Capex blowoff

After a string of poor data, the economic cheerleaders have something genuine to celebrate – capex.

The local keystone of the endless economic strength thesis is ongoing high business investment, largely by mining firms, as we supply urbanising China and India with raw materials.

The following graph is the ratio of capex to GDP going back to 1990:

No doubt about it, since 2003, we’ve enjoyed a great run of business investment. And that’s hard to knock. It’s what capital formation and sustainable growth is all about. But this graph also contains the seeds of the problem, ignored by all of yesterday’s pom, pom girls. Note that despite a spectacular surge in planned investment, the ratio of total capex to GDP projected for 2011/12 is not breaching the highs of commodities boom mark I (this blogger extrapolated GDP at 3.5%).

That’s because mining is the only sector planning record capex. If we take a close look at the sectoral split, it’s an extraordinarily focussed mining boom:

The above graph is actual capex plus ABS expectations data for 2011/12 cut into quarters (this blogger has added upwards seasonal adjustment to services too). To cut a long story short, manufacturing is cactus, services are bouncing around but below the level set in 2008 and mining is planning to go completely insane. For the contrarian, that mining spike is a red rag to a bear.

If we dig down further still, and split the services block, up until Dec quarter 2010, we find 3 of the top 5 capex sectors are in declining trends:

This graph ends at Dec 2010 because the ABS does not provide granular expectations data. In trend terms, realty, construction, transport are all down. Utilities solid. As seen in the previous graph, services are projecting a bounce in investment for 2011/12. The ABS had this to say:

The main contributor to this increase, was Transport and Storage (27.3%). Buildings and structures is 20.8% higher and equipment, plant and machinery is 2.4% lower.

We can’t really say much more than the declining trends look set to become sideways trends.

Australia is experiencing an incredible mining boom. And why not with iron ore and everything else at stratospheric heights. But the nation itself is not booming like it did in mining boom mark I (remember, GDP has grown three years since the highs of 2008).

Disleveraging and Dutch Disease are keeping a lid on things. If the mining boom runs for long enough, as long as authorities say it can, we have a shot at growing into the housing bubble and overweened consumption sectors. The reckoning of over-specialisation may be so distant that one needn’t worry. For the bulls, the hope of the great disleveraging project is still alive.

But, (ah, there’s always a but!) even after three years of stalled services capex, the risk is that our assets are still priced for perfection. And, as yesterday’s superb Westpac report into the Chinese overbuild showed, some significant portion of the mining boom has been borrowed from the future in the form of  a gigantic overhang of Chinese houses. It may well require repayment in 2012 and beyond, as these huge mining supply expansions are in full roar.

If a hiccup of that nature occurrs, and it could be sooner if the oil shock gets going (though this blogger guesses we’ll get through that), then the following graph will become significant:

This is from NAB’s January Monthly Business Survey and shows the effect on miners of just two months of softening export prospects because of a few showers up north. Imagine the effect genuine China doubts would have?

The bulls are back in green pasture, but the mining spike shrieks blowoff.

David Llewellyn-Smith

David Llewellyn-Smith is Chief Strategist at the MB Fund and MB Super. David is the founding publisher and editor of MacroBusiness and was the founding publisher and global economy editor of The Diplomat, the Asia Pacific’s leading geo-politics and economics portal.

He is also a former gold trader and economic commentator at The Sydney Morning Herald, The Age, the ABC and Business Spectator. He is the co-author of The Great Crash of 2008 with Ross Garnaut and was the editor of the second Garnaut Climate Change Review.

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  1. tell me, HnH, what do you think the linkages are from a mining investment boom into the broader economy? This site has already commentated on, and bemoaned, the loss of MRRT revenues, so how does the general bogan in far flung locations from mining centres benefit from this investment, should it actually be realised?

  2. Ok. Because you insist on being so god damn balanced and reasonable in your analysis, here in a nutshell is this little bogan’s case for “australia’s-still-going-gangbusters-and-will-dominate-the-21st-century”:

    1. We continue to grow rich for the next 10 years selling minerals to the Chinese, Indians and others.

    2. In fact, the premium for our dirt goes even higher as unrest in the middle east and elsewhere encourages development in Australia.

    3. Bernanke continues to undermine the USD which not only pushes commodity prices higher still but makes the AUD the “go-to” currency for investors wanting to preserve wealth. It becomes increasingly accepted as being de facto “gold standard” as it is backed by our gold/mineral wealth.

    4. The combination of increasing wealth and hard currency makes our financial sector stronger and further encourages overseas investment in Australia. We will be back in a period as in the late 1800s when Melbourne and Sydney (but this time joined by Perth and Brisbane) are the wealthiest places on the planet.

    5. After 10 years of selling dirt, China slows down gradually (in the face of demographic headwinds) and does not invade us, and this over the next 10 years causes a happy readjustment/consolidation in our economy.

    Granted, the above is dependent on a few things, not least:

    (i) a bit of luck,
    (ii) Gillard getting voted out at next term and having boring but competent government for at least the next 10 years.

    But surely it is not completely out of the question?

    All my bogan love,

  3. Dingo’s right in that the boom can go on for awhile yet (though if his second point, more ME instability, carries on then we can expect oil to spike etc leading to GFC II). Trouble is when it ends there will be nothing left for excess labour to go to. The current labour required to build stuff is far higher than just to dig and deliver once growth is over. Oh, and there is rarely any discussion on the fact that digging holes is a one-off event. They eventually run out, then what ?

    • Despite being the current major contributor to our exports, the mining industry is neither a big employer nor a large part of our economy. Australia is like other western nations in being a largely service dominated economy, just a little different in having the mining icing on the services cake.

      Besides, demand for the stuff we dig up is never going to disappear completely. After the BRIC group have had their decade or two or three in the sun, it might be the turn of the Africans, the rest of South and Central America, and Eastern Europe/West Asia. And after that, even if all nations have been through their rapid development phase, infrastructure and buildings all over the world will continue to be renewed as they age. Add to that the fact that the Australian supply of many of these minerals is essentially inexhaustible and I think you have a good case for a lot more holes in the ground yet.

      • Ok, so there’ll be a lot of unemployed ex-manufacturing and services types because the XR (and competing salary costs with the mining sector) has killed-off these sectors. I like your optimism about the country’s resource base and indeed some deposits are very large, but the extraction rate has increased dramatically and grades are declining. BTW, Africa is well endowed with its own minerals.