Walking the ‘narrow path’: Will Australia avoid a recession in 2023 as Jim Chalmers predicts?

The risk of Australia falling into a recession in 2023 is building with every interest rate hike, but Treasurer Jim Chalmers is optimistic families will muddle through these budget pressures without sliding backwards.

Dr Chalmers outlined this glass-half-full outlook on Wednesday, saying that while the economy will slow this year as rates rise to curb inflation, the forecasts still don’t predict two straight periods of negative growth.

“The expectation of the Treasury forecasters is higher interest rates, combined with difficult global conditions, will slow our economy considerably,” Dr Chalmers said.

“But they don’t expect at this point a recession here in Australia.”

The Treasurer was asked about the prospect of a downturn after the RBA unveiled its ninth interest rate hike in a row on Tuesday, taking its target cash rate to a decade high 3.35 per cent.

Home owners paying down a typical $500,000, 25-year mortgage are now paying about $900 more a month than they were in May, when the RBA first hiked rates from record lows.

It’s the fastest rate hike cycle on record, and there are already signs families are feeling the pressure, with retail consumption slowing markedly over the recent December quarter.

Walking the ‘narrow path’

Economists say the risk of recession is rising, particularly with the RBA already signalling further rate hikes are coming to reduce inflation.

But as things stand, Treasury expects economic growth of 2 per cent in 2023, while the RBA thinks the economy will expand by 1.4 per cent.

In other words, both scenarios see Australia avoiding a recession.

That doesn’t mean it will be easy though; RBA governor Philip Lowe has conceded the path to avoiding a downturn is “narrow”.

Pressure on government to lower cost of living

So, what does the path look like? And how might a recession occur?

Economists are mulling several possible risks, though experts TND has spoken to still see an economic downturn as an outside chance.

The first risk is a future where the RBA’s rate hikes end up doing their job too well; that is, the goal of forcing households to reduce spending – and therefore easing inflation – crashes family budgets much too quickly.

Indeed, APAC economist Callam Pickering said that consumer spending makes up the majority of the economy, and so a larger-than-expected belt tightening by families could cause national growth to go backwards.

This is particularly true of the post-pandemic period, where a recovery in consumer spending after lockdown has driven the economy forward in the absence of strong business investment.

“In recent months the risk of recession has increased,” Mr Pickering said.

“Rate hikes and high inflation are having a massive impact on the household sector.

“If the household sector deteriorates at a faster-than-anticipated pace then a recession could certainly be a distinct possibility.”

Economists are particularly focused on what has been described in the media as a “mortgage cliff” – with an estimated 800,000 loan facilities worth about $350 billion set to roll off COVID-era fixed rates in 2023.

It will put a massive strain on household budgets very quickly, and in a way Australia hasn’t experienced before – though some economists have suggested these fears are over-egged due to large mortgage buffers.

Shoppers key

Independent economist Nicki Hutley said the impact of almost a year of rising interest rates will be increasingly felt nationwide, with consumer spending set to slow dramatically throughout 2023.

“Throughout last year we still had very high levels of savings, but those have now been run down in a huge way,” Ms Hutley said.

“That suggests the next six months is going to get a lot uglier for consumers.”

Retail spending is always key to an economy, but particularly this year. Photo: Getty

Recent data has already begun to suggest a consumer slowdown is occurring, with one in four Australians cutting back on non-essential spending and retail sales declining over Christmas.

Forecasts from analysts at investment firm Jarden predict real (inflation adjusted) consumption growth will slow to less than 1 per cent in 2023.

Treasury has forecast household consumption growth at 1.25 per cent over the year to June 2024 – down from 6.5 per cent over 2022-23.

‘Nightmare scenario’

Mr Pickering said the other “nightmare scenario” that could push Australia towards a recession is one where rate hikes aren’t successful in pushing inflation back down to target fast enough.

That could create a reality where even higher rates are required, sparking another recession.

One of the big questions hanging over the RBA’s “narrow path” for Australia in 2023 is whether interest rate hikes will curb prices enough to stop an upwards shift in inflation expectations.

This is crucial because when inflation is too high for too long workers and businesses factor it into their wage and price decisions, making it harder for the RBA to reverse price rises.

“The RBA is desperate to avoid that scenario,” Mr Pickering said. “If inflation proves more persistent than anticipated then the RBA has to be more aggressive to bring it down.”

In his statement on Tuesday Dr Lowe said that inflation expectations remain “well anchored” for now, but he reiterated that the central bank is prepared to do what’s necessary to curb prices.

And under current RBA forecasts, inflation isn’t predicted to return to target until at least 2025.

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