Manufacturing is contracting in Australia, just as it is in the US, Japan, Europe and all other major economies.

Figures released this morning, showing a deepening slump in the performance of manufacturing index for Australia for last month, will be followed by similar survey results later today for major economies such as the UK, the US and China.

Manufacturing only accounts for 10% of the Australian economy, so while the sector’s strength has fallen to an all time low, it has so far done so without dragging the broader economy with it, as it has in Japan, and Germany, two manufacturing and exporting giants.

This is one of the factors that has helped Australia avoid the worst of the crunch so far — for how much longer is now the key policy question for the Government, business and the Reserve Bank as it prepares for tomorrow’s board meeting.

Countries where manufacturing forms a greater part of activity, such as Germany, Japan, Taiwan, South Korea and Singapore, have seen growth vanish and replaced by a sharp and accelerating contractions.

The slump in exports (a major factor behind the steep fall in US 4th quarter growth to an annual contraction of 6.2%) is world wide and reflects the slumping level of activity.

Reuters reported this morning that the rich countries’ club, the Organization for Economic Co-Operation and Development (OECD) will cut its predictions for world gross domestic product growth. OECD General Secretary Angel Gurria said: “We expect 2010 to be positive, but weak … when we give our forecasts March 31, we will cut our forecasts.”

Gurria also said, Reuters reported, that the financial crisis had shown no country has successfully de-coupled from the United States.

In the meantime we can expect more tough news from the manufacturing sector (last week’s 1850 job cuts and plant closures from Pacific Brands was merely a reaction to a gathering set of pressures on that company: the financial crunch and slowdown were the last straws).

In a statement today, the performance of Australian manufacturing index fell 4.9 points to 31.7, the lowest level since the series began in 1992. A reading below 50 signals manufacturing is shrinking. The manufacturing survey, which is similar to the US ISM index, asked more than 200 companies about production, new orders, deliveries, inventories and employment.

Meanwhile, inflation continues to give us a nudge to remind us that it hasn’t been fully vanquished by the slowdown.

The TD Securities/Melbourne Institute inflation gauge for February rose 0.7%, thanks to the boost in petrol prices from the higher world oil prices (compared with January) and higher prices for fast food and technology products.

But the rise was less than January’s 0.8%. On an annual basis, prices rose 3.1% in the year to February, from 2.7% in the 12 months to January.

Taken with last week’s high wages numbers, there is every chance we would have been getting another rate rise tomorrow from the RBA, but for the slump and global recession.

It was a year ago this week that the RBA lifted the cash rate to 7.25% from 7% amid some controversy.

The cash rate is now 3.25% and could fall to 3% or lower if the RBA cuts.

The doubters who still think the December stimulus package hasn’t worked (despite higher retail sales and better personal spending figures in January), will of course deny or ignore the January new home figures from the Housing Industry Association. The 3% in rate cuts up to the end of January also helped as housing affordability improved.

The HIA said sales of new homes, including multi-unit dwellings, rose nationally by 8% in January, reversing December’s 1.1% fall.

“A better start to 2009 for new home sales is an encouraging result,” said HIA chief economist Harley Dale said in a statement.

“But a sustained recovery in new home construction will rely on trade-up buyers and investors returning to the market, and the timely procurement of the planned 20,000 new public and community housing dwellings.”

Detached home sales jumped nearly 10% in the month, reflecting the Reserve Bank’s interest rate retreat beginning in September of last year.

Meanwhile, the latest Business Indicators from the Australian Bureau of Statistics for the December quarter were not upbeat, showing a fall in company profits, inventories, manufacturing and retail sales and services.

Depending on how they are treated by the number crunchers at the ABS, the falls could go someway to offsetting the positive gains from business investment and construction. Government finances and the quarter’s balance of payments may play a major part in determining whether the GDP numbers are red or black, along with the contribution from the rural sector which is expected to be positive.