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- AUD slips after construction data augurs fears for Q4 GDP.

- Steep fall in output poses a threat to RBA's GDP forecast.

- Market focus now on Thursday's business capex number.

The Australian Dollar fell in a buoyant market for risk-assets Wednesday after official data showed construction sector output falling sharply in the final quarter of 2108, leading to heightened unease among analysts about the likely pace of economic growth into year-end.

Australian construction output fell by -3.1% during the final quarter, deeping an upwardly-revised -3.6% contraction from the previous period, when markets had hoped for a minor 0.6% rebound from the prior slump.

Civil engineering and residential construction segments led the decline, with falls in output of -5% ad -3.6% respectively during the quarter, while the only part of the sector to have seen activity increase was commercial construction.

Construction output is an important input into GDP so the fall during the final quarter means market expectations of economic growth late in 2018 could take a knock over the coming days. Final quarter GDP data will be released on Wednesday 06, March.

"Construction activity was weak again in Q4, and will be a drag on GDP. Housing and public engineering were particularly weak. The construction sector has been a key support to growth and employment over the last few years, and an earlier-than-expected downturn in the sector would be of concern for our outlook," says Felicity Emmett, an economist at Australia & New Zealand Banking Group (ANZ).

Approvals for the construction of new residential homes fell by an eye-watering -8.4% in December, after having declined by -9.4% in the previous month, which took the annualised rate of decline in approvals to -23%.

Construction firms are building less due to an uncertain domestic and international economic outlook as well as amid steep and ongoing falls in Australian house prices. Falling house prices have led policymakers to fear a 'negative wealth effect' that could eventually see households hurt the economy by deferring spending as the value of their largest asset decreases.

"From a Q4 GDP perspective, today’s data doesn’t bode well. We’ve got a forecast range at this stage of 0.25‑0.5%. But today’s data means it’s more likely to print at the bottom end of our range. With retail, net exports and construction offering no support to growth in Q4 we are looking to services consumption, government spending and inventories to contribute positively," says Gareth Aird, an economist at Commonwealth Bank of Australia.

Above: AUD/USD rate shown at daily intervals.

The AUD/USD rate was quoted -0.39% lower at 0.7165 Wednesday but is up 1.6% for 2019, while the Pound-to-Australian-Dollar rate was 0.56% higher at 1.3282 and has risen 2.42% this year.

Above: Pound-to-Australian-Dollar rate shown at daily intervals.

The Reserve Bank of Australia (RBA) said this month it is looking for GDP growth of 0.5% for the final quarter of 2018, but Commonwealth Bank and others are now saying there is a risk of a substantial underperformance of this forecast. That could spell bad news for the interest rate outlook and Australian Dollar during the days ahead.

RBA officials said they would cut the official cash rate if the economy deteriorates and there is a sustained increase in unemployment at any point this year. Next week's GDP data may satisfy the first of those two conditions.

"The expected slowdown in the economy over H2 2018 increases the probability that unemployment does rise, albeit that we expect it to remain anchored around 5%. Domestic market attention now shifts to the ABS capital expenditure survey published tomorrow," Aird says.

"Q4 private capital expenditure data will help form expectations for Q4 GDP. As always, the spending plans may capture more attention. We note that the survey was taken in the eight weeks post Q4 amid some recovery in global risk but ongoing concerns around AU housing and consumption," says Adam Cole, chief FX strategist at RBC Capital Markets.

The early hours of Thursday morning will see the fourth quarter business capital expenditure report released by the Australian Bureau of Statistics, which will provide economists with the final piece of the puzzle required for estimating GDP growth during the period.

Given the fall in construction output and the Reserve Bank of Australia's recent change in policy stance, the data could garner more attention from the market than it normally does. Consensus is for a 0.8% increase to more than reverse the -0.5% decline seen in the previous quarter.

"Further AUD weakness now seems probable and we will likely explore opportunities to sell AUD in coming weeks, potentially seeking to benefit from correlation savings in options as any domestically-motivated easing cycle should cause AUD to de-couple from other pro-cyclical currencies," says Paul Meggyesi, head of currency strategy at J.P. Morgan.

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