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Can Rio and BHP bolster the economy?

The OECD says more interest rates cut will be needed to bolster the Australian economy as it heads into a period of lower than expected growth.

The OECD has forecasted a growth rate of 2.6% in 2013 after saying only on a year ago that it would be 3.7%. “The surge in mining investment, which is likely to peak in 2013, is gradually losing its stimulatory effect on activity, while new drivers of growth are taking time to emerge”. The turnaround in mining investment has been the result of a high Australian dollar, poor commodity price outlooks and huge costs all weighing in on exports.

The OECD believes that lower interest rates, therefore a lower exchange rate, will enable miners “to benefit from increased capacity in the sector”. It went on to say that a marked slowdown in China would weigh in on exports and Australia’s terms of trade, which could hasten the slowdown in mining investment.

Companies such as BHP Billiton (ASX: BHP) and Rio Tinto (ASX: RIO) rely on exporting as the primary source of revenue, so every cent the exchange rate drops is a bonus. This would usually be an incentive for investors to buy stocks in the industry. However, iron ore hit $US112.90 per tonne on Wednesday in a move that has been foreseen by many investors. This has created a barrier for many investors entering resource stocks.

Coupled with a lowering gold price means investing in the mining industry is more risky than ever, with companies such as Newcrest (ASX: NCM) falling along with it. Last night on Sky Business, Motley Fool Investment Analyst Scott Phillips summed up the industry by saying that the “down side is much larger than the upside” and perhaps it will be wise to wait before taking the plunge into the mining sector.

Foolish takeaway

As more and more iron ore is pulled from the ground, China is beginning to reduce its demand for the steelmaking ingredient. With that in mind, until the rest of the economy can begin to pick up the slack, we’re likely to see economic growth rates cut. The OECD predicts that 2014 will see the growth rate rebound to 3.2% and Treasury Wayne Swan believes that even with a lower rate this year we’ll still be ahead of every one of the 34 OECD countries.

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Motley Fool contributor Owen Raszkiewicz owns shares in BHP Billiton and Rio Tinto.

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