Australia's Business Confidence Crisis: Why Is Western Australia So Different?

Australian businesses are becoming deeply pessimistic about the economy. Yet many are still operating close to full capacity, and Western Australia appears to be performing substantially better than the eastern states.

This unusual combination raises important questions about Australia's economic outlook and the direction of interest rates.

NAB's September Monthly Business Survey, released on 13 October, showed business confidence falling four points to −13, its third consecutive monthly decline.

Confidence is now 22 points below its level a year earlier and among the weakest 5% of readings in the survey's history.

What are businesses telling us?

NAB measures two different things.

Business confidence captures expectations about future business conditions. It is expressed as a net balance: the proportion of positive responses less the proportion of negative responses.

Business conditions measure current trading, profitability and employment circumstances.

September's conditions index remained at −1, seven points below its historical average. The employment component fell three points to −1, its weakest reading in five years.

The distinction matters. Pessimism does not necessarily mean businesses are already contracting. But it can influence subsequent decisions about recruitment, investment and expenditure.

Australia's two-speed business economy

The most striking geographical finding concerns Western Australia.

Its trend business conditions index reached +16, compared with zero in NSW, −1 in Queensland and −3 in Victoria.

Tasmania recorded +8 and South Australia +3.

Western Australia's advantage over Victoria is therefore 19 index points.

Industry data helps explain the divergence, although it does not establish the cause.

Mining recorded business conditions of +13, while finance, business and property services reached +10. At the other end, retail conditions were −13 and manufacturing −9.

WA's exposure to resources is a plausible contributor to its relative strength. However, industry and state results are reported separately, so the data cannot establish how much of WA's outperformance comes directly from mining.

Why is capacity utilisation still high?

Here lies the survey's most interesting contradiction.

Despite weakening business conditions, capacity utilisation remained at 82.3%, approximately one percentage point above its long-run average.

Five of eight industries reported above-average capacity utilisation.

Capacity utilisation measures how intensively businesses use their available productive resources. A high reading can indicate strong demand, but also constrained productive capacity.

Consequently, weak business sentiment does not necessarily mean inflationary pressures have disappeared.

Businesses are caught between costs and prices

NAB's September figures show purchase costs increasing at an annualised-equivalent quarterly rate of 2.4% per quarter, compared with growth of just 0.8% in final product prices.

Labour costs increased by 1.7%.

These are quarterly growth measures, not annual inflation rates.

The difference suggests pressure on profit margins as businesses struggle to pass higher costs to customers.

The profitability index remained weak at −5, while forward orders fell to −1.

What happens next?

The September ABS employment release adds to the concern. Employment fell by 39,300 in seasonally adjusted terms, although underlying trend employment continued to increase.

For the RBA, the policy dilemma is becoming more complicated.

Weakening confidence, profitability and labour demand point towards slower growth. But relatively high capacity utilisation and persistent input-cost pressures suggest inflation may remain difficult to contain.

The key question is whether Australia's economy can relieve its capacity and cost pressures without triggering a more substantial deterioration in employment.

The next NAB survey, scheduled for 10 November, will provide another important test.