Forecast Sensitivities

Construction forecasts are always subject to substantial uncertainty, being sensitive to a wide range of underlying assumptions. For example, construction forecasts are sensitive to the underlying assumptions made about interest rates, which have a wide variety of flow-on effects in the economy.

Underlying these construction forecasts are our whole-of-economy forecasts. These forecasts were prepared prior to the release of ABS national accounts information for the March quarter 2010. Over the past year, the Reserve Bank of Australia (RBA) has begun lifting the officially cash rate, from a 30-year low of 3% p.a. in mid 2009, to its current 4.50%p.a. (June 2010). While it is generally expected that the RBA will continue to raise interest rates in 2010, the extent of the rises is uncertain. Our economic forecasts assume the official cash rate reaches 5.0% p.a. over the next 12 months.

Thus, an alternative scenario has been prepared to estimate the effect of interest rates rising to 5.5% p.a., rather than at around 5.0% p.a. as currently forecast by our macroeconomic model. The impact that higher-than-expected interest rates have on construction activity for 2012/13 are shown below in table 1.

Table 1
Change in Construction Activity, 2012/13 (Nominal terms)

	Increase in work done
Residential building	-2.7%
Non-residential building	-0.5%
Engineering construction	-11.1%

Note: increases shown as deviations from the baseline scenario.

Looking out to 2012/13, the simulation shows the main impact is in engineering construction and residential building. Engineering construction is affected by a slowdown in mining construction activity. An increase in interest rates means that holding Australian dollars is more attractive than would otherwise be the case, which lifts demand for the Australian dollar. In other words, there is an appreciation of the dollar. Being an export orientated industry, the mining sector is negatively affected by an increase in the exchange rate which causes Australia’s exports to become less competitive. The impact on residential building is because this sector is driven by owner occupiers, which are sensitive to changes in interest rates. The 2013/14 impacts on construction activity are shown in Table 2.

Table 2
Change in Construction Activity, 2013/14 (Nominal terms)

	Increase in work done
Residential building	-2.8%
Non-residential building	-1.3%
Engineering construction	-14.5%

Note: alternative scenarios are shown as deviations from the baseline scenario.

Overall, these effects are generally, relatively minor for residential and non-residential building, but there is a more significant impact for engineering construction.