Following on from Houses & Holes’ excellent post yesterday on the looming terms-of-trade correction facing Australia, McKinsey Global last week published a fascinating report entitled Beyond the Boom, which supports MacroBusiness’ view that the Australian economy is dangerously undiversified and highly exposed to a sharp fall in commodity prices.
According to McKinsey, 90% of the growth in Australian incomes in the seven years to 2012 was caused by the mining boom – via the rising terms-of-trade and the boom in mining-related investment (see below charts).
However, McKinsey warns that the income gains enjoyed from the mining boom were only temporary, and that Australia could experience little or no income growth over the next seven years if: 1) the terms-of-trade trended back towards its long-run average; 2) only two-thirds of advanced resource projects and one-third of planned projects come to fruition; and 3) there is no improvement in productivity growth.
Mc Kinsey’s report supports analysis released last month by the Australian Treasury, which showed that around half of the growth of average incomes experienced over the 2000s was caused by the one-off rise in the terms-of-trade, and that income growth and the economy would face stiff headwinds in the future as the terms-of-trade unwinds (subtracting from national income) and Australia’s population ages (see below charts).
At this stage, the Treasury has forecast only a gradual unwinding of the terms-of-trade. However, with China slowing faster than expected – reflected by sharp falls in steel, iron ore and coal prices – there is the clear and present danger that the gradual unwinding of the terms-of-trade (as forecast by the Treasury) could turn into a much more swift fall, resulting in: heavily reduced income growth; cancelled mining investments; significant job losses; reductions in government revenues; slower economic growth; and falling asset prices.
Twitter: Leith van Onselen. Leith is the Chief Economist of Macro Investor, Australia’s independent investment newsletter covering trades, stocks, property and yield. Click for a free 21 day trial.
