Deloitte Access Economics Investment Monitor
Falling confidence hits investment outlook
5 February 2020: As the past year has seen a marked rise in global uncertainty, businesses have responded by retaining profits rather than investing in new projects that will raise their future productive capacity.
Releasing the latest edition of Deloitte Access Economics’ quarterly Investment Monitor, Deloitte Access Economics partner and report lead author, Stephen Smith, said: “The outlook for Australian investment has been relatively strong compared to much of the developed world. But our outperformance has been narrowing of late, due to a marked fall in consumer and business confidence.
“The Reserve Bank of Australia’s explanation of its recent interest rate cuts is partly to blame. Rates have been cut for two reasons – first because growth and inflation are weak and, second, because the estimate of full employment has shifted from 5% to 4½%.
“This second reason has largely been ignored, and resulted in many consumers and businesses now believing the economy and its prospects are worse than they actually are. And that has weighed on investment prospects.
“That’s not to say there aren’t other factors, including some important sectoral ones. For example, policy uncertainty and a lack of coordination between federal and state approaches continues to limit new investment in electricity infrastructure.
“Overall, although private business investment is forecast to grow through the course of 2020, the pace of those gains is now set to be more modest than previously expected.”
Deloitte Access Economics is forecasting private business investment to return, however, to grow at a rate faster than overall real GDP from 2021.
“Current project investment is concentrated in New South Wales and Victoria, with the two states accounting for almost two-thirds of all definite project investment – the largest share since Investment Monitor began keeping records in March 2001,” Smith said.
Value of definite and planned projects by state
“More than one third of all planned work is located in New South Wales and Victoria, up from a low of less than 20% in late 2014,” Smith said. “This shift in activity has been driven by the end of construction at major gas developments in Australia’s north and west, as well as record infrastructure spending by governments.
“All up, more than $53 billion worth of project investment was added in the two states over 2019, with almost 60% of the gain due to the transport sector.
“Recent months have seen hurdle rates – the minimum annual return an investor demands before proceeding with a project – thrust into the national conversation. There have been calls to lower hurdle rates to ensure Australian businesses do not miss out on investment opportunities.
“While it’s true that the cost of debt has fallen over time for most borrowers, there are a number of reasons why businesses may be maintaining hurdle rates at previous levels.”
- The low interest rate environment has led to asset price inflation, both in Australia and across many developed countries. These higher asset prices have made inorganic investment more challenging
- Risk premiums – the difference between returns on investment and the risk-free rate of return (long-term government bonds) – have also risen. For some businesses this has offset the benefits flowing from lower borrowing costs
- Investment decisions are also made with consideration of returns over decades. As a result, the short-term movement in interest rates, or even interest rates that are lower for longer, may not be enough to justify new capital expenditure
- Interest rates are only one input in the investment decision. Other factors, such as long-term risks, may be of primary concern
- There are anecdotal reports that Australian banks are increasingly risk-averse following the Hayne Royal Commission. This has seen some businesses look to global markets for funding, meaning that short-term movements in Australian interest rates have limited impact on the investment decision.
“It remains unclear whether maintaining hurdle rates at previous levels is constraining investment in Australia,” Smith said.
“In Deloitte Access Economics’ view, if hurdle rates are having an impact on investment, their significance is small relative to other factors such as the more moderate pace of economic growth, tighter regulation in some sectors, and a reduced appetite for risk.”
Key figures for the December quarter include:
- The value of projects in the database rose by $13.6 billion to $766.0 billion – a 1.8% increase from the previous quarter
- The value of definite projects (those under construction or committed) increased by $1.8 billion over the quarter. Despite a number of projects being completed over the December quarter, definite activity has been supported by upward cost revisions and projects progressing through the planning stages
- The value of planned projects (those under consideration or possible) increased by $11.8 billion over the quarter. Planned work is now at its highest level since early-2013.
Change to database value by type of change
Deloitte Access Economics’ Investment Monitor is primarily a source of information for businesses and others about major engineering and commercial construction projects and their promoters. It is also a barometer of structural change in the Australian economy, and of the investment climate – now and in the future.