Understanding the Australian economy

As you may have noticed I’ve taken an eye off Europe for a short while in order to provide some macro analysis on what is happening in the Australian economy. At present there is a growing gap in the economic conversation in Australia between what is actually happening and the rhetoric….

This post is a continuation of my “adult conversations” thread. In case you have come to this post directly I advice you to pop back to the original post  for some frame of reference.

On Friday I discussed the Australian balance of payments in order to explain the economic circumstances the country finds itself in with regards to the external sector. A circumstance very few people in the Australian financial elite appear to even recognise, let alone discuss. However, as you may have noticed, ideas floated on MacroBusiness have a funny way of becoming topical in the mainstream media, so here’s hoping.

Australia’s external sector has been in an ever-growing deficit since 1975. In order to fund this debt with the rest of the world the country continues to sell ever-increasing amount of financial assets. This has led to the situation where the outflows of capital stemming from those financial assets is greater than inflows gained from trade of goods and services, even with the historically high terms of trade stemming from the commodities-led mining boom.

It is no wonder Wikipedia is calling us “secluded”.

As you may have read in my Friday post I tend to analyse the economy via a sectoral view because it lines up with the National Accounts – click here to go to the ABS for an overview. It also provides some fairly good insight into the flows across the sectors, which ultimately means it is easy to predict what the outcome of one sector is going to be if you know what the other two are up to. If you have been following my Europe posts for any length of time you will know that this type of analysis has been fairly successful in predicting the outcomes for the European periphery over the last 2 years.

A very basic, yet often forgotten, rule of economics is someone’s spending is someone else’s income. What the sectoral view of the economy tells us is that:

National Income = Current Account + Private Sector Consumption + Investment + Net Government Spending

A fall in spending, meaning a lesser sum of these elements, therefore results in a fall in national income. The sectoral view also tells us that a fall in one sector can be offset by a rise in another, yet it also informs us that the sectors are linked, and therefore changes in one sector have impact the balance of the others.

As we have seen from nations like Greece and Portugal, a country with a long running current account deficit and a private sector with a desire – or no choice to save (austerity) – has significant problems trying to reach a government surplus. Once you understand that the external sector and the private sector are a net drain on national income it isn’t hard to see the problem. Under these circumstances there is simply no room left in the economy for savings in the government sector and attempts to reach government surpluses become counter-productive as this simply accelerates the decline.

If a country’s current account deficit is structural ( I’ll explain this later ) then these efforts are very dangerous because this can easily develop into a damaging feedback loop. The loss of income through the external sector leads to a loss of income in the private sector, this then drives the stronger desire to save, meaning government revenues fall further. This inevitably leads to calls for higher taxes, which once again drain income from the private sector … and around we go. The result of this dynamic is a rise in unemployment, therefore national production and income, meaning once again the government sectors revenue decline while private sector spending and investment fall further.

As you may have noticed I neglected to mention the external sector in that example. When spending in the private sector falls the current account tends to rise towards surplus as imports fall. If structure of the external sector is such that a fall in imports can bring it back to surplus while the private sector and the government are saving at their desired rate then eventually the balances of the sectors will be restored, but at a lower national income and gross domestic product (GDP).

That, however, is a big ask for most economies, especially those that have spent many years structured around expanding debt and internal consumption. As we have seen in Europe the attempt of the government and the private sector to deleverage at the same time in these economies hasn’t tipped the external sector into surplus because the collapse in industrial production hasn’t allowed it ever to get there. In these cases what needs to occur is a write-off of existing debts, or an expansion of debt in an alternative sector in order to restore the balance. As neither of these things has occurred the economies have begun to fail.

This is an example of what I describe as a ‘structural deficit in the current account’. It means that the structure of the nation’s debt with the rest of the world is such that slowing private sector debt doesn’t necessarily equate to a corresponding rise in the current account. What you would hope to see in these economies is an adjustment in the private sector so that they are less reliant on imports while producing more exports. I think you’ll find that this is the basic definition ‘productivity’.

Greater productivity is obviously the desirable goal but isn’t something that is achieved easily and is dependent on a nation’s ability to provide itself inputs to production. In reality productivity gains require investment in both humans and technology, which means spending, something that isn’t happening while both the private and government sectors are attempting to deleverage.

So how does all of this relate to what we are seeing in Australia at present?

Well obviously we aren’t in the same situation of the European periphery because our country is still seen as an attractive investment by the rest of the world. But the current account data certainly puts the mining boom in perspective. It isn’t so much that the country is profiting from the mining boom and the high terms of trade, more that it has enabled us to maintain a growing national income through private sector debt expansion because the rest of the world has been willing to fund it.

One of the big questions you have to ask is whether this is actually a problem. We’ve had a growing external debt for over 3 decades and in that time our national wealth has grown strongly. So why can’t this just go on and on? Well, actually there isn’t any reason why it couldn’t continue for many years yet. But in order for that to occur given the current structure of the economy it will require either the government and/or the private sectors to continue to expand their debt positions.

As MacroBusiness has focussed over the last year, the lending statistics appear to show that households have reached their limit in terms of debt to income and businesses reliant on consumption are suffering from the flow-on effects of that behaviour.

Once you realise this you start to understand the confusion in the public arena about what we are witnessing in Mining Boom II. The shock of the GFC changed the spending patterns of the private sector meaning that they desired to save a larger proportion of their incomes. By doing so the rate of credit issuance in the private sector began to decline. Initially this decline was met by additional spending from the government sector via the stimulus programs, which also had some flow-on effects to behaviour in the private sector.

However, as the effects of these stimulus programs has worn off, and the government drives towards a surplus, the downward trend in private sector credit growth has resumed. This dynamic is beginning to show in national income as it appears to be about to roll-over again.

This is why you are now seeing the confusing messages coming from the government over their budget. Their push for surplus is putting downward pressure on national income, while the private sector is attempting to push its balance sheet towards more saving. This is leading to a fall in government income via consumption related taxation, and so, every couple of months Wayne Swan has to re-inform the public that yet another couple of billion has suddenly disappeared from the government coffers. Lately he has been using the excuse that “mining boom II isn’t the rivers of gold of boom I”.

As you may now understand that is nothing like a valid explanation of what is happening in the economy. As I have explained, the facts are:

  • The mining boom is having a positive influence on national income, but its magnitude is of insufficient size to offset the larger outflows of interest payments and profits to non-residents as a result of over three decades of growth in external debt.
  • Private sector credit growth has been the major influencing factor in national income growth over the last few decades, but its rate of growth is slowing as households change their preferences towards saving over consumption after the GFC.
  • The government initially offset the private sector’s change in consumption preferences by increasing government spending.This has now stopped, as the government has set an agenda for surpluses.

The overall outcome of these three factors is that the rate of national income growth has slowed, as has GDP growth. If these factors remain in play then eventually the economy will begin to shrink, even as terms of trade remain high. As you can see, however, these factors have intertwined outcomes, which means that simple one-sided adjustments to reverse the economy’s decline may not have the expected results.

 

Comments

  1. So we all want someone else – public or private- to do the spending bit, whilst we, individually, shore up the household balance sheet after decades of debt-fuelled consumption. Doesn’t look like it’s going to end well to me…

  2. Many thanks for that.Incidentally your theme is picked up by Munchau in the FT this morning in relation to Spain-public sector cuts plus private sector deleveraging=big trouble ahead.

      • (DE thank you for the posts and I hope these comments are not interpreted as wishing to devalue your contribution to the debate in any way)

        “For Spain, the right adjustment policy would be a programme to force the private sector to deleverage, over three to five years, supported by consistently robust public sector deficits, and yes, accompanied by economic reforms as well. The moment to address the public sector deficit is after the private sector deleveraging is complete. Such a policy would not only smooth the adjustment. It would accelerate it.”

        I’d like to return to the debate about the effects of ‘deleveraging’ (austerity)or ‘not deleveraging’ later. Time is a problem!!

        Meanwhile…
        If you adopt the above policy you are going to shrink your private sector while expanding the public sector. How does this help anything? In fact it will lead to the closing of productive centres and the expansion of non-productive centres. There is no point arguing that Govt deficits will be used to expand productive sectors. It simply does not happen. Government always expands its own influence, creates a whole infrastructure, that can never be dismantled,to back the expansion. It is permanent.

        The policy of Govt deficits equating the Private sector shrinkage perpetuates and, in this scenario, expands the CAD and the need to borrow from external sources. Will he external sources continue to supply you the money to over-pay your public service and private service sectors.

        I make the point again. (Just for discussion DE I really appreciate what you are trying to achieve here)
        Austerity is being condemned because things are worse after 12 months. If we are to reform from over-consumption reliant on higher and higher debt there WILL be dislocation and hardship. We simply cannot live at the level we were living while debt was increasing exponentially.
        Unless everyone accepts part of the hit then it falls appallingly heavily on a small sector.

        In the Western world it took us 50 years to dismantle our productive factories with the attendant loss of all the skills, centralise the economy in large cities with all the attendant expensive infrastructure requirements (in Sydney and Melbourne in our case) and destroy the social fabric of farming communities.

        All the while this destruction has been going on we have built the structures of non-productive sectors…Real estate and associated Finance and Insurance, Govt over-regulation etc etc etc

        Why, if the debt-driven prosperity is not all restored over a period of 12 months, do we condemn the process that is required to achieve a restructuring?

        When we engage in a debt write-off whose savings are we going to wipe out? In fact any major debt forgiveness programne will involve the confiscation of all savings. How does that help us restructure, and establish a more prudent productive society?

        Of course GDP is going to decline and substantially. Typically 20 to 30% of our GDP depends on accelerating debt of one form or the other. So decline and dislocation is inevitable. To think that we can fix all this by continuing to do what we have been doing is to fly in the face of reality.

      • P.S. I thought I’d copied the web address as posted by 3d1k with my quotation from it. Unfortunately I seem to have made a mistake of some kind. Apologies to all concerned.
        So the quote is from 3d1k’s referenced article. It is not taken from DE’s post.

      • Excellent post flawse. There was the small issue of the Cold War playing out for most of the last half of the last century which surely had a not insignificant influence on American economic policy (vis credit driven consumption) and that of its allies against the Soviet Union. I am not sure what global geo-political impetus will be required for us to switch to a new model which emphasises savings over credit expansion. Or maybe this is it – are we soaking in it already ?

      • Thanks for the thought monsieur. A bit more thought to swirl around in the old brain!
        My first thought would be that as far as economic war goes the West and, in particular the US, is about out of bullets.
        However that certainly gives me another aspect to think about for a while!!!!
        Will Shale gas etc pull the US back from the brink, for the moment at least, the way North Sea oil rescued the UK in the 70’s ???
        The US still has a manufacturing base of sorts to start again from.

    • From that piece.

      “Both assumptions are delusional. How can the Spanish economy rebound if the private and the public sectors are deleveraging at the same time, and are likely to do so for many years? ”

      Delusional 🙂

      • I wonder if that were a subliminal or subconscious use of the word?

        The FT article also serves to remind: we too have high private sector debt to GDP and until recently, a bubbling property sector…

  3. After a decade of drought, and two years of rain – could Agriculture bounce back over the next five years to offset the productivity/export losses of the manufacturing sector?

    In a world of increasing food scarcity, Agriculture combined with the sheer amount of farming land we have, be as much of a source of national income as mining?

    • [email protected]MEMBER

      My guess is no RP. Not substantially.
      The sector faces similar headwinds.
      It is fairly tough.
      My 2c

      • Agriculture can fill some of the gap.
        But they need to be dragged kicking and screaming into the market economy.
        No more drought assistance, No more wool tax or other legislated interference in their industry. Also, there is beginning to be a big transfer of assets/businesses out there from Baby Boomers with High School Educations to Gen X’ers with Tertiary Degrees.

  4. I mentioned this in another post DE – that the mining boom didn’t really save us. Just helped us reassure the rest of the world that we would be good for more borrowings which really is what stimulated the economy. Its almost like the mining income was used as collateral for even more debt.

    The tragedy is that when the rest of the world wakes up to the fact and doesn’t want to extend any more credit to us we will have even more debt to recover from than if we didn’t have mining at all. I just hope our children can come out of this.

    The analysis was much appreciated. Thanks

    • THIS!!!!

      This is the best explanation that I have been looking for.

      The mining boom is a side show that gives others the reassurance to lend us money to spend on residential property.

      +1000!!!

  5. Excellent, thank you.

    It would good to have these post permanently linked somewhere on the site, for easy future reference.

  6. Thanks for covering the BoP.

    On government spending and the sectoral balances: My understanding is that (over the short run), the impact on national income of a cut in government spending depends on where real GDP is and what it’s currently constrained by. Is it constrained by aggregate demand or stuck at potential output?

    If GDP is below potential because of a deficiency in aggregate demand and the CB either can’t or won’t lower rates, then yes no doubt about it a cut in government spending will lower national income. This is the position the US, UK, Japan, Spain etc. etc are in. Unless they have no other option, cutting government spending is a terrible idea.

    This isn’t the position Australia is in at all – or at least at the moment as far as most people can tell. Since the start of the mining boom Inflation has been at the top end of the range, unemployment low, policy rate well above the world rate, and the currency well above long-term avg. This all screams that the government should cut spending. A cut in G here, would simply rearrange demand (for the better), relieve the RBA and hopefully (other things being equal) turn around capital flows/move CA closer to balance.

    Maybe this has changed and we are in the process of becoming the UK, but the way I see it, the government has overspent in every year since 2003 (except for half a year during GFC period when cutting spending wouldn’t have been clever).

  7. Sweeper

    The calculated ‘potential output’ was set at the peak of debt acceleration. It’s not a REAL estimate of the output of a sustainable economy.

    • I hope not. That would mean we would have to accept lower incomes and living standards.

      • That is exactly the situation. We have a living standard built on accelerating levels of debt. When that stops our living standards inevitably decline until we can rebalance to a more productive economy.

        Unfortunately i don’t have a either the time or the system for retaining everything I read. However a couple of weeks ago I did post in links a discussion of potential GDP. Comments from others more qualified than I supported the notion that potential GDP is a baloney measure in a debt driven economy.
        Sorry i can’t quickly bring it up!

      • I might have read that as well – I think it came from The Fed.

        In some ways I think its true. The pre-GFC global economy was a la la land in many respects. No supply shocks, oil prices under control, low inflation – I wouldn’t put it past economists to over-estimate potential GDP. If they have, then we really have problems given the amount of debt in the global economy.

      • Jumping jack flash

        I agree, we are paid far too much money for our “productive” output compared to our competitors, and the global market leaders.

        Consider that the only reason most of us have jobs is because of debt-fuelled bubble demand. It is frightening.

  8. Thanks. It’s great to see economic analysis that seems independent of politics and based on the fundamental economic accounting identities of GDP and National Income. We can deal with good and bad GDP and unmeasured good and bad GDP after we have the basics on board. After that can we do the compounding function, doubling times, how long it takes to use more than we have ever used of before of anything and Australian resource depletion.

    How do we provide an incentive for every financial journalist to understand the ba

    Based on what I have read so far it’s one of:
    1. A recession we have to have as government saving causes a fall in private income leading to an increase in private saving from fear of unemployment and a downward spiral for a few years. Such a recession would probably cause a fall in the willingness of foreigners to support our Net International Investment Position (NIIP) and increase the pace of the downward spiral. The spiral may stop after we reach a surplus as the fiscal tightening stopped, assuming we would ever get to a government surplus, given Greece, Spain and the other PIIGS don’t seem to be able to.
    2. Going Japanese with fiscal stimulus and low interest rates whenever the economy starts to slow too much at the expense of more government debt (which so long as inflation doesn’t break out may not matter so much under a fiat currency according to Modern Monetary Theory)
    3. Strangling imports but this would have WTO and free trade agreement implications so is discounted in the absence of absolute crisis, which I don’t envisage for Australia in the next 10 years.
    4. Keeping on until we can’t, a la Greece, but then going Japanese because we can (but they can’t because they use the Euro and may as well be on a gold standard). As foreigners lost confidence and refused to support our NIIP our interest rates would rise and bring on recession unless the Japanese solution were adopted.
    5. A fall in the currency as foreigners conclude a worsening of our NIIP is not sustainable and the RBA allowing a “one off” inflation rise from external factors, with the imports slowing dramatically because of the fall in the Australian dollar assuming employees having no bargaining power because of high unemployment.

    Hopefully you will cover likely outcomes in a future episode.

    • How do we provide an incentive for every financial journalist to understand the basics you have outlined?

      Will it be in your e-book “Economics for Financial Journalists and Commentators”?

      • We’re thinking of podcasts, particularly for DE (who is too good looking to go on TV) and maybe some animation to explain what is really a relatively simple concept, but requires many words to get across….

      • I guess the essential concept is simple TP. However I’ve been trying to draw up a ‘simple’ schematic representation. At a minimum it needs three dimensions which seems impossible on paper!

    • “Going Japanese with fiscal stimulus and low interest rates whenever the economy starts to slow too much at the expense of more government debt (which so long as inflation doesn’t break out may not matter so much under a fiat currency according to Modern Monetary Theory)”

      True as long as you regard the external account as an unlimited free source of funds which is the basis of MMT.

      We don’t need to ‘strangle’ imports. We need to set our dollar and interest rates so that our production matches our consumption.

      • P.S. The Japanese solution is not available to us. Japan has been able to do what it has because it has been a CAS nation over 50 years. We are and have been a CAD nation for over 50 years.

        Modern Economists seem to miss this essential point.

      • and thats why Japan having a CAD now is a big deal…if its a one-quarter thing then fine but if its a sustained CAD they are toast.

        BTW keep up the good work in this thread flawse…you’ve smashed that nail on the head.

      • Re Japanese CAD poid…dead right.

        Just things going round in my head the other day…not sure if this thinking is correct.
        Just as our CAD is a time bomb so is their CAS. As you say if they continue to run a CAD they have their problem of financing it which they will do by repatriation of assets which will maintain the yen at a high level bringing on many of the sort of problems we now have!!

        I guess I’d like to be running a CAS rather than a CAD but you still have to try to maintain a balanced sectoral economy.

        (Just thinking out loud!)

      • Here is an alternative to MMT and printing money.

        “The Brazilian way”

        http://www.ft.com/intl/cms/s/0/9100a368-6ebb-11e1-b1b2-00144feab49a.html#axzz1pWPit1hR

        Brazil will no longer “play the fool” and let its currency appreciate while richer nations gain economic advantage by devaluing theirs, its finance minister Guido Mantega, said this week.

        It is almost 18 months since Mr Mantega first coined the term “currency war”, but it appears there is no ceasefire in sight. On the contrary, Brazil has embarked on a new offensive to suppress gains in the real. On Monday it extended a tax on foreign loans for the second time this month.

  9. I suggest that the Brazilian approach-putting a tax wedge between offshote lenders and domestic borrowers-deserves close examination as a policy tool.The obvious atrtraction is the ability to cool dollar inflows and protect the tradeable sector from the sort of presssure it is currently facing thanks to poor productivity growth and persistently high inflation.

  10. I have said this before but when the public and private can’t service their debt the govt will have to step in and take on that debt. Look at the US and Europe as a good example.

  11. The one thing I do not understand in what’s happening at the moment is why increased household saving is not showing up in reduced imports.

    Anyone care to comment?

    • Perhaps higher AS dollar = greater bang for buck and miners madly importing capital equipment.

    • Alex…household saving is being offset by the Govt deficit. That Govt deficit is being financed by offshore borrowings so that it doesn’t cut domestic consumption. Hence imports don’t drop.
      We only APPEAR to be saving.

      I do grant obiwan’s point may be involved as well.
      OTH I argue that the CAD is a lot worse than it appears because we have no way of accounting for profits made by foreign companies being re-invested here. Thus the don’t show up in the Current Account but add to the foreign ownership of everything.

    • Deus Forex Machina

      The households saving rate is measured as a percentage of income. It has risen over the past few years from the lows pre-GFC.

      There is little doubt that that household’s are saving more but Australian incomes also rise each year, at least for salaried employees.

      So for a simplistic example a household that earns 100k might save 10k at the 10% savings rate. But if it gets a 4% pay rise it saves 400 bucks and spends 3600 bucks (i’m ignoring inflation for ease)

      So, and this is the point i think the RBA has focussed too much on, Australian’s disposable income should still be rising and when they get to the point where they are comfortable with their overall balance sheet and debt position they will start spending again.

      Most of us here at MB saw this as a little short sighted with everything else going on int he world but it doesnt mean that the construct is theroetically correct.

      So Australia can have a high savings rate but the construct of our economy is such that all other things equal (yeah I know they never are) there is more money to spend if Australians want to whether on their increased mortgage repayments, cafes and restaurants or cheap imports

      • Thanks DFM I see your point…just a check on my thinking process…so for your simple example, presuming there is no inflation and no productivity, the 4% pay rise just gets sucked out of Corporate savings (or increased debt)
        Net REAL result is zero extra savings?

        Assuming also, for a minute, no taxation the $3600 comes back to business. However given that about (say) 40% of that $3600 ($1440) would be spent on imports we end up, as a nation, down $1040 dollars despite the appearance of the extra $400 saving in the household sector.

        (Again on the sectoral balances issue there is, within the Private sector, a business sector and a household sector.)
        In this case the corporate sector would show a decline in profitability and reserves when the stats wash out)

        I’d still argue, just logically on the sectoral balances, the Govt deficit funded by foreign debt, adds to household disposable and also therefore tending to negate the net national savings. Given we are talking about a Govt deficit and thus talking about net of all taxation, in the end anything not saved would be spent on imports. About 40% of whatever residual disappears on imports every time the money goes round.
        Note the money spent in cafes and restaurants goes round again less a % saved, and a % spent on imports.
        The dollars saved by the household sector hopefully end up either invested wisely and producing extra goods which would result in a lowered CAD or alternately used directly to pay off foreign debt or buy back some of our industry.

        Note in an environment of zero or negative interest rates which result in zero savings, every dollar, or pretty close thereto, of govt deficit ends up as a dollar of extra foreign debt. This is why Govt deficits do matter. If they are not to end up as increased debt then they require higher savings rates in the private sector i.e. on average higher interest rates.

        I guess in the dynamics some proportion of a govt deficit remains as money in circulation.

        Simple things sure get complicated when one tries to follow it right through. It’s the sort of issue I’ve had in trying to draw a schematic of the basic functioning of the economy.

        Crikey talk about get lost in thought because it’s unfamiliar territory! Sorry for the mess. As per Prince’s opinion it is hard to describe in a simple way.
        Feel free to rip and tear!

      • Deus Forex Machina

        yep corporations pay in this example…workers may be more productive to earn their salary increase in which case it doesnt cost the business as much as if productivity hasnt increased but that is never a given in this economy

        as for how much of the increase in spending goes via private consumption intoimports i’m not exactly sure as once we get past a base level of consumption – for a household – my guess (only a guess) is that the marginal propensity to consume imported goods (if I can call it that) and thus feed the CAD might actually fall while the marginal propensity to consume lattes (if i can put it that way) might actually increase and thus it goes into the service side of the economy and floats around this part…

        and yes this stuff is not easy is it – the key though is that Australia has been living beyond its means with a lot of the so called growth over the past 15-20 years fuelled by an increase in debt which has to be unwound for our economy to get back on an even keel

        no doubting we are in the midst of a structural adjustment but its not the mining boom that I’m focussed on it households and their necessary retrenchment – austerity australian style

      • “the key though is that Australia has been living beyond its means with a lot of the so called growth over the past 15-20 years fuelled by an increase in debt which has to be unwound for our economy to get back on an even keel”

        that right there is the key issue.

    • We’re already in strife! We rescue ourselves by selling the mines themselves rather than the stuff we dig up!

  12. A most intelligent discussion, DE. You also bring up an interesting point about structural CADs. for all it’s worth, I would even go so far as to argue that part of the structural problems Australia faces is that it is not a manufacturer of producer goods. In layman’s terms the things that make things, from capital equipment to machine tools and more elaborate robotics typically found in the manufacturing process.

    This also partly explains why any expansion in the government and/or private sectors actually has a negative impact on the CAD because of the need to import the machine tools and capital equipment to support that expansion. We see this often in the mining and airline sectors of the economy.

    I would also argue that a campaign such as ‘Buy Australia’ may actually have a deleterious impact on our external position for this very reason, but that’s a topic for another day.

    The question is, of course, why Australia isn’t a major manufacturer of producer goods…

    • Frankc you may well be correct in all that. It seems to me as if, no matter which way we try to correct this thing, the initial move is apparently ‘down’ before the structure gets righted.
      That’s why it is now such a vexed question.

      There are many issues related to this but to raise them at this point would detract from DE’s attempt to establish a rational base for future discussion.

  13. Perhaps we should be looking into the composition of this foreign direct “investment”.

    The other thing that is relevant is how much the nature of our funding for our financial imbalance with the rest of the world has moved from equity to debt. In 1980, 71 per cent of net investment was equity and only 29 per cent in debt. In 2008, debt accounted for 87 per cent of net investment and only 13 per cent was equity.

    Extract from this article by Mark Carnegie.

    http://www.businessspectator.com.au/bs.nsf/Article/Australia-net-foreign-debt-gross-GFC-Greece-Spain–pd20100615-6F4EF?opendocument&src=rss

  14. DE, Four words on Glen Stevens’ speech:

    ‘Structural change and adaptation.’

    Certainly agree with him that fascinating times lie ahead – your current series could not be more timely.

  15. Good article. But there’s an elephant in the room that the good ‘ol sectoral balances article leaves out. It looks like the commodities supercycle is coming to an end:

    http://www.bloomberg.com/news/2012-03-20/china-steel-growth-has-flattened-as-economy-shifts-bhp-says.html

    Oz’s contraction is going to be sharp and profound. The only saving grace is that they have their own currency. But my understanding is that they’re also run by deficit hawk morons, so I’m thinking Osbourne’s Britain Mark II.

  16. Phil Have you read all teh discussion posted by DE?

    If commodities crash, our CAD explodes! IF we can still borrow foreign funds well we’ll only increase foreign debt.

    A govt deficit at the same time will expand the CAD and lead to more Foreign debt.
    So maybe before you use the term morons in that regard you might consider ‘Is it moronic to not what to expand an already chronic CAD and foreign debt position?’

    • Increased government deficit would devalue Aus$. That would lead to a weening off of reliance on foreign goods.

      This could be supplemented by selling Aus$ on the FX markets. But large-scale fiscal stimulus would certainly be a good start.

      Reliance on foreign goods would mean that there would be some temporary inflation so the government would have to hold their hand steady. Fat chance of that. The Oz government are more stubborn than the Irish in the run-up to 2008.

      So yeah, moronic.

      • “Increased government deficit would devalue Aus$. That would lead to a weening off of reliance on foreign goods.”

        Hasn’t worked that way here in the past, whatever theory might say. We would just spend the same amount of $A on imports and only get half the value we’re getting now. Where’s the advantage in that?

      • First of all: what? If you import less, ceteris paribus, your CAD goes down.

        Second of all, quick look at the data suggests that exchange rate and imports are related. (Not surprising).

        In 2001-02 the Aus$ hit an all time low against the US$. At the same time the Australian CAD was running its lowest deficits in 20 years.

      • Also, if the ROW keep selling you stuff even though your government is running up deficits… who cares? Free lunch!

        Won’t happen though…

  17. ” If you import less, ceteris paribus, your CAD goes down.”

    Indeed, but ceteris is not paribus. The exchange rate has changed, so you import less but have to part with the same amount of $A for the privilege.

    The benefit to the CAD comes from the export side of the ledger. Exports remain the same, but because much of our exports is priced in $US, we get more $A for our imports.

    • Not consistent with data. And the idea that people would not change consumption preferences after devaluation is weird.

      Anyway, data has final say. Have a look at the fall of the Aus$ in 2001-02. It cut the CAD in half.

      • “the idea that people would not change consumption preferences after devaluation is weird.”

        Indeed, but I never wrote anything that even remotely suggested that. As it happens, though, a lot of Australian imports are stuff that is not made here, so import substitution following a devaluation doesn’t amount to much. The mix of imports will change, as people (for example) defer purchase of a new TV until the exchange rate improves and prices come down, but it still remains the fact that we would only get half the value (in overseas currency) for the $A we spend on imports.

        “Data has the final say” – so what does it say? Did the CAD improve because the value of our exports rose, or because the value of our imports fell? You haven’t addressed this question at all.

      • CAD shrank. It doesn’t matter WHY it shrank. Your concern was with the CAD. I said “devalue and run deficits and your CAD will shrink”.

        You said: “A govt deficit at the same time will expand the CAD and lead to more Foreign debt.”

        Deficit will put downward pressure on the Aus$ and the CAD will shrink. If it doesn’t shrink sufficiently, you can sell Aus$ in the FX markets.

        More stuff will be made in Oz in the medium to long run and preferences will shift (really, they will… people won’t change their TVs as often as they now do etc if there’s a permanent devaluation).

        Should we be sad that Aussies get less Japanese widescreens and new Nissans? Get out of here. They can do without. Lead a more moral life. Consumerism has wrecked the place in recent times.

      • Oh, and the other point was this:

        If you do run big deficits and the Aus$ remains strong and the CAD increases. Who cares!? It’s a free lunch! You’re just issuing currency and getting a boatload of stuff from some suckers abroad who really want Aussie paper.

      • You’re trying to run ten different arguments at once, with two different people, and as a result you have become incoherent. I can’t engage with someone so scatterbrained.

      • No. I’m putting the two options on the table. If you can’t keep the two in your head at the same time… well, sorry, can’t do anything for your comprehension skills. Here I’ll try to lay it out all simple-like:

        OPTION 1: Oz run fiscal deficits and try to maintain parity of Aus$. If for some reason the FX markets accept this you’ll run higher CAD. But that just means that you’re getting a free lunch because you’re exchanging treasury bills and currency for real goods and services.

        OPTION 2: Oz runs fiscal deficits and devalues Aus$ (more realistic). The CAD will fall and certain goods will become more expensive. Aussies will then have to change their consumption preferences to some degree and stop buying widescreens.

        Rocket science this is not.

      • OK, that’s clearer. But what about Option 3 – no fiscal deficit? With both inflation and unemployment low, what is the justification for running a deficit at the moment? Even a Keynesian would be hard pressed to justify that. If anything, the govt should be running a surplus.