Trends. - Westpac€¦ · The Westpac Regional Economic Report is a quarterly publication Editor:...

Trends.Westpac RegionalEconomic Report

Westpac Institutional Bank is a division of Westpac Banking Corporation ABN 33 007 457 141. Information current as at date above. This information has been prepared without taking account of your objectives, financial situation or needs. Because of this you should, before acting on this information, consider its appropriateness, having regard to your objectives, financial situation or needs. Westpac's financial services guide can be obtained by calling 132 032, visiting www.westpac.com.au or visiting any Westpac Branch. The information may contain material provided directly by third parties, and while such material is published with permission, Westpac accepts no responsibility for the accuracy or completeness of any such material. Except where contrary to law, Westpac intends by this notice to exclude liability for the information. The information is subject to change without notice and Westpac is under no obligation to update the information or correct any inaccuracy which may become apparent at a later date. Westpac Banking Corporation is registered in England as a branch (branch number BR000106) and is authorised and regulated by The Financial Services Authority. Westpac Europe Limited is a company registered in England (number 05660023) and is authorised and regulated by The Financial Services Authority. If you wish to be removed from our e-mail, fax or mailing list please send an e-mail to [email protected] or fax us on +61 2 8254 6934 or write to Westpac Economics at Level 2, 275 Kent Street, Sydney NSW 2000. Please state your full name, telephone/fax number and company details on all correspondence. © 2011 Westpac Banking Corporation. Past performance is not a reliable indicator of future performance. The forecasts given in this document are predictive in character. Whilst every effort has been taken to ensure that the assumptions on which the forecasts are based are reasonable, the forecasts may be affected by incorrect assumptions or by known or unknown risks and uncertainties. The ultimate outcomes may differ substantially from these forecasts.

Contents

The Westpac Regional Economic Report is a quarterly publication

Editor:Neil BurgessSenior Commodities Analyst, AgribusinessCommercial & AgribusinessLevel 2, 275 Kent Street, Sydney, NSW 2000Telephone: (61 2) 8253 7912email: [email protected]

Overview 3

Macro overviewAustralian dairy industry 4The Australian economy 6Australian interest rates 8Australian dollar 10

Commodity outlooksBeef and dairy 12Grains and oilseeds 14Sugar and cotton 16Sheep and wool 18

Summary forecast tablesFinancial forecasts – Australia 20Economic forecasts – Australia 21Forecasts – commodity prices 22Summary of world output 23

Past performance is not a reliable indicator of future performance. The forecasts given above are predictive in character. Whilst every effort has been taken to ensure that the assumptions on which the forecasts are based are reasonable, the forecasts may be affected by incorrect assumptions or by known or unknown risks and uncertainties. The results ultimately achieved may differ substantially from these forecasts.

3

Chart 1. Chart 2.

Volume Two 2011 Trends Report

Overview

The second quarter of the year has thankfully turned out to be significantly less eventful than the previous three months. The terrible weather events have subsided and more ‘normal’ conditions have returned. This has allowed farmers to focus on either rebuilding their operations, preparations for sowing or harvesting matured crops. The wet weather has provided the bonus of recharging water storage both on and off farm and this should provide some significant confidence heading into the second half of the year.

In the international grains markets, wheat, corn and soybeans are all having a volatile ride on the back of some very mixed weather conditions in the US, EU and FSU. Extremely dry conditions in the Southern US wheat states are significantly affecting wheat, particularly in Texas, Oklahoma and Kansas. This is resulting in a significant increase in the volume of abandoned wheat acres due to very poor crop condition. Dry weather is also a concern in the EU and FSU as memories are still fresh from last year’s wheat export ban from Russia.

In the corn and soybean markets, the tale is almost the complete opposite. Overly wet conditions in the US Corn Belt have significantly delayed planting. Many regions are now on the cusp of their planting windows closing without crops in the ground. The corn market is already tight and any further disruptions to supply will drive prices higher.

Closer to home, the cotton harvest is in full swing and a bumper crop is eagerly expected. While untimely rain has added some delays, this is not expected to have any real material impact. Yields are mixed on the dry land planted cotton, but on irrigated cotton plantings, yields are consistently good. The price of cotton remains strong and with very mixed weather conditions currently in play affecting the current US cotton season, there could be some increases in prices if cotton yields in the US are affected. With good water already available for the next Australian cotton season, this should result in continued confidence for Australian cotton growers.

Livestock production continues to be well supported by positive conditions. While drier conditions have arrived, timely rains keep pastures fresh. Demand has remained robust and despite some downward pressure on prices at the sale yards, prices still remain robust. Prices for cattle, sheep and lambs remain well above prices seen at the same time over the last two years.

In this quarter’s edition, the special feature article is on the dairy industry.

Dairy prices have ridden a rollercoaster of the last few years. Prior to the GFC, dairy prices had managed to secure some significant improvements in prices as demand had improved, the GFC quickly changed that and prices dramatically fell. Since then prices and demand have improved in the international market but the domestic liquid milk market remains shrouded in uncertainty as the ‘Supermarket milk war’ takes hold.

3

4

5

6

7

8

Dec-85 Nov-89 Nov-93 Nov-97 Nov-01 Nov-05 Nov-09

Farm GDP

Source: ABS, Westpac Economics

$bn/Qtr

Farm output

0

50

100

150

200

250

300

Feb-85 Feb-89 Feb-93 Feb-97 Feb-01 Feb-05 Feb-09

USD Index AUD Index

Source: MLA, Bloomberg, Westpac Economics

Index

Westpac commodity index price

4


Australian dairy industry

Australian dairy industry – What a year it has been so far!As the dairy community moves into the winter period which for many will mean a quieter time, it will provide a breathing space and a time to reflect on the year just past and what lies ahead in the coming months.

The start of 2011 proved to be a very difficult time for many within the industry. Heavy rains and prolonged flooding in Queensland, NSW and Victoria took its toll on the industry. Yet despite all the setbacks, production volumes over the year have remained consistent with the previous year. The consistent rainfall over the past 12 months has allowed pastures to retain quality and ensured that water storages have been recharged for the year ahead. Good availability of fodder for the winter period has meant that for many, cattle are in good condition heading into the winter months. While individual circumstances will always differ, on the whole, a large section of the dairy industry is entering the winter period with a large degree of confidence.

For the producers supplying the processing sector, farm gate prices have improved throughout the year as a buoyant international market has helped to drive prices. International demands particularly in the milk powders has remained well supported, this has been reflected in the international price particularly in Skim Milk Powder (SMP), with the latest auction results on the Global Dairy Trade platform indicating an average price of USD4,372 Mt/FAS for SMP. Closer to home, the supported global price is reflected in the domestic production of SMP, which is currently close to 21% ahead of production at the corresponding period in 2010.

While international prices are supported at this stage by current demand, the question is whether the international demand will remain and at what price point will price ration demand? Ignoring the anomaly of the steep increase in price prior to the GFC, then SMP prices are heading towards prices not seen since around October 2008. This is good news for the domestic producers as the increase in price helps to offset some of the loss due to the strength of the Australian dollar against a very weak US dollar. There are also a number of other factors at play that are worth considering. According to the Food and Agriculture Organisation (FAO), global dairy production is expected to grow around 2% for 2011, which is in line with average growth rates over the past 10 years. However, on the international trade side of the ledger, import demand is expected to grow by a brisk 5%, being fuelled by China, Indonesia, Korea, Singapore, Philippines, Egypt and Thailand. In the latest FAO figures, consumption of dairy in developing countries is approximately 67kg/year/capita, well below the 235kg/year/capita in the developed world. With the increasing wealth and improvement in diet of the developed world and the cultural shift in recognising that dairy has a beneficial contribution within a balanced diet, there is some exciting potential for growth in consumption and thus imports. With global inventories at low levels, the increase import demand is relying on increased production to keep pace. For those countries that can supply reliable quantities of high quality product, the prospects in both short to medium term are looking positive.

Within the domestic market and for those dairy producers who are involved in the fresh milk/drinking milk supply business, confidence is significantly tempered by the ongoing ‘milk wars’ between the supermarkets. The great fear for many producers is that as the price discounting continues over a significant period, this will pressure the processing sector and ultimately manifest into lower farm gate prices. As many producers are already on very thin margins in the range of a few cents per litre, any further reduction of farm gate prices has the possibility of making these producers unsustainable. What started off as a simple discount promotion by the supermarkets is now under investigation via the Senate Economics Reference Committee (SERC) Inquiry into the impacts of supermarket price decisions on the dairy industry*.

The initial concern was that when the promotion first commenced and private label milk was discounted to $1/litre, the supporting promotional material indicated that milk was down in price and was staying down. Over the long term, if prices were maintained at this level, there would ultimately be pressure placed on the processing sector to defend their branded products against cheaper private labels. This would result in price pressure being placed back to the farm gate supplies. What is unusual in the Australian market is that there is a very small number of drinking milk processors. National Foods and Parmalat are effectively the 2 largest processors and dominate the drinking milk processing market. These processors supply both their branded product to market but they also have the contracts to supply the supermarkets with their private label milk.

Time to take a breath.

Confidence has been restored.

Prices have been supported.

Developing countries offer great opportunities.

Drinking milk market pressures remain.

Drinking milk processing market remains restricted.


5

Chart 3. Chart 4.


Chart 1. Chart 2.

Australian dairy industry

One of the central issues the inquiry is trying to determine, is the effect on the dairy industry should prices for private label milk stay at discounted levels ad finitum, and whether such discounting of price could be deemed to be anti-competitive. However, submissions to the SERC Inquiry have clearly indicated that the discounting promotion was not an ad finitum exercise and that the promotion did have a finite life. The SERC Inquiry with the help of the ACCC have a number of issues to work through together with the recommendation made from the previous SERC report ‘Milking it for all its worth – competition and pricing in the Australian dairy industry’ – 2010. The final report is due towards the end of 2011, there is hope that a fair and balanced conclusion is reached that will benefit and provide transparency to all participants within the fresh/drinking milk supply chain.

*A full copy of this report is available at: www.aph.gov.au/senate/committee/economics_ctte/dairy_industry_09/report/b01.htm)

How long will prices stay down.

Australian production of milk powders

0

5,000

10,000

15,000

20,000

25,000

30,000

Jul-09 Oct-09 Jan-10 Apr-10 Jul-10 Oct-10 Jan-11 Apr-11

Whole Milk Powder

Skim Milk Powder

Source: Dairy Australia

+23.9

Metric Tonnes

+20.9%

0% 10% 20% 30% 40% 50% 60% 70% 80% 90%

100%

Domestic Manufacturing

Export

Cheese

Other

Coles : 4% Woolworths : 5% Other Supermarkets : 4% Other channels inc convenience: 12%

Drinking milk

SMP & Butter

WMP

Market shares in Australian milk production


Australian milk production & packaged milk sales

170.0

175.0

180.0

185.0

190.0

195.0

200.0

205.0

0

200

400

600

800

1,000

1,200

Jul-09 Oct-09 Jan-10 Apr-10 Jul-10 Oct-10 Jan-11 Apr-11

Milk Production (lhs) Packaged Milk Sales (rhs)


Million litres Million litres

1000

2000

3000

4000

5000

6000

1000

2000

3000

4000

5000

6000

Mar-05 Mar-06 Mar-07 Feb-08 Feb-09 Mar-10 Mar-11

USD/t USD/t

Oceania

Western Europe

Sources: USDA-FAS, Westpac Economics

Global powdered skim milk prices

6


The Australian economy

The Australian economy went backwards early in 2011 as severe weather events greatly disrupted activity. In early April we advised clients that the economy most likely contracted by –1.0% in Q1 and that proved to be accurate, with GDP reported to have declined by –1.2%.

The export sector was particularly hard hit by the January floods and cyclones in WA. Coal shipments plunged, down –27% as 85% of Qld’s 57 coal mines suffered production losses and metal ores shipments (dominated by iron ore) fell by almost –8%. The combined decline of $5.9bn sliced 1.8ppts off growth. Net exports, in total, subtracted 2.4ppts from Q1 growth. With the return to more normal conditions export shipments will recover from the sharp decline of –8.7% in Q1. However, the slow retreat of flood waters in Qld suggests the coal sector will take time to recover. The risk is that export volumes will remain below the Q4 2010 level until Q4 this year. This recovery path for exports points to above par, but not rapid, GDP growth in Q2. Our forecast is 1.3%, with net exports adding 0.2ppt.

Despite the negative headline for Q1, there were signs of strength. Domestic demand expanded by 1.3% in the quarter, a marked improvement from growth of 0.5% in Q3 and 0.6% in Q4. Is this a sign of things to come? Our analysis suggests not. We anticipate below trend demand growth of 0.8% for each of the next three quarters, followed by a 4.5% increase through 2012 as the mining investment boom gathers momentum. We anticipate that housing activity will be broadly flat, following a 4.6% burst in Q1, and that public demand growth, following a strong 1.0% rise in Q1, will be anaemic as fiscal stimulus is unwound.

Our central case view is that GDP growth, which was 2.7% in 20010, will average 1.6% in 2011 (downgraded from 2.0%), accelerating to 4.0% in 2012 (unchanged). On balance, the international backdrop is favourable for Australia, a major commodity exporter. World growth is forecast to be 4.2% in 2011 and 4.2% in 2012, moderating from 5.0% in 2011. That said, risks to this world view remain, particularly from Europe, where uncertainty over the prospects for resolution of the banking and sovereign debt problems have increased.

The terms of trade, up a further 6% in Q1, is now 9% above the high of 2008. Indeed, in Q2, the terms of trade is set to eclipse the peak of the 1950/51 wool boom. These are truly remarkable times. The mining sector is responding to these unique circumstances with plans for an investment boom on a scale that is unprecedented. In summary, we are forecasting business investment growth of 10% through 2011, accelerating to 15% through 2012.

Why are our growth forecasts not stronger, given the income boost from the higher terms of trade, rapid growth in the Asian region and activity generated by the mining investment boom? We stress that there are a number of headwinds: rising interest rates, the high Australian dollar, stretched housing affordability, household debt and fiscal consolidation. These factors suggest the consumer, housing construction and public investment will restrain growth.

The household sector is going through a period of structural change. Consumers, accounting for 54% of domestic demand, remain restrained in their spending decisions. Consumption increased by 0.6% in Q1, following rises of 0.7% in Q3 and 0.7% in Q4. We’re forecasting a sub–par 2.8% annual pace to be sustained throughout the remainder of 2011 and throughout 2012. While consumers had the ability to spend more freely, wage income growth was above par at 8.7% over the year, they decided to repair their balance sheet. Consumers, facing high debt levels, stretched housing affordability and recent declines in established house prices have rediscovered saving. The household saving rate increased from 7.9% at the end of 2009 to 9.7% at the end of 2010 and to 11.5% in Q1 (in part boosted by insurance payouts following the floods). Going forward, we anticipate the savings rate will be flat to higher.

Housing construction activity is expected to be flat from here, with some upside in renovation work offset by downside on new dwelling construction. Renovation work will be particularly strong in Qld during the remainder of 2011, boosted by post flood rebuilding effort. For new dwelling construction there are some positives, notably, a shortage of housing stock and solid population growth. However, rising interest rates are an ongoing headwind. Dwelling approvals for April were 5% down on the Q4 average, in the wake of variable mortgage rates rising by 0.4% in November to 7.8%.

Andrew Hanlan, Senior Economist

As expected, activity fell in Q1 ...

... as key industries were disrupted ...

... by the savage weather.

Mining remains in the grip of a boom ...

... with prices in the stratosphere.

Other sectors face major headwinds ...

... and households remain cautious ...

... in the face of structural change.


7

Chart 1. Chart 2.

Chart 3. Chart 4.

Chart 5. Chart 6.


The Australian economy

Australia: positive economic outlook

-3

0

3

6

9

-3

0

3

6

9

Mar-86 Mar-91 Mar-96 Mar-01 Mar-06 Mar-11

% ann % ann Domestic demand GDP

Sources: ABS, Westpac Economics

forecasts to

end '12

Disruption from severe weather evens

Terms of trade: fresh 60 year high

40

60

80

100

120

40

60

80

100

120

Mar-50 Mar-60 Mar-70 Mar-80 Mar-90 Mar-00 Mar-10

index index

Australia's terms of trade

Sources: ABS; Westpac Economics

+22% yr

71% above avg

Wool boom 1950/51

Australia: Q1 growth contributions

0.3 0.3 0.4

0.2

-2.4

-0.5

-1.2

-2.5

-2.0

-1.5

-1.0

-0.5

0.0

0.5

1.0

consumer housing business public net X inventories GDP

ppts cont' ppts cont' Sources: ABS, Westpac Economics

Exports, -8.7%

Infrastructure, +2.5% Equipment, +6.3%

Consumption +0.6%

Australia: the domestic growth mix

-2

0

2

4

6

-2

0

2

4

6

consumer housing business public demand

ppts cont'

2009 2010 2011f 2012f

ppts cont'


contributions to year end domestic demand growth

Established house prices

-20

-10

0

10

20

30

40

50

Mar-99 Mar-07

Sydney

Melbourne

% ann


-20

-10

0

10

20

30

40

50

Mar-99 Mar-07

Brisbane

Perth

% ann

Household savings rate

0

3

6

9

12

15

-6

-3

0

3

6

9

12

15

Mar-87 Mar-91 Mar-95 Mar-99 Mar-03 Mar-07 Mar-11

% income % income

Sources: ABS, Factset, Westpac Economics

8


Australian interest rates

At the June 7 meeting of the Reserve Bank’s board the decision was taken to keep rates on hold. We had expected that decision given the difficulties associated with raising rates only one week after the economy was reported to have contracted by 1.2% in the March quarter. However we expected that the Governor would retain the hawkish language which had been adopted in both the Statement on Monetary Policy, May 6, and the minutes of the May Board meeting, May 17. The wording in question, which had been used in past periods to lay the foundations for an imminent rate hike, were “if economic conditions continue to evolve as expected, higher interest rates were likely to be required at some point if inflation was to remain consistent with the medium term target”.

Instead, the Governor’s post June meeting Statement concluded with, “The current mildly restrictive stance of monetary policy remained appropriate”. This is the same language which was used following the meeting in May and implied to readers that no change was imminent. Adopting the much more hawkish language three days after the May meeting in the detailed SOMP led us to the reasonable conclusion that the Bank had adopted a strong tightening bias. With the June Statement no longer using the hawkish language we can only conclude that the strong tightening bias has been taken off the table.

The strange thing is that we were very surprised when the Bank suddenly adopted their hawkish tone on May 6 since we expected that the case for a rate hike had not really been made. We assessed that such a move would do considerable damage to the economy and a long period of healing would be required. Another rate hike would thus not occur until the June quarter 2012. We expect that the Bank itself, in suddenly adopting such strident language, was anticipating a series of moves with rates expected to rise by 75–100bps by mid next year.

The questions now are what was it that made the Bank suddenly adopt such a hawkish stance? And what made it change its mind just as suddenly? As usual, the inflation data is the likely explanation for the first sudden change. In the absence of another inflation report the reason for suddenly dropping the stance just as suddenly is not at all clear. The sharper than expected 1.2% contraction in the economy in the March quarter is justification, as we anticipated, to skip June but not a reason to drop the bias altogether. Commentary in the Governor’s Statement gave no real clue with a mild but not convincing allusion to risk in Europe and weaker investment plans outside mining.

We remain perplexed with this sudden about face but suspect that a bias still exists even if it is not as strong as in May. In that case, policy will be extremely sensitive to those data series which can spark a rate hike – inflation and the unemployment rate. Evidence that inflationary pressures are strong from the Inflation Report which prints on July 28 will still probably be enough to spark a hike at the August meeting but the print will need to be 0.8% or higher on the underlying rate. It is too early for us to be confident about our CPI forecast but we expect that 0.8% will be a stretch.

That does not mean that we should entirely abandon our view that there is one rate hike coming in 2011. Given that the strong tightening bias was adopted as a result of one “bad” inflation print and the staff went out of their way to forecast that the inflation target was likely to be missed in 2012 there will remain heightened sensitivity to inflation prints in 2011. The balance of risks, at this stage, still favours a hike in the second half although we expect that November is more likely than August.

Alternatively, a fall in the unemployment rate to 4.7% would likely be enough to justify a hike. The May employment report printed an increase in the unemployment rate from 4.86% to 4.93%. After creating 200k jobs in the second half of 2010 only 30k have been created in the first half of 2011. Demand growth implies jobs increases of 100k in each half so the weak profile in 2011 could represent a correction to the over hoarding of labour which occurred in 2010. That implies a “soft patch” and growth can be restored to that 100k pace in the second half of 2011 keeping the unemployment rate in the 4.8–5% range – not really making the case for a rate hike in the absence of inflation pressures.

In summary, there are unusually large risks to the rate outlook now that the RBA has done such a rapid about face. However, such is the Bank’s sensitivity to inflation prints,with the memory of the spectacular overshoot in Mining Boom 1 still fresh, it is prudent that our base case remains one hike in 2011. Before and during this period when the Bank had its fleeting but very strong tightening bias we have consistently argued that any rate hike is likely to be a “one off” with a follow up move being delayed by 9–12 months. Bill Evans, Chief Economist

Rates were on hold in June ...

... which was expected ...

... but the less hawkish language ...

... in the post meeting statement ...

... certainly was not.

The near term outlook ...

... is now lacking visibility.

We see November as the likeliest window.


9

Chart 1. Chart 2.

Chart 3. Chart 4.

Chart 5. Chart 6.


Australian interest rates

2

3

4

5

6

7

8

9

2

3

4

5

6

7

8

9

Aug-01 Aug-03 Aug-05 Aug-07 Aug-09 Aug-11

% %

Cash rate 3yr swap

Sources: RBA, Factset, Westpac Economics

weekly average

updated 9 June

RBA cash & 3yr swaps

-2

0

2

4

6

8

10

12

-2

0

2

4

6

8

10

12

Dec-91 Dec-94 Dec-97 Dec-00 Dec-03 Dec-06 Dec-09

% %

US 10 yr bond yield AU 10yr bond yield

Sources: Factset, Westpac Economics.

spread

updated 9 June

Australia – US 10 yr spread

CPI inflation: underlying pulse up in Q1

-0.5 0.0 0.5 1.0 1.5 2.0 2.5 3.0 3.5 4.0 4.5

-1 0 1 2 3 4 5 6 7 8 9

Mar-95 Mar-99 Mar-03 Mar-07 Mar-11

%qtr %yr avg RBA core CPI* %qtr (rhs) headline CPI %yr (lhs) avg RBA core CPI* %yr (lhs)

Sources: ABS, RBA, Westpac Economics

* average of s.a. trimmed mean & weighted median CPI ex GST effect in 2000/01

Unemployment has moved below 5%

-6

-4

-2

0

2

4

6

2 3 4 5 6 7 8 9

10 11 12

Mar-90 Mar-95 Mar-00 Mar-05 Mar-10

Unemployment rate (lhs)

Employment (rhs)

Sources: ABS, Westpac Economics % ann %

Jobs growth has moderated but is still robust

Unemployment rate, unchanged at 4.9% since Mar

Terms of trade at 60-year high

40

60

80

100

120

40

60

80

100

120


index index

terms of trade, goods & services

Sources: ABS; Westpac Economics

+22%yr Mar

77% above avg

Wool boom 1950/51

Credit: housing soft, business volatile

-16

-8

0

8

16

24

32

-16

-8

0

8

16

24

32

Mar-91 Mar-95 Mar-99 Mar-03 Mar-07 Mar-11

Total Housing Business

Sources: RBA, Westpac Economics

3 mth % chg, annl’sd 3 mth % chg, annl’sd

10


Australian dollar

Since our last report the Australian dollar has traded in a fairly narrow range of $1.04 to $1.07. As we go to press it is around the middle of that range.

Last month we held our ground, sticking with the view that the Aussie would finish June around $1 .05 despite exceeding $1.10 in late April/early May.

We noted in early May that “We are genuinely suspicious of the scale of the USD sell off. On our calculations most of the rise in the AUD from $1.05 to $1.09 was due to USD weakness”. Sentiment has turned in favour of the USD recently and the AUD has steadily lost ground.

Sentiment towards the USD is likely to improve further through July and August. The Federal Reserve will curtail its QE2 policy on June 30. That programme of purchasing US Treasury securities has seen the Fed acquiring, on average, around 80% of all new issuance since November. Because the majority of the proceeds of these purchases have been lodged back with the Federal Reserve by commercial banks in the form of excess reserves the process has not seen a major increase in the broad money supply. But it has increased the potential availability of credit, increased the supply of narrow money and lowered US yields, all of which point to a weaker currency than would otherwise have been the case. Accordingly in previous periods when QE has been initiated or curtailed it has had a meaningful impact on the USD (see chart 4). We do not expect the markets’ response this time to be any different (directionally at least) following the end of QE2, particularly if yields rise as we expect them to.

Readers will be aware that we have been forecasting QE3 since it was announced that QE2 would cease in June 2011. The market expectation at the time was that the momentum in the US economy would remain in an upswing thus allowing the Federal Reserve to withdraw its stimulus with a minimum of fuss. By contrast we argued that, just as we saw in 2010, once the effects of stimulus faded, momentum would ease again. This is now happening. So we face the prospect of the Fed tightening policy (withdrawing stimulus) just when momentum is fading. Another round of stimulus is required, but political inertia and a heavy dose of Macawberism (aka ‘something will turn up-ism’) is likely to delay it until next year. The delay will also give core inflation a chance to respond, with the usual lags, to the weakening in activity currently observed and projected. Given the current division of views on the FOMC, and the higher thresholds presumably required for another round of stimulus, a renewed concern about the potential for deflation will be the final pillar in the QE3 edifice.

In the mean time we expect the AUD to lose further altitude through the remainder of 2011 and into 2012, although speculation regarding QE3 will certainly provide periodic support for the AUD around the general downtrend.

Additional drivers of AUD in the remainder of 2011 will be a continuation of the fall in commodity prices that is currently underway and ongoing concerns about global risks. Supply shocks from the floods and, to a lesser extent cyclones in WA, temporarily lifted bulk prices but slowing global demand, particularly in China, will remain a weight on commodity prices. Our index of exchange traded commodity prices (<WCFI Go> on bloomberg) is down by 9% since its April peak. The WCFI does not include coal and iron ore, but spot prices for these key materials are also down from their peaks (both coking and steaming coal –14%; iron ore –5%).

The AUD is also likely to be dogged by ongoing uncertainty in the global financial markets. We assess that European financial uncertainties will only really be settled by loan restructuring (to ease the pressure from the debt overhang) and real devaluation (to allow the economies of the countries in crisis to restore economic prosperity). There is likely to be a very long, painful and circuitous route to this steady state and financial instability will be a certain side effect.

Domestic economic conditions are expected to remain solid with the unemployment rate holding in the 4.8% to 5.2% range. The Reserve Bank is still likely to use an inflation report as sufficient reason to raise rates once more in 2011 (prior) but no further action will be required until well into 2012. The period where rising interest rates provided the AUD with unique support has well and truly passed.

We retain our call that the AUD will be down near parity by year’s end and fall further into 2012.

Bill Evans, Chief Economist

The key factors in the outlook ...

... are the course of US policy ...

... and commodity prices.

The end of QE2 will hurt AUD ...

... but QE3 will boost it.

Local interest rates are past the point ...

... of maximum support.


11

Chart 1. Chart 2.

Chart 3. Chart 4.

Chart 5. Chart 6.


Australian dollar

AUD/USD & AUD/JPY

0.40

0.50

0.60

0.70

0.80

0.90

1.00

1.10

Jan-07 Dec-07 Dec-08 Nov-09 Nov-10 50

60

70

80

90

100

110 USD JPY

AUD/JPY (rhs)

AUD/USD (lhs)


AUD/EUR & AUD/NZD

1.00

1.10

1.20

1.30

1.40

Jan-07 Dec-07 Dec-08 Nov-09 Nov-10 0.40

0.50

0.60

0.70

0.80 NZD EUR

AUD/EUR (rhs)

AUD/NZD (lhs)


The Australian dollar & 2yr swap spreads

-2

-1

0

1

2

3

4

5

6

0.40

0.50

0.60

0.70

0.80

0.90

1.00

1.10

Jan 90 Jan 93 Jan 96 Jan 99 Jan 02 Jan 05 Jan 08 Jan 11

%pa USD

AUD/USD (lhs)

AU-US 2yr swap spread (rhs)

Sources: Bloomberg, Westpac

US monetary policy and risk assets

0.5

1.0

1.5

2.0

2.5

3.0

Mar-09 Sep-09 Mar-10 Sep-10 Mar-11 Aug-11 100

125

150

175

200

225 $trn Index

AUD/USD* (rhs) S&P500* (rhs) Federal Reserve: securities held outright (lhs)

Sources: Ecowin, Bloomberg

*S&P500 March 2009 low = 100

QE1 QE2

Commodity prices and Chinese housing

-30

-15

0

15

30

45

60

75

-60

-30

0

30

60

90

120

150

Jan-08 Jan-09 Jan-10 Jan-11 Jan-12 Jan-13

%yr %yr Iron ore (rhs) Base metals (rhs) Chinese housing sales (lhs)

Sources: Westpac, CEIC, Bloomberg

Australian dollar & US equities: volatility

5

10

15

20

25

30

35

40

45

50

0 10 20 30 40 50 60 70 80 90

100

Jan-07 Feb-08 Mar-09 Apr-10 May-11

vol vol

US equity volatility (lhs)

AUD/USD volatility (rhs)

Source: Bloomberg, RBA, Westpac

12


Beef and dairy

Beef: Supply and production tightens.With the dramatic weather conditions of the first quarter receding and more normalised conditions prevailing, supplies to the sale yards have increased. Over the quarter the general improvement in supply has seen an easing in the Eastern Young Cattle Indicator (EYCI) down from the heady days of over 420¢/kg/cwt. However, with the supply beginning to tighten once more and buyer demand sill remaining relatively robust the EYCI closed at 388.25¢/kg/cwt on June 1. Conditions have improved on the back of timely rains which has resulted in pasture, feed and water conditions being much better than in previous years. Re-stocker activity remains buoyant as every opportunity is taken to maximise the conditions available.

The export markets remain a mixed bag over the quarter. The strong start to the year has not been continued as markets take a breather against the back-drop of a strong AUD which has remained over parity against the USD for some considerable time. Export sales of ground beef have come under pressure not only from the high AUD but also much cooler weather conditions have affected the ‘grilling season’ in the US. This together with tougher economic conditions, have squeezed consumer spending. On a positive note, Australian exports to Korea have remained well supported. The start of the quarter saw exports at a shade over 26,000 tonnes swt with calendar year exports running 22% ahead of the corresponding period the previous year. Korea remains a strong market for Australian beef, which holds around a 50% market share of the imported beef market. Exports of chilled and frozen beef to Japan remain tentative on the back of their natural disasters, tight supplies and a high AUD. Shipments totalled 30,586 swt for May which is 0.6% down YoY.

The live export of cattle from Australia ended the first quarter well down in volume terms at 155,679 which were 40% lower than the corresponding quarter in 2010. The major destination for live cattle exports was once again Indonesia, accounting for 56.8% of volume. Turkey, Israel and China were the other major destinations accounting for 21.5%, 6.1% and 6% respectively.

Dairy: Good demand remains to support prices.After a very difficult first quarter, weather conditions have significantly improved. Production is back on track; pasture quality has been maintained through regular rainfall and as the industry moves towards its winter period the condition of milking herds remains positive. Good supplies of reasonably cheap fodder are available, however, grain prices remain well supported by international markets and this is being leveraged into the domestic prices. As the season progresses there is potential for feed grain prices to ease, which would be a welcome financial bonus in terms of production costs reduction.

Production across Australia for the second quarter of 2011 is in line with seasonal expectations and overall volumes are close to those from 2010. While NSW, SA and Queensland have suffered production losses, Victoria, Tasmania and WA have lifted production volumes to make up the shortfall.

The fresh milk market/supermarket price war continues to bubble along despite losing front page status. The Senate Inquiry has released its second interim report which outlines the discussions thus far. The final report and subsequent recommendation will be released later in the year. The supermarkets still insist that they are absorbing the cost of the price reduction themselves, but the true value of this ‘absorption’ is very difficult to determine. In the meantime a number of brands continue to suffer as substitution is taking place. If this situation continues long term, it is expected that pressure will continue to build on farm gate prices and farmers will ultimately wear the costs.

In the international markets, dairy prices have remained relatively robust. While price volatility has been seen and while not unexpected given the nature of the commodity markets, Oceania sourced production has performed well. Despite the high AUD when compared to its US counterpart export volumes and values have remained positive, which underpins global demand for Australian product. Strong international prices have helped to push Australian dairy exports up by 18.7% in value terms YoY and up 2.3% in volume terms YoY.

The European dairy production season is in full swing. However, dry conditions are starting to be felt across parts of Europe. While only early stages at present, some regions are seeing pastures beginning to deteriorate and without rain in the near future, production volumes may feel the effect.

Supply remains volatile.

Export markets remain difficult.

Live export remains subdued.

Overall conditions remain positive.

Production remains within expectations.

Issues remain in the drinking milk market.

Exports remain strong.

Weather issues surface.


13

Chart 1. Chart 2.

Chart 3. Chart 4.

Chart 5. Chart 6.


Beef and dairy

1.0

1.5

2.0

2.5

3.0

3.5

4.0

4.5

50

75

100

125

150

175

200

225

Jan-97 Jan-99 Jan-01 Jan-03 Jan-05 Jan-07 Jan-09 Jan-11

Index, AUD AUD/kg

Export prices *

Eastern Young Cattle Indicator (rhs)

Sources: Bloomberg, MLA, Factset, Westpac Economics

* average

Beef prices

0

40

80

120

160

200

0

40

80

120

160

200

Dec-83 Dec-88 Dec-93 Dec-98 Dec-03 Dec-08

index index

AUD index USD index

Sources: MLA, Westpac Economics

Average beef export prices index

350

400

450

500

550

600

650

700

750

800

1.0

1.5

2.0

2.5

3.0

3.5

4.0

4.5


AUDkg '000 number of beef slaughters (rhs) eastern young cattle indicator (lhs)

Sources: ABS, Bloomberg, Westpac Economics

Cattle slaughtering

200

250

300

350

400

450

8/01/2007 8/01/2008 8/01/2009 8/01/2010 8/01/2011

4 year average (337.36)

Source: MLA, Westpac Economics

AUD¢/kg/cwt

Eastern young cattle indicator

500

1500

2500

3500

4500

5500

6500

500

1500

2500

3500

4500

5500

6500

Jan-94 Jan-97 Jan-00 Jan-03 Jan-06 Jan-09

US$/t US$/t

skim milk powder butter

whole milk powder cheese

Sources: USDA, Westpac Economics

Global dairy prices

50

100

150

200

250

50

100

150

200

250

Jan-91 Jan-94 Jan-97 Jan-00 Jan-03 Jan-06 Jan-09

1997/98 = 100

dairy index USD (lhs)

dairy index AUD (rhs)

Sources: USDA-FAS, Westpac Economics

1997/98 = 100

Dairy prices remain volatile

14


Grains and oilseeds

Wheat: Weather issues are buildingThe second quarter of the year has witnessed significant volatility within the wheat markets. While the recent geo-political issues have taken a back seat all eyes are now looking skyward as increasingly dry weather conditions begin to take hold in the major wheat producing regions in the northern hemisphere.

The recent months have seen extreme drought conditions in large parts of the US southern wheat belt. Texas, Oklahoma and Kansas have been particularly hard hit with both extreme and exceptional drought conditions being recorded. This has resulted in an increase in the abandonment of acres as crops conditions deteriorate. This will place some downward pressure on overall yields for the winter wheat crop. It is not just the US wheat belt that is facing the difficulties of dry conditions, the UK, EU, Black Sea and FSU are also facing overly dry conditions. While some rain has fallen in the recent term, it is insufficient to ease the nervousness that is beginning to build.

The Russian wheat export ban that was introduced in August last year (due to drought conditions) still remains in place, although there was initial discussion that this may have been lifted once seasonal conditions improved. Despite dry conditions prevailing, the feeling is that the ban will be lifted allowing the Russian wheat sector to access export earnings once more.

On the domestic scene, the focus has shifted from production to marketing and sales. The large wheat harvest has benefited from consistently stronger prices which have been driven from the international markets. Further benefit could well be gained should the Russian export ban remain in place, but this is not something to be relied on. At the time of writing, export demand has remained buoyant and this continues to be reflected in supported prices. Fed1 wheat in many instances still commands above AUD$200/t delivered port and while H2 and APW1 have eased a little, they remain close to AUD$300/t delivered port. Western Australia still commands a premium with H1 currently in the AUD$350+/t delivered port.

Coarse grains & Oilseeds: High prices and robust demandCorn prices continue to remain well supported. Weather conditions in the US Corn Belt have added some considerable nerves to the market as overly wet conditions prevail. This has caused some significant delays in planting in a number of the corn states and a large number of acres remain bare. This is starting to add some nervousness into the market and as a result, corn prices are getting some good support. Market estimates indicate that around 13 million acres are in question, and with an already tight corn balance sheet any drop in production volumes will have some significant consequences. While there is still time for conditions to improve some regions are on the cusp of the planting window closing. If demand continues and production remains tight, prices will rise further to attempt to ration demand.

Soybean prices have been very well supported through strong export demand, particularly from China. However, as the quarter has progressed, the large South American harvest has now become available and this has taken some of the steam out of the price, but logistical issues out of Brazilian ports keep access to beans supply limited. A key issue to note is the events in the US and the wet conditions preventing the planting of corn. As soybeans have a later planting window, there may well be a substitution effect from corn to soybeans. If this eventuates, it will provide the market with a clear signal that there is the potential for increased soybean volumes and therefore place some downward pressure on prices. Everything it seems is trading on weather events.

The oilseeds market is facing similar issues to corn as poor weather conditions in Canada have seriously delayed the planting of canola. Add to this the dry conditions being experienced in the EU and we start to see some pressures building on the supply side of the equation.

Chinese imports of soybeans, canola and palm oil are expected to remain solid as dry conditions have been reported across a number of their growing regions. It is predicted that this will lead to a reduction in their production volumes and so should be translated into imports of raw material. This should be translated into well supported prices for Australian growers over the short term.

Weather remains an issue ...

... drought begins to build.

Will the Russian ban be lifted?

Export prices still well supported.

Corn balance sheet remains tight.

Soybeans may benefit from substitution planting.

Canola plantings delayed.

Support for prices remain.


15

Chart 1. Chart 2.

Chart 3. Chart 4.

Chart 5. Chart 6.


Grains and oilseeds

$/tonne

100

150

200

250

300

350

4/01/10 4/04/10 4/07/10 4/10/10 4/01/11 4/04/11

CBOT wheat futures – USD/tonne CBOT wheat futures – AUD/tonne

Source: Westpac Economics, Reuters

Wheat prices – volatility returns

0

1

2

3

4

5

6

7

8

70

110

150

190

230

270

Jun-03 Jun-04 Jun-05 Jun-06 Jun-07 Jun-08 Jun-09 Jun-10

US$/t US$/bl

barley (lhs) corn (rhs)

Sources: Factset, Westpac Economics

World corn and barley prices

10

15

20

25

30

35

40

200

400

600

800

1000

1983-84 1988-89 1993-94 1998-99 2003-04 2008-09 2013-14(f)

% US¢/bu stocks to use (rhs) price (lhs)

Sources: ABARE, Westpac Economics

Wheat dynamics – potential consolidation

50

100

150

200

250

300

350

400

450

50

100

150

200

250

300

350

400

450

Jan-89 Jan-94 Jan-99 Jan-04 Jan-09

US$/t AU$/t

CBOT wheat futures, US$ (lhs)

CBOT wheat futures, AU$ (rhs)

Sources: Factset, Bloomberg Westpac Economics,

Wheat prices

300

500

700

900

1100

1300

1500

1700

150

250

350

450

550

650

750

850

Feb-74 Feb-79 Feb-84 Feb-89 Feb-94 Feb-99 Feb-04 Feb-09

CAD$/t USc/bu

canola (lhs) soybean (rhs)


World canola & soybean prices

0

20

40

60

80

100

120

140

160

0

10

20

30

40

50

60

70

80

1-Feb-06 1-Feb-07 1-Feb-08 1-Feb-09 1-Feb-10 1-Feb-11

CBOT Soyoil (lhs) Nymex WTI (rhs)

Sources: Reuters

USc/lb US$/bl

Soyoil prices break range

16


Sugar and cotton

Sugar: Production troubles ease.After a significant period of increased prices and tightness of supply, sugar prices have eased significantly as larger production volumes from Brazil, Thailand and India have filtered through into the market. After hitting a high of USc35.31/lb on Jan 2, 2011, it has been gradually all down-hill in direction since then. While larger production volumes have been reported, there have been some supply issues. Infrastructure and port delays out of Brazil appear to raise their heads every year, and this sugar season is no different.

Strong production and exports from the major sugar producing nations has eased supply worries and while the technical and crude markets will add their influence to market pricing, the fundamental market remains well supplied.

Prices in the international market continue to remain volatile with both fundamental and technical issues driving the price. Over the last 3 months (Mar 1 – May 30) sugar prices have fluctuated close to 50%. A low on May 6, 2011 of USc20.47/lb was matched with a high of USc30.70/lb on Mar 8, 2011.

Finally, after a troubled first quarter with heavy rains and the destruction brought on by cyclone Yasi, the Australian sugar harvest is finally underway. Estimation at this early stage is for an Australian crop to be of similar size to that of the previous year, meaning cane volumes of around 27.5 million tonnes. This remains significantly down on the seasonal average of between 32 and 35 million tonnes. This season’s crop will result in a raw sugar crop of around 3.5 million tonnes, which is around 1 million tonnes lower than average. Despite the devastation from early in the year, the industry has done well to recover to the current levels.

The local sugar industry continues to go through consolidation. The latest object of affection is Tully Sugar as a number of investors both foreign and domestic cast their slide rule over one of the last independent grower-owned sugar mills in Australia.

Cotton: Prices and supply issues ease.The Australian cotton harvest is well and truly in full swing with completion expected around the end of June should favourable conditions persist. Some recent rain events have caused some delays to the harvest as additional time has been needed after the rains to ensure the crop is sufficiently dry. Crop quality is generally good across both dry land and irrigated plantings, although yields are quite variable as to be expected. While irrigated cotton has yielded well, dry land has been highly variable depending on location and rain fall received. Estimate yield ranges are between 0.75 – 1.5 bales per acre for dry land plantings.

Ginning capacity and efficiency will be tested for the first time in a number of years. Increased yields from the traditional cotton producing regions and ‘opportunistic’ regions such as southern NSW will push infrastructure to the limits. Ginning capacity in Southern NSW is limited and with the larger harvest, many growers will have little option but to send cotton northwards to the gins. This will add some significant unwanted addition to their production costs. While calls are being made to establish new infrastructure to the south of the state, especially after this current season’s production, it is difficult to see where this investment will come from on the back of one good season’s production.

Over the past quarter, the cotton price has continued to display price volatility; however, prices overall have significantly eased from the heady numbers seen earlier in the year. Prices peaked at USc215.15/lb on Mar 04, 2011 but have subsequently eased to a low of USc144.30/lb on May 12, 2011. At the time of writing, cotton prices have improved to USc152.39/lb.

The story for cotton over the last quarter has been built around three significant issues. Firstly, at the beginning of the quarter prices were driven by tightness in short term supply together with strong demand coming from China. As the quarter progressed and planting intentions became a reality, together with higher prices rationing demand, prices began to ease. The short term tight supplies would be eased by the bumper Australian crop becoming available. However, the final part of the story comes in the form of unseasonal weather conditions across the cotton belt of the US. There is a mixture of extreme drought conditions along the southern half of the cotton belt and extreme wet conditions around Mississippi river valley regions. These poor conditions have sparked sufficient nervousness back into the market and volatility has returned.

Increased production volumes ease prices.

Supply worries ease.

Volatility remains.

Australian harvest begins.

Industry consolidation continues.

Australian harvest stops and starts.

Infrastructure capacity to be tested.

Prices volatility remains.

Uncertain weather conditions persist.


17

Chart 1. Chart 2.

Chart 3. Chart 4.

Chart 5. Chart 6.


0

30

60

90

120

150

180

0

30

60

90

120

150

180

1974 1979 1984 1989 1994 1999 2004 2009

Mt Mt

stocks production consumption


ABARE est. & f'cst

Global sugar market - tight in the short term

0

30

60

90

120

150

0

20

40

60

80

Aug-83 Aug-89 Aug-95 Aug-01 Aug-07

US$/bl US¢/lb

spot sugar (lhs) spot crude oil (rhs)


Sugar prices ease

Sugar and cotton

5

15

25

35

45

55

65

30

40

50

60

70

80

90

100

110

1980-81 1985-86 1990-91 1995-96 2000-01 2005-06 2010-11

% US¢/lb stocks to consumption ratio (rhs) Ave cotton price (lhs) Forecast (lhs)


Cotton prices: rebound & supported

0 20 40 60 80 100 120 140 160 180 200

0 20 40 60 80

100 120 140 160 180 200


AU¢/lb US¢/lb

US¢ (lhs) AU¢ (rhs)

Sources: Bloomberg, Westpac Economics

AU¢ period avg

Cotton prices spike & re-trace

200

400

600

800

1 000

1 200

2005-06 2006-07 2007-08 2008-09 2009-10 2010-11(f)

2011-12(f)

Source: Westpac Economics, ABARE

‘000’ Tonnes

Australian cotton production to surge

10

20

30

40

50

60

70

80

90

0

5

10

15

20

25

30

35

1972-73 1980-81 1988-89 1996-97 2004-05

Mt Us¢/lb

closing stocks (rhs) world price (lhs) Est, f'csts

Sources: ABARE, Westpac Economics, ISO

World sugar prices & stocks

18


Sheep and wool

Sheep & Wool: tight supplies drive prices higher.The market for both Australian sheep and wool continues to be very well supported from the international markets despite an Australian dollar that remains above the parity level against its US counterpart. Continued tightness of supply and the inability to introduce immediate additional supplies due to production timeframes is ensuring that current supply/demand imbalance is underpinning prices.

The export of live sheep through 2011 has continued at a much reduced level than seen at the corresponding time the previous year. Shipments are currently around 27.5% lower in volume terms at 556,660 head. Tighter supplies at the sale yards have certainly not helped matters. In value terms, shipments are worth AUD66.89 million, which is just 2.75% behind the corresponding period in 2010. While volume numbers are down, the price per head is clearly well ahead on previous years.

As the year has progressed, the sourcing of sheep for shipment has started to swing back to the traditional markets. WA now accounts for close to 70% of supply with the remaining bulk originating from Victoria. As for destination, the major Middle Eastern markets of Bahrain, Kuwait, Qatar and Saudi Arabia accounted for almost 71% of volume. A large shipment of 65,000 animals for Turkey has accounted for 11.7% of total shipment volumes.

On the wool front, price and demand has seen some volatility over the last quarter. After a strong run where price was continually pushed upwards, a correction finally arrived. However, this correction was relatively short lived as buyers returned to the markets and the price has once again returned to strong levels. The Eastern Market Indicator (EMI) does not appear to be affected by the strength in the Australian dollar as demand pushed the price through 1400 ¢/kg.

Lamb & Mutton: Confidence keeps prices supported.This quarter has witnessed some significant price volatility at the sale yards. There have been a number of influencing factors behind this, but colder weather, reduced quality, Easter holidays and subdued demand from processors have all added to together to push prices lower.

Reduced demand was mainly on the back of processors ensuring that their forward supplies had already been secured. With numbers already confirmed this took some pressure from the sale yards and as a result prices eased. The knock on effect was that as prices eased and conditions in the paddocks remained acceptable, there was no need to exit prime stock, thus secondary and lighter lines were yarded. This only served to compound the issue and prices dropped through 550¢/kg (cwt) for trade lambs. Demand has subsequently returned to the sale yards from both processors and re-stockers and with tight supplies evident, this has seen resurgence in price back through 600¢/kg (cwt).

With winter rapidly approaching, the market will be looking to the supply numbers. As the cooler weather commences this will start to affect pasture growth and quality and this together with the recent strong prices may well entice greater numbers to the sale yards. If this is the case there will be sufficient supply available and this will start to pressure and push prices downwards.

In the international markets, one of Australia’s major competitors is experiencing supply issues of their own. New Zealand lamb production is down 19% YoY as slaughter numbers suffer due to lower lamb numbers. Extreme conditions during the lambing season the previous year had a devastating effect on survival rates. It has been estimated that over 1 million lambs were lost due to these conditions. With fewer lambs able to be directed to the export markets, there may well be an opportunity here for Australian lamb to fill some of the void, as international demand for lamb continues to remain robust.

Mutton prices continue to remain very well supported. Supply to market remains relatively constant and with good demand prices have not been subdued and remain around 450¢/kg (cwt). These prices remain well ahead of the corresponding period in 2010 prices and well ahead of the 5 year average.

Market strength remains.

Export value remains supported.

W.A. provides supplies.

Wool prices gather momentum again.

Volatility remains.

Processors secure forward supplies.

Winter conditions are approaching.

International supply affected.

Mutton still in demand.


19

Chart 1. Chart 2.

Chart 3. Chart 4.

Chart 5. Chart 6.


Sheep and wool

0

25

50

75

100

125

150

175

200

0

25

50

75

100

125

150

175

200

1986 1991 1996 2001 2006 2011

mn Sources: ABARE, Westpac Economics

mn

forecast

Australia’s flock gradually rebuilds

0

1

2

3

4

5

6

7

8

0

50

100

150

200

250

300

350

400

450

1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010

AUD value (LHS) Number of head (RHS)

AUD Millions Million head

(f)

Live sheep exports – value remain robust

0 0.5

1 1.5

2 2.5

3 3.5

4 4.5

5

2000 2001 2002 2003 2004 2005 206 2007 2008 2009 2010 2011

W.A Victoria S.A

Million head Source: Livecorp, Westpac Economics

To date

Live sheep exports – WA leads the way

0

100

200

300

400

500

600

700


Lamb market price

Sources: ABS, MLA, Westpac Economics

Lamb prices remain elevated

0

200

400

600

800

1000

400

600

800

1000

1200

1400

1600

1980 1985 1990 1995 2000 2005 2010

kt A¢/kg

stocks (rhs) eastern market indicator (lhs)


ABARE forecasts

Wool stocks remain supportive of prices

0

200

400

600

800

1000

1200

1400

1600

1800

0

200

400

600

800

1000

1200

1400

1600

1800


A¢/kg A¢/kg

A¢/kg avg price

Sources: Bloomberg, Westpac Economics

Wool prices above trend

20



Financial forecasts – Australia

Interest rate forecasts

Latest (10 Jun) Sep 11 Dec 11 Mar 12 Jun 12 Sep 12

Cash 4.75 4.75 5.00 5.00 5.00 5.25

Market implied* na 4.78 4.82 4.84 4.86 4.87

90 Day Bill 4.98 5.00 5.25 5.25 5.25 5.50

3 Year Swap 5.14 5.20 5.50 5.60 5.75 5.80

3 Year Bond 4.83 4.80 5.10 5.20 5.40 5.50

10 Year Bond 5.20 5.20 5.40 5.50 5.60 5.70

10 Year Spread to US (bps) 221 210 220 210 210 210* Market implied rate is the anticipated target rate in the OIS market. Sources: Bloomberg, Westpac Strategy.

Currency forecasts

Latest (10 Jun) Sep 11 Dec 11 Mar 12 Jun 12 Sep 12

AUD vs

AUD index* 100 99.6 97.6 95.8 94.2 94.7

USD 1.0586 1.04 1.01 0.99 0.97 0.99

USD forward^ na 1.05 1.04 1.02 1.01 0.99

JPY 84.78 87 86 86 86 86

EUR 0.7317 0.74 0.74 0.72 0.72 0.73

NZD 1.2841 1.31 1.31 1.30 1.29 1.29

CAD 1.0330 1.03 1.01 1.02 1.01 1.01

GBP 0.6496 0.64 0.63 0.61 0.58 0.57

CHF 0.8918 0.93 0.96 0.97 1.01 1.02

DKK 5.4569 5.52 5.49 5.36 5.39 5.42

SEK 6.6419 6.59 6.52 6.33 6.37 6.40

NOK 5.7712 5.74 5.89 5.65 5.65 5.67

ZAR 7.1505 7.06 7.08 7.10 7.11 7.10

SGD 1.3038 1.27 1.23 1.19 1.16 1.18

HKD 8.2386 8.10 7.86 7.67 7.52 7.67

PHP 45.88 44.57 43.02 41.75 40.66 41.18

THB 32.19 31.30 30.22 29.34 28.58 28.83

MYR 3.2001 3.11 3.01 2.92 2.85 2.88

CNY 6.8589 6.70 6.47 6.29 6.13 6.19

IDR 9022 8832 8541 8302 8098 8193

TWD 30.46 29.70 28.72 27.92 27.23 27.55

KRW 1146 1111 1071 1038 1010 1016

INR 47.34 46.00 44.41 43.09 41.97 42.31

*Nominal trade weighted index, with latest data compiling the base. Weights from Reserve Bank of Australia. A reading above (below) 100 indicates a rise (fall) in the AUD. ^Approximate mar-ket forward price for AUD/USD, not a forecast. Sources: Bloomberg, Westpac Economics.


21


Economic forecasts – Australia

Activity*

2010 2011 2012 Calendar years

% change Q4 Q1 Q2f Q3f Q4f Q1f Q2f 2009 2010 2011f 2012f

Private consumption 0.7 0.6 0.8 0.6 0.6 0.8 0.6 1.0 2.8 2.9 2.8

Dwelling investment –0.5 4.6 –1.5 1.5 0.1 –0.1 –0.1 –4.2 4.0 4.0 0.0

Business investment* 1.4 2.8 2.2 2.4 2.7 3.5 3.5 –5.2 –0.8 8.5 13.5

Private demand * 0.6 1.3 0.9 1.0 1.0 1.3 1.2 –0.7 2.0 3.9 4.8

Public demand * 0.7 1.0 0.5 0.2 0.2 0.4 0.5 1.9 9.2 2.0 1.5

Final demand 0.6 1.3 0.8 0.8 0.8 1.1 1.0 –0.1 3.6 3.4 4.0

Stock contribution 1.0 –0.5 0.4 –0.4 0.0 0.0 0.0 –0.4 0.4 0.1 –0.1

GNE 1.6 0.8 1.2 0.4 0.8 1.0 1.0 –0.7 4.1 3.5 3.9

Exports 2.5 –8.7 3.7 4.8 3.5 2.1 2.1 2.8 5.3 –1.0 11.5

Imports 3.8 1.3 2.4 1.8 2.2 2.6 2.7 –9.0 13.3 8.5 10.2

Net exports contribution –0.3 –2.4 0.2 0.6 0.3 –0.2 –0.2 2.8 –1.6 –2.3 0.1

GDP (1) 0.8 –1.2 1.3 1.0 1.1 0.9 0.8 1.3 2.7 1.6 4.0

annual chg 2.7 1.0 1.0 2.0 2.3 4.4 3.9 – – – –

Other macroeconomic variables

2010 2011 2012 Calendar years

% change Q4 Q1 Q2f Q3f Q4f Q1f Q2f 2009 2010 2011f 2012f

Employment (1) 0.9 0.4 0.1 0.5 0.8 0.3 0.3 0.7 2.7 2.2 1.7

annual chg 3.4 2.9 2.2 1.9 1.7 1.7 1.9 – – – –

Unemployment rate % (1) 5.2 5.0 4.9 4.8 4.7 4.8 4.9 5.6 5.2 4.9 5.0

Wages (WPI) (sa) (2) 1.0 0.8 1.1 0.9 1.1 1.0 1.3 – – – –

annual chg 3.9 3.8 4.1 3.9 4.0 4.2 4.4 3.6 3.3 3.9 4.2

CPI Headline (2) 0.4 1.6 0.7 0.3 0.6 0.6 0.7 – – – –

annual chg 2.7 3.3 3.4 3.0 3.2 2.3 2.2 2.1 2.7 3.2 2.6

CPI average RBA core 0.4 0.9 0.7 0.6 0.7 0.8 0.8 – – – –

annual chg 2.2 2.3 2.5 2.6 2.9 2.9 2.9 3.3 2.2 2.9 3.0

Current account AUDbn –8.1 –10.4 –6.0 –7.0 –8.5 –12.0 –12.0 –52.9 –34.6 –32.0 –48.0

% of GDP –2.3 –3.0 –1.7 –1.9 –2.3 –3.3 –3.2 –4.2 –2.6 –2.2 –3.2

Terms of trade annual chg (1) 22.8 22.4 17.6 10.3 5.3 –4.4 –9.7 –10.0 16.4 13.6 –5.3Calendar year changes are (1) period average for GDP, employment and unemployment, terms of trade (2) through the year for inflation and wages. * GDP & component forecasts are reviewed following the release of quarterly national accounts.** Business investment and government spending adjusted to exclude the effect of private sector purchases of public sector assets.

Macroeconomic variables – recent history

2010 2011

Monthly data Jul Aug Sep Oct Nov Dec Jan Feb Mar Apr May

Employment ’000 26.4 29.6 43.9 33.1 52.5 –1.1 14.1 –9.9 48.4 –29.4 7.8

Unemployment rate % 5.3 5.1 5.1 5.4 5.2 4.9 5.0 5.0 4.9 4.9 4.9

Westpac-MI Consumer Sentiment 113.1 119.2 113.2 117.0 110.7 111.0 104.6 106.6 104.1 105.3 103.9

Retail Trade %mth 0.7 0.2 0.1 –0.8 0.3 0.1 0.2 1.0 –0.3 1.1 –

Dwelling approvals %mth 0.5 2.2 –9.2 11.4 –5.1 7.6 –11.1 –5.6 8.6 –1.2 –

Private sector Credit %ann 3.3 3.2 3.2 3.3 3.6 3.3 3.3 3.4 3.5 3.3 –

Trade balance AUDbn 1.60 2.65 2.20 2.48 2.07 1.84 1.44 –0.30 1.69 1.60 –

22



Forecasts – commodity prices

latest***latest*** Sep-11Sep-11 Dec-11Dec-11 Mar-12Mar-12 Jun-12Jun-12 Sep-12Sep-12 Dec-12Dec-12 Mar-13Mar-13all commodities index# 377 381 364 334 316 324 358 380

bulk commodities index# 570 600 600 554 523 515 525 586

iron ore (USD/t)* 146 135 135 132 125 120 125 145

coal (USD/t)* 159 187 187 165 156 156 157 170

WCFI**# 329 320 289 263 248 270 329 329

crude oil (USD/bbl) NYMEX 101 105 97 87 82 90 110 110

gold (USD/oz) 1,544 1,560 1,489 1,381 1,302 1,378 1,562 1,562

base metals index# 242 242 221 192 178 197 251 251

copper (USD/t) 9,076 9,020 8,200 7,033 6,476 7,234 9,000 9,000

aluminium (USD/t) 2,654 2,670 2,436 2,147 2,005 2,201 2,763 2,763

nickel (USD/t) 22,860 22,900 20,922 18,095 16,731 18,592 25,000 25,000

zinc (USD/t) 2,270 2,250 2,100 1,884 1,775 1,940 2,457 2,457

lead (USD/t) 2,569 2,550 2,295 1,936 1,767 1,957 2,435 2,435

rural commodities index# 182 160 135 130 126 136 162 162

wool AU¢/kg 1,464 1,300 1,000 980 980 1,040 1,212 1,224

wheat US¢/bu 790 700 650 650 650 704 837 837

sugar US¢/lb 24 20 15 16 16 17 21 21

cotton US¢/lb 141 135 120 100 75 81 97 97

levels % change

annual 2009 2010 2011f 2012f 2009 2010 2011f 2012f

all commodities index# 225 299 372 333 -21 33 24 -10

bulk commodities index# 334 452 578 529 -20 35 28 -8

iron ore (USD/t)* 65 112 140 126 -19 72 25 -11

coal (USD/t)* 114 130 170 158 -20 14 31 -7

ave coking price (USD/t) 149 171 214 194 -22 15 25 -9

ave thermal price (USD/t) 83 86 115 106 -9 3 34 -7

iron ore lump contracts (US¢ dltu) 112 226 295 273 -44 102 30 -7

iron ore fines contracts (US¢ dltu) 97 195 258 239 -33 101 32 -7

coal coking contracts (US$/t) 129 209 278 238 -58 62 33 -15

coal thermal contracts (US$/t) 70 98 131 105 -44 40 34 -20

WCFI**# 201 260 316 278 -24 29 21 -12

crude oil (USD/bbl) NYMEX 63 80 101 92 -37 27 25 -8

gold (USD/oz) 974 1,227 1,482 1,406 11 26 21 -5

base metals index# 154 213 242 205 -27 38 14 -15

copper (USD/t) 5,168 7,564 9,028 7,436 -25 46 19 -18

aluminium (USD/t) 1,687 2,190 2,562 2,279 -35 30 17 -11

nickel (USD/t) 14,644 21,871 23,964 19,604 -31 49 10 -18

zinc (USD/t) 1,671 2,178 2,260 2,014 -12 30 4 -11

lead (USD/t) 1,725 2,164 2,498 2,024 -18 25 15 -19

rural commodities index# 103 125 162 138 -20 21 30 -15

# Chain weighted index: weights are Australian export shares. * Average Australian export prices fob – Source ABS 5432.0 Merchandise Trade Exports. ** WCFI – Westpac commodities futures index. *** Weekly averages except for bulks. Sources for all tables: Westpac Economics, Bloomberg, ABS.

Commodity futures contracts

Future contracts latest*** 3rd 6th 9th 12th 18th 24th

crude oil (USD/bbl) NYMEX 101 111 112 111 110 108 106

gold (USD/oz) COMEX 1,544 1,457 1,461 1,469 1,483 na na

aluminium (USD/t) LME 2,654 2,660 2,689 2,710 2,727 2,762 2,792

copper (USD/t) LME 9,076 9,571 9,588 9,591 9,582 9,506 9,376

nickel (USD/t) LME 22,860 26,354 26,310 26,179 25,988 25,562 25,134

zinc (USD/t) LME 2,270 2,451 2,472 2,482 2,491 2,506 2,512

lead (USD/t) LME 2,569 2,807 2,787 2,765 2,755 2,738 2,716


23


Summary of world output

Economic growth forecasts#

Real GDP %ann 2006 2007 2008 2009 2010 2011f 2012f

World 5.2 5.3 2.8 –0.6 5.0 4.3 4.3

United States 2.7 1.9 0.0 –2.6 2.8 2.2 2.0

Japan 2.0 2.2 –1.5 –6.6 4.3 –0.5 4.0

Euro zone 3.2 2.8 0.3 –4.0 1.7 1.8 1.3

Group of 3 2.8 2.3 –0.1 –3.7 2.6 1.7 2.0

United Kingdom 2.8 2.7 –0.1 –4.9 1.3 1.1 1.4

Canada 2.8 2.2 0.5 –2.5 3.1 3.0 3.0

Australia 2.6 4.6 2.6 1.3 2.7 1.6 4.0

New Zealand 1.0 2.8 –0.2 –2.1 1.5 1.0 4.1

OECD total 2.8 2.5 0.1 –3.4 2.4 1.6 2.3

China 12.7 14.2 9.6 9.2 10.3 9.4 8.2

Korea 5.2 5.1 2.3 0.2 6.1 3.9 4.7

Taiwan 5.4 6.0 0.7 –1.9 10.8 6.3 6.3

Hong Kong 7.0 6.4 2.3 –2.7 6.8 4.9 4.5

Singapore 8.7 8.8 1.5 –0.8 14.5 7.3 4.7

Indonesia 5.5 6.3 6.0 4.6 6.1 5.9 5.3

Thailand 5.1 5.0 2.5 –2.3 7.8 5.9 4.9

Malaysia 5.8 6.5 4.7 –1.7 7.2 1.3 3.5

Philippines 5.3 7.1 3.7 1.1 7.3 5.6 3.9

Vietnam 8.2 8.5 6.3 5.3 6.8 6.4 7.2

East Asia 9.8 11.0 7.2 6.0 9.4 7.9 7.1

East Asia ex China 5.8 6.1 3.2 0.4 7.7 5.1 5.1

NIEs* 5.8 5.9 1.8 –0.8 8.4 5.1 5.2

India 9.7 9.9 6.2 6.8 10.4 9.6 9.4

Russia 8.2 8.5 5.2 –7.8 4.0 5.5 4.5

Brazil 4.0 6.1 5.2 –0.6 7.5 4.5 4.1

South Africa 5.6 5.6 3.6 –1.7 2.8 3.5 3.8

Mexico 5.2 3.2 1.5 –6.1 5.5 4.6 4.0

Argentina 8.5 8.6 6.8 0.8 9.2 6.0 4.6

Chile 4.6 4.6 3.7 –1.7 5.3 5.9 4.9

CIS^ 8.8 9.0 5.3 –6.5 4.2 4.7 4.6

Middle East 5.8 6.0 5.0 2.0 3.9 4.6 4.7

C & E Europe 6.5 5.5 3.0 –3.6 4.2 3.6 4.0

Africa 6.4 7.0 5.5 2.6 5.0 5.5 5.8

Emerging ex–East Asia 6.8 7.0 4.8 –0.4 6.1 5.7 5.6

Other countries 6.2 6.7 4.8 0.7 5.0 4.8 4.6

World 5.2 5.3 2.8 –0.6 5.0 4.3 4.3

#Regional and global groupings are weighted using PPP exchange rates updated to reflect ICP 2005 benchmark revisions. Adding ½ppt to the global headline approximates growth under the prior weighting system * “NIEs” signifies “Newly Industrialised Economies” as defined by the IMF, viz; Republic of Korea, Hong Kong SAR, Taiwan Province of China, and Singapore. ^ CIS is the Commonwealth of Independent States, including Mongolia. Sources: IMF, Westpac Economics.

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Notes

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Notes

Corporate directory

Publication enquiries, Neil Burgess, Senior Commodity Analyst, Agribusiness Telephone: (61 2) 8253 7912

SydneyLevel 2, 275 Kent StreetSydney NSW 2000Telephone (61-2) 8254 8372Facsimile (61-2) 8254 6934

Bill EvansChief Economist

Andrew HanlanSenior Economist

Matthew HassanSenior Economist

Huw McKaySenior International Economist

Justin SmirkSenior Economist

Anthony ThompsonSenior Economist

Elliot ClarkeEconomist

SydneyLevel 29, Westpac Place275 Kent Street Sydney NSW 2000 Telephone (61-2) 9220 1083Facsimile (61-2) 8253 0955

Graham JenningsChief Executive, Commercial and Agribusiness, Regional BankingTelephone (61-2) 8254 1083

Rick AylettState General Manager, Commercial and Agribusiness, Regional Banking VICTelephone (61) 427 249 059

Rodney KellyState General Manager, Commercial and Agribusiness, Regional Banking QLDTelephone (61-7) 4688 6063

Ben MariniState General Manager, Commercial and Agribusiness, Regional Banking WATelephone (61-8) 9426 2831

Steve HannanState General Manger, Commercial and Agribusiness, Regional Banking NSW Telephone (61-2) 6580 3926

Richard HockneyState General Manager, SA/NT/TAS Regional, Westpac Retail & Business Banking Telephone (61-8) 8230 2225

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