care beds operational in Australia. Between 2009 and 2016, only 21,000 new places became operational, even though population growth amongst the 70-plus age cohort was 23%3.
It is estimated that by 2026, an additional 87,000 places will be required nationally in order to meet demand. This challenge will be heightened by any recommendations that may arise from the Aged Care Royal Commission.
Periodic reviews of the aged care industry have centred on whether the community can have confidence in the quality of the care being provided, and the effectiveness of the regulatory framework.
All previous reviews unanimously concluded that the aged care system is in need of reform, and it’s anticipated the current Royal Commission will do the same. The system is complex and fragmented, and history demonstrates reform has been exceedingly difficult to implement.
The table below highlights a number of key differences between retirement villages and residential aged care in Australia.
Almost three decades removed from communist rule, Poland has emerged as the growth engine of the Central European economy. From its inclusion in the EU, to its strong future growth forecast, there are numerous reasons that highlight Poland as a potential investment destination.
Poland’s long, often dark history has been wrought with hardship. The formal beginning of World War II was marked through the invasion of Poland on 1 September, 1939. By the end of the war, Poland had lost over 6 million people, more than 20% of its prewar population.
44 years of communism followed, prior to its collapse in 1989 after Poland’s first partially free and democratic elections since the end of the war. The early 1990s saw significant reforms that allowed the country to transition from its socialist-style planned economy into a market economy.
The two-and-a-half decades since has seen Gross Domestic Product (GDP) rise from USD$1,731 per capita in 1990 to USD$12,399 per capita in 2016. This was the fastest growth amongst all OECD nations. GDP per capita is still only just over a third (34.8%) of the European Union (EU) average, leaving strong upside for future growth to occur.
Poland joined the EU in 2004, along with nine other nations. Between 2007 and 2013, Poland received approximately €67 billion, making it the largest beneficiary of the European Cohesion Policy through this period. For the period of 2014 to 2020, this allocation has been increased to €86 billion.
However, Poland’s time in the EU hasn’t all been smooth sailing. Late last year, the European Commission triggered an unprecedented sanctions procedure against Poland, contending that the Polish government had effectively seized control of the judicial system.
While there are serious concerns about the threat to the independence of the judiciary, market commentators have considered it unlikely that this divide will escalate, with Hungary in particular vowing to vote down any further European Commission action.
Through the two years of Poland’s dispute with the EU, there have been no adverse effects to the economy. A surge in Polish domestic investment last quarter was a sign that the economy was unaffected, even as tensions heightened.
While it is unclear whether Poland will remain the largest net recipient of funds in the EU bloc’s post- 2020 budget, the Polish government is increasingly focusing on facilitating growth and development on its own terms.
One such example is the decision to not renew a contract that sources nearly two-thirds of Poland’s gas from Russia, thereby ending a reliance that has spanned 74 years. From 2022 onwards, Poland’s gas will be sourced from liquefied natural gas (37% – up on 2017’s 11%), its own production (20%), and a newly formed reliance on Norway (43%).
The ongoing resilience of the Polish economy has positioned it well for continued expansion. Throughout the 2008 Global Financial Crisis (GFC), Poland was the only EU member that did not fall into a recession. In 2009, while the GDP of the EU declined by 4.5%, Poland’s grew by 1.6%.
At the onset of the GFC, Poland’s public debt was below 50% of GDP, low in comparison to other European countries. This, in part, was the result of a clause written into the country’s 1997 constitution limiting government borrowing to 60% of GDP.
Coupled with a large and growing domestic economy, increasing domestic consumption, a business-friendly political class, very low private debt and a flexible currency, sound economic management saw Poland avoid recession.
A decade on from the GFC, the Polish economy is forecast to remain one of the fastest growing European economies throughout 2018. Growth is set to remain strong at 3.8%, down slightly on 4.4% in 2017. The key growth driver for the economy now is private consumption.
In Q4 2017, growth surged to its strongest level in six years, powered by a mix of consumer demand and an investment rebound. This is expected to continue in 2018 with investment growth set to reach 4.5%.
The labour market continues to tighten, with the unemployment rate sitting at 6.7% as of November 2017. This is largely the result of profound changes in the labour market. Poland’s population is ageing, meaning fewer workers in the labour force. Additionally, technological and structural change in the economy is changing the demand for workers. Both of these ‘push and pull’ factors have resulted in a decreasing unemployment rate.
A comprehensive series of education reforms Poland has pursued since the early 1990’s has also given rise to a highly-skilled and largely educated workforce. These reforms have been so successful that they are, in part, responsible for the rising employment and wage pressures that mean real income is growing faster than inflation.
Market demand, market cost, exchange rate, sovereign credit and trade credit risk ratings for Poland are all significantly lower than the respective emerging market averages. Additionally, Poland’s score of 62.0 on the Corruption Perception Index is far better than the emerging economies average of 38.0.
In 2017, Poland’s zloty surged 5.4% against the Euro, the second-best performance amongst emerging market peers.
Foreign investors see Poland as an attractive investment destination due to its economic stability, educated workforce, potential consumer base, as well as its strategic geographic position being surrounded by Germany, Slovakia and the Czech Republic.
As Poland continues on the growth path that was kick-started just over two decades ago, GDP and living standards have further to rise. Even as growth tightens slightly through 2018, the likelihood is that it will continue to be well above the EU average for the immediate future.
| Polish economy at a glance | |
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With Sydney and Melbourne commercial office property very much in demand, investors have been looking at Brisbane as a viable alternative investment option. In this article, we consider the opportunities and challenges of investing in commercial property in Brisbane.
Prices are at historic highs in Sydney and Melbourne, in part due to a strong influx of overseas capital. Yields on recent landmark CBD prime office transactions have been as low as 4.5%. As a result, some investors are looking at Brisbane due to it having a higher comparative yield. As ever, there are wider issues to consider rather than just a simple price based comparison.
While Brisbane is less than half (45%) of the size of the Sydney office market, it currently has much higher vacancy rates of 15.7% and incentives up to 40%. Sydney and Melbourne are hovering around 6.0% and 6.5% vacancy with incentives of 22% and 30% respectively.
Brisbane’s high vacancy rate can be primarily attributed to the end of the mining boom, and reduction in demand from mining and related services industries. This has resulted in weak tenant demand and an excess of office space.
Additionally, construction of new office space in the Brisbane CBD, particularly the completion of 1 William Street in October 2016, and the accompanying move by government employees into their dedicated 74,800 square metre (sqm) building, has created additional vacancy.
This has led to what can be described as a tenant’s market, with landlords having to compete heavily. Refurbished floor space, upgraded building services, and offering speculative fitouts are all options they have come to rely on. The latter has become increasingly popular amongst sub-1000 sqm tenants – who made up a majority of demand in 2017.
Ambitious tourism projects and upgrades due for completion in the next few years will all contribute to Brisbane’s future.
This will include the proposed Port of Brisbane cruise terminal which is due to open in 2020. The terminal will deliver a permanent docking space for the world’s largest cruise ships, which are currently unable to pass under the Gateway Bridge, and transform the city into a major cruise destination.
A widespread focus on upgrading Brisbane’s masterplanned trade and industry site, TradeCoast, will also boost business prospects. The parallel runway project at Brisbane Airport, the biggest aviation project in Australia, will see a 60% increase in annual flights upon completion in 2020. This is expected to deliver economic benefits of $5 billion per year by 2035.
Initiatives such as these are significantly increasing the region’s trade prospects by transforming Brisbane into a better connected global hub.
There are also a number of Brisbane city based infrastructure projects underway including Howard Smith Wharves and the $3 billion Queens Wharf project. Additional projects currently undergoing the approval process include the $2 billion Brisbane Live project and the $944 million Brisbane Metro transport system. These will all deliver thousands of jobs during construction and further opportunities for businesses once complete.
The Brisbane office market is currently near the bottom of the cycle (see Insight, Spring 2017). Despite the tourism and trade projects that are currently underway or in the wings, conditions are expected to remain tough over the coming two to three years.
The continued lacklustre demand from mining and other services industries has kept employment growth relatively weak. This means there is little prospect of a substantial improvement in demand to absorb the existing overhang of office space.
The saying goes, ‘build it and they will come’, but it takes time for substantial infrastructure, trade and tourism improvements to come to fruition.
Slow economic growth may mean only minor improvements in the commercial office market in the short term. Stronger growth over the longer term, alongside extensive infrastructure projects, should begin to push the vacancy rate trend downwards, with momentum gaining as time progresses. While Brisbane may not be ‘back’ just yet, all signs point to a promising future.
From humble beginnings as a colonial outpost, Singapore is fast emerging as a premiere hub for investment and wealth management. With government initiatives such as ‘Smart Nation’ reflecting its go-ahead attitude, global investors are increasingly looking to Singapore for its capital raising potential and connectivity to other Asian markets.
The latest international rankings demonstrate Singapore’s attractiveness as a regional headquarters for multinationals and other businesses, as well as its financial prowess.
The World Bank’s 2018 ‘Doing Business’ survey gave Singapore the second-highest rating among the 190 economies surveyed (Australia placed 14th by comparison).
Singapore also ranked highly in Z/Yen’s September 2017 ‘Global Financial Centres Index’ report, which placed the Lion City fourth globally, trailing only Hong Kong, New York and London among the 108 centres surveyed. Australia’s highest place was earned by Sydney, which ranked eighth.
Singapore was rated fourth-best for business environment, human capital, infrastructure and financial sector development, and third-best for its reputation. It also placed fourth-highest for banking, investment management and professional services.
By all accounts, Singapore’s success in the ratings demonstrates it has the capabilities and infrastructure to live up to its ever-increasing reputation as a major global financial centre.
Other data also highlights Singapore’s strengths as a wealth management hub. Knight Frank’s 2017 ’Wealth Report’ showed that Singapore boasted some 2,500 ultra-high net worth individuals (UHNWIs) with more than US$30 million in assets, a ratio of 4.5 UHNWIs for every 10,000 people.
The ‘Knight Frank City Wealth Index 2017’ ranked Singapore sixth overall, a placing it is expected to improve on based on investment, connectivity and future wealth estimates.
Total assets managed by the nation’s 660 locally-based fund managers grew by 7% to reach S$2.7 trillion (A$2.6 trillion) in 2016, the Monetary Authority of Singapore (MAS) said in its annual survey.
The MAS said it aimed to further “deepen its venture capital and private equity capabilities,” with a simplified regulatory framework for venture capital managers planned by the end of this year.
The financial sector currently accounts for around 13% of Singapore’s gross domestic product (GDP) and employs 200,000 people, but the authorities are seeing potential for further expansion.
In October 2017, the MAS announced plans aimed at strengthening its status as a leading financial hub in Asia. Under its road map, Singapore aims to create thousands of net new jobs in financial services and financial technology by 2020, aiming to achieve real growth in the sector of 4.3% a year, faster than the overall economy.
“With technology transforming the way financial services are produced, delivered, and consumed, it is critical that Singapore’s financial sector also transforms, to stay relevant and competitive,” the MAS said.
The central bank will collaborate with financial institutions to create common utilities for services including electronic payments, as well as developing solutions for inter-bank payments and trade finance. It also plans to expand cross-border cooperation with other fintech centres to make Singapore a base for foreign start-ups.
The MAS also eyes making the nation Asia’s top centre for capital raising, enterprise and infrastructure financing, along with fixed income and insurance. It is already ranked as the world’s third-largest foreign exchange centre.
Singapore’s capital raising capacity is well established with more than US$1 trillion raised through debt and equity issues in the decade through to 2015. According to the Singapore Exchange (SGX), listed companies raised 50% more funds through the secondary market than at initial public offering stage.
While the SGX had a market capitalisation of around US$640 billion at the end of 2016, just over half of Australia’s US$1.21 trillion, Singapore had a substantially greater proportion of foreign listings, with overseas companies making up around 37% compared to just 6% in Australia.
Singapore’s bourse states it is “the world’s most liquid offshore market for the benchmark equity indices of China, India, Japan and ASEAN…Headquartered in AAA-rated Singapore, SGX is globally recognised for its risk management and clearing capabilities.”
The Singapore Economic Development Board (EDB) also points to the nation’s status as a global transportation hub, with the world’s busiest container ports and airport linkages to 330 cities in 80 countries, along with the most extensive network of free trade agreements in Asia.
A nation of just 5.6 million, Singapore is taking advantage of its central location and building on its potential, with initiatives such as ‘Smart Nation’ seeking to foster technological improvements across a range of areas, from business productivity to health, transport and the environment.
“As an open economy, Singapore is impacted by global forces – geopolitical tensions, potential threat of anti-globalisation, and technology disruptions across many industries…But Singapore has strengths and achievements that place the country in a good position to succeed,” the government’s ‘Smart Nation’ initiative states.
For a republic founded a little over 50 years ago, Singapore today is well on its way to becoming a global financial powerhouse and one of the world’s premier investment and wealth management destinations.
Australia has experienced a period of strong demand for commercial property which has led to firming yields and high prices. There is still a substantial amount of investment capital looking for opportunity but the lack of availability of suitable stock has led to a reduced volume of transactions during 2016. Most property markets are, or are close to being, fully valued.
Going forward, rising bond rates and slow to moderate economic growth will have an impact on property markets. As growth stays below long term trends, and rates rise, prices will soften.
In this type of environment, leasing conditions will re-emerge as the primary driver of property outcomes. The key question is the extent to which growth in net effective rental income will offset the negative impact of rising interest rates on yields.
Cyclical factors will have a greater influence on prices in office property markets than that of rising interest rates on yields. The key is to invest in strong leasing markets with prospects for strong rental growth.
Sydney remains the pick of the markets. Demand has been improving moderately but with development virtually stopped and stock availability declining due to the Metro rail project and increased residential conversions, falling vacancy rates have meant strong rises in effective rents as leasing incentives reduce.
Vacancy rates are forecast to be less than 5% for the next three years, driving further rises in net effective rents and property prices. However, strong capital growth over the last year has reduced prospective returns. There are still opportunities for investment, and this is the phase where repositioning, major refurbishment or new developments can generate returns, but each opportunity needs to be examined on its own merits.
Last year, demand for office space was moderate in Melbourne. But, unlike Sydney, there has been plenty of development to satisfy requirements. In the short term, Melbourne will be hit by a weakening of demand as it absorbs the loss of the remaining car manufacturers and many associated suppliers, as well as a slowdown in residential construction.
Once that shock is absorbed, however, Melbourne will recover. It still retains many of the advantages—notably cheap land for residential, commercial and industrial property—which gave it a competitive advantage over Sydney in the provision of back-office services for national operations. Melbourne office demand will grow slightly more strongly than Sydney in the next decade but rent and property value growth will be inhibited by the plentiful availability of sites.
The Brisbane economy is still suffering from the continuing loss of demand from mining services. In the boom, 25% of Brisbane’s office space was occupied by companies servicing mining. Demand will be hit further when the inner Brisbane apartment market turns down.
Medium term, the prospects are good as Brisbane will benefit from strengthening activity in tourism, education services and agriculture. The short term will be difficult due to the existing oversupply of office space with little prospect of a substantial improvement in demand to absorb it. The vacancy rate is currently above 15% and will still be above 10% at the end of the decade.
The Perth economy is collapsing under the weight of the end of the mining boom. Investment has further to fall and the economy will stay weak for some time. During the boom, half of Perth office space was occupied by companies servicing mining. Much of that demand is now gone and the vacancies will take a decade to absorb. Rents and property values will fall a lot further.
Adelaide is suffering from weak demand and oversupplied office space. Although the worst may be over in terms of demand-side weakness, there is no prospect of sustained growth for a couple of years as the local economy deals with the closure of the GM Holden plant. The patrol boats, frigates and submarines projects will help but not until the end of the decade.
Canberra remains a difficult market. We are coming to the end of the period of substantial oversupply and A grade vacancies have tightened everywhere except at the airport, where there is still plenty of space. However, new construction is about to get under way in Civic, while some secondary properties lie vacant and are difficult to lease.
Regional and sub-regional centres
Retail property remains a highly popular investment. The volume of transactions reached record levels over the last few years and only a shortage of regional centres for sale has constrained the market. Some existing owners are instead now ploughing additional capital into centre refurbishment/expansion projects.
Retail yields have firmed aggressively over the last few years and are averaging around that of the last market peak. Yet retailing conditions are not nearly so strong. Growth has been slowing in trend terms since early 2014. While larger retailers and chains are outperforming smaller retailers, there have nonetheless been several high profile failures in the last few months.
The soft economy and weak household income growth will continue to constrain retail expenditure for the rest of this decade. Strong regional differences will emerge as former mining boom areas suffer, while those regions dependent on tourism, education services and other sectors that benefit from a lower Australian dollar enjoy stronger growth.
Shopping centre net operating incomes face further challenges from the poor performance of many anchor tenants and likely pressure on retailer profit margins (and hence their capacity to pay higher rent) from a lower Australian dollar. Changes in tenancy mix, a greater reliance on food and beverage retailers and service sector tenants, and costly upgrades will be required to protect against these threats.
Despite the challenges, centre incomes are, to a great extent, protected by anchor tenant rent and rents from non-expiring specialties on fixed annual escalations. Yields could remain low for some time but they will eventually follow bond rates up.
Large format retail
The large format retail property sector enjoyed another strong year in 2016 across a range of indicators. Strong demand from both consumers and retailers helped to push vacancy rates lower, in turn encouraging rental growth. Meanwhile, the investment market is buoyant.
However, the surge in consumer spending is now past and activity is at more moderate levels. This comes at a time when supply of centres is likely to surge after seven weak years. Reconfiguration of ex-Masters stores into centres could add up to 700,000 square metres of ‘new’ centre floor-space. Moreover, there are also 21 development sites to be accounted for.
Smaller existing centres and strip shopping locations are likely to be the main losers to the ‘new’ ex-Masters centres. Larger, dominant centres are unlikely to suffer as much. Bunnings is a clear winner in the whole process, with a major competitor gone and a great opportunity to pick up new sites easily.
Longer term, the outperformance of larger retailers and chains is expected to continue. Even so, it will be no match for the pace of growth in the 2000s.
On the investment side, demand remains strong. A record dollar value of transactions was achieved in 2015–16. The strength of investor demand has pushed down yields with further yield firming likely over the next 12 to 18 months. Rising bond rates, already putting upwards pressure on yields, will win out after that. Prime values are likely to stagnate rather than fall, but secondary centres could see a drop in prices.
Retail looks reasonably valued, with expected returns around current investment hurdle rates. Even so, retailing and retail property face major challenges. Large format retail has the best estimated return, reflecting its higher yield. Its low rent and expansion opportunities will help it to absorb the Masters properties and secure the longer term strength of the sector, but in the short term there are risks from the amount of reconfigured Masters floor-space likely to come on to the market.
The years of strong investment returns from industrial property are coming to an end, with the period of falling interest rates that had underwritten firming yields and strongly rising asset values now over.
Softer future yields will have a negative impact on valuations and also on construction feasibility, requiring higher pre-lease effective rents to underwrite the financial feasibility of development projects. The transition to higher rents will be relatively smooth, though the risk is that it may take a year or longer. If this occurs, falling vacancies would eventually deliver the necessary step-up in rents.
Industrial property development is running close to demand. Ready availability of land and development competition is keeping a lid on residual land prices, rents and property values, suppressing a cyclical upswing. That makes it less risky but slightly overvalued in relation to market hurdle rates.
This is an uncertain time for property investors. After a long period of falling interest rates driving firming yields, we are on the threshold of a phase of rising interest rates. The uncertainty is how quickly and by how much interest rates will rise. When they do, yields will soften but that will be offset by the impact of rising rents.
This suggests that yields may have a little further to firm before the impact of rising interest rates comes through. Meanwhile, continuing soft economic growth means continuing weak demand, in the transition to a post-mining boom economy. The result is marked differences in performance between industries and regions. There are no obvious standout investments, and each investment opportunity needs to be examined on its own merits.
The thrust of our January 2017 Economic and Property Outlook Report (Insight, Summer 2017) remains unchanged. We still see a phase of rising bond rates coming, and a corresponding softening of yields and asset prices. This will affect all asset markets, including property. The search for yield which has been prevalent over the last few years will transform into a search for income growth.
A focus on income growth means a continued focus on the Sydney office market. The strength of the Melbourne economy means that Melbourne offices can also be considered. There may also be some emerging regional tourism-related opportunities, but Brisbane, Perth and Adelaide will remain difficult environments for investors. Asset selection, as always, is of paramount importance.
Patchy gross domestic product (GDP) growth has confirmed our view of continued slow economic growth, a weak labour market, soft household income and retail sales and contained inflation. The structural shift from mining regions towards non-mining business-related services and regions particularly Sydney and Melbourne continues.
In Brisbane, the full impact of the fall in mining investment was delayed by a shift of resources to building inner city apartments. The impending residential apartment downturn will have a negative impact on the economy. Perth also remains weak, with further negative impact expected, as the remaining gas project finishes.
Housing interest rates have already risen through rising bank margins, particularly for investment and interest-only loans. That, together with tightening loan to valuation ratios (LVRs) and equity pre-commitment requirements on developers, will take the heat out of the high-rise residential boom. It is much harder to get a project away now. Hence the widespread recognition of the impending downturn in residential property and building markets. The negative shock of this downturn will mean continued soft overall economic growth.
Two further US Federal Reserve rate rises have also confirmed that we are embarking on a phase of rising cash and bond rates. This is particularly important for property investment markets through the relationship between bond rates and yields (see our article “Making sense of commercial property yields” in Insight, Winter 2017). In Australia, cash rates will remain low for some time. However, bond rates have already started to rise and will continue to do so in step with the US.
The Sydney office market has gone from strength to strength, with tightening leasing markets driving effective rents, firming yields and further property price growth. With strong business growth forecast to come, we believe that the Sydney office market has further to run, and even at substantially higher prices, on a five-year horizon Sydney commercial property is (broadly speaking) undervalued in relation to forecast expected returns. These conditions point to the possibility of a 1980s-style boom.
The strength of the Victorian and Melbourne economies has resulted in upgraded growth forecasts, with a flow-on to the office market. The loss of the motor vehicle industry and parts of the power industry have had an impact, but the economy and employment have been good over the last year, suggesting continued strong, albeit lower (than Sydney), growth in Melbourne.
For 20 years, Melbourne has had a comparative advantage over Sydney. Readily available and cheap land for residential, industrial and office developments has contained rents and property values, making it a more cost-effective place to situate back-office functions for national operations. That will continue to boost the demand for office space and we have increased our forecasts of demand, rent and price growth in the Melbourne market.
The Sydney and Melbourne office markets are entering a substantial development phase which will change the logic of office investment. Over the next ten years, 3.3 million square metres (sqm) of office space in Sydney and 2.3 million sqm in Melbourne will be built. Given that some of these developments will be refurbishments, net additions will be circa 2.4 million sqm in Sydney and 1.5 million sqm in Melbourne.
This development phase and net additions of this quantum will eventually have an impact, and five year forecast returns are much stronger than ten-year forecast returns for both Sydney and Melbourne. Repositioning and exit strategies will be needed to manage this cycle.
The Canberra office market should see strong prospective returns over both short and long terms. Canberra’s oversupply is easing, particularly for better quality space in Civic. However, the risk to be considered is that Canberra remains a dominant tenant, two-tiered market.
Despite strong recent sales, it is early for countercyclical investment in the Brisbane, Perth or Adelaide office markets. They face a period of weakness before they absorb the excess stock created during the boom.
Amongst other property classes, weak retail sales growth and the impending arrival of Amazon have heightened emerging concerns about the strength of retailers and centre returns for retail property. The property risks are heightened for weaker centres, but returns to strong centres should remain solid.
Industrial property is still recovering from the GFC. Availability of land is keeping development highly competitive. Recent strong returns have been driven by firming yields, allowing a reduction of effective rents and some rises in land values. Rising bond rates and softening yields will reverse this, squeezing development feasibilities and leaving returns solid but not spectacular.
The current hotels development boom is focused primarily on business travel in capital cities. The boom will oversupply business travel markets and the use of investment apartments as serviced apartments may potentially worsen matters further (think Airbnb). As recreational tourism continues to recover over the next decade however, there will be a need for more tourist hotels and services in regional markets.
During the recent period of falling interest rates, investment returns were boosted through the impact of lower rates on yields and asset prices. This happened, not just for property, but for all asset classes including infrastructure, equity markets and, of course, bonds. Rising interest rates will unwind a lot of these gains, causing a softening of yields and prices across the board.
It is now evident that we are embarking on a phase of rising interest rates worldwide, driven initially by US Federal Reserve cash rates, underpinning higher bond rates. Indeed, expectations of further cash rate rises will cause bond rates to rise by more than cash rates. It’s not yet clear how quickly or how far bond rates will rise but the recognition that they will do so will encourage investors to switch from the search for yield to a search for income growth.
Asset returns over the next five years will generally be lower than the last five. That includes infrastructure, equities and bonds, as well as property. Currently, weight of money is still driving firming pressure on yields, even in low growth markets. This will eventually change and investors should begin to look for rental growth to drive values and total returns. In that respect, the Sydney and Melbourne office markets are the obvious candidates.
2017’s outlook is a continuation of key themes from our 2016 report. The themes have been reinforced by recent developments including volatile GDP growth, softening retail sales growth, slowing employment growth and significantly higher bond rates.
Australia’s transition to a strong post-mining boom economy continues to be slow and difficult. The lower dollar will help but there will still be significant negative shocks, headwinds and structural change. The successful outcome of the transition will depend on our ability to rebuild non-mining industries, starting with the dollar-exposed export and import-competing industries and flowing on to services.
GDP growth has come off a high of 3.1% at the start of 2016 and will continue to soften to average around 2.5% over the next three years. Employment growth, which peaked at just under 3% in 2016, will average 1% over the next three years, with the unemployment rate drifting up to 6%.
The medium term is still a story of slow structural change with many bumps on the road. However, already we can see the first signs of this change in the strength of tourism and international student education services. But there’s a long way to go before business investment comes through as a driver to strengthen economic growth and complete the transition.
We are only two thirds of the way through an estimated three quarters decline in mining construction. The negative shock it brings to economic growth will continue for another two to three years.
Fortunately, this is being offset by strong increases in mining production and exports as investments move into the production stage. Headline GDP growth has been saved by strong export and production volumes.
In many mining regions however, weak demand, lower employment and reduced incomes make it feel like a recession. Take out mining production (which has little flow-on to the rest of the economy) and it is a recession in these regions.
The mining boom involved a structural change towards an economy servicing high levels of mining investment. There was a huge boost to activities and employment related to design and engineering, development and regulatory approvals, construction, equipment, implementation and installation of services, through to other support sectors such as administration, legal and accounting. The boost came in both the mining regions and the capital cities (mainly Perth and Brisbane) servicing the mines.
The resultant boom and high dollar destroyed the competitiveness of Australia’s dollar-exposed export and import-competing industries. Many went into recession. Some like the car manufacturing industry were lost forever.
The flip side of the coin is that in a post-mining boom economy, a lower dollar will boost export and import-competing industries. They will be the first industries to invest, stimulating services and broadening into non-mining industries.
The GFC didn’t come out of the blue. It followed a ‘financial engineering’ boom which drove significant global over-investment. All being well it was always going to take a decade to absorb the excess capacity created during that investment boom. This has dominated world economic outcomes since.
Weak world growth and fears of financial after-shocks drove central banks to print money and lower interest rates. As many central banks have discovered the hard way, cheap money doesn’t necessarily stimulate investment where it makes no sense to do so.
Nevertheless, broadly speaking the world economy is tentatively on a path to slow and gradual recovery.
Though these are all serious issues they will have relatively minor impacts on Australian outcomes. Australia’s current problems are primarily domestic.
Global growth, even tentative growth, brings back to the table the prospect of a long phase of rising interest rates. That comes after a long phase of falling interest rates, which has left interest rates worldwide at unsustainably low levels.
The US Federal Reserve is leading the world into the phase of rising interest rates. The Fed’s second interest rate rise last December has confirmed the process. What we don’t know is how quickly rates will rise and by how much. The consensus is that they will rise slowly but each rise will have a disproportionate impact given the low starting point.
In Australia, given the buffer between Australian and US rates, the RBA will keep cash rates low while the economy remains in transition, at least until US rates rise to Australian levels. The impact on bond rates however is more immediate. With little margin between Australian and US rates, we expect Australian bond rates to track US movements. This has already begun.
A narrowing in the differential between Australian and US interest rates will take pressure off the Australian dollar, but not by much. Further forecast falls in the differential with the US, as their interest rates rise, will take us from around $0.75 closer to $0.70 US. That should be enough to stimulate non-mining dollar-exposed industries.
Australia, too, is still recovering from the GFC.
While Australia didn’t experience an actual recession during the GFC, even now, close to a decade on, non-mining industries remain weak. Weak demand, weak profits and excess capacity have kept business in cost-cutting and cost containment mode as the primary way of increasing profits.
There are other cyclical factors in play:
Three years from now, the negative impact of falling mining investment will be over. At that point, non-mining business investment will have built momentum and be driving economic growth. Once that happens, growth will strengthen above 3%. The 2020s will be a stronger decade.
Meanwhile, we face three years of slow to moderate growth. That will keep inflation contained and allow the RBA to keep interest rates low. The level of growth will mask major differences between industries and regions. The ‘transition’ will continue to be a long and difficult process.