So, with our Federal election mostly over, at least enough to get a good sense of where we’re going, I think it’s fair to conclude that we are not going to get out in front of the primary economic issues of our time. On the contrary, we’re going to make things worse for ourselves.
The only issue that this election should be about is the management of Australia’s post China boom adjustment yet it is barely mentioned. Where does this leave us then? First, let’s describe the issue once more.
Following the housing and mining booms in the post-millennium economy, in structural terms Australia finds itself with very high household debt but low public debt, very high asset values and historically low competitiveness in all industries including large swathes of mining and still high but falling terms of trade. In cyclical terms, we face big falls in the terms of trade, very big falls in mining investment, a probable stall and possible fall in national income, a still very high but falling currency and ongoing weak nominal growth as well as fiscal instability.
There have been two sensible policy matrices from our eminent economists aimed at managing the problems ahead. The first is by Warwick McKibbin, who has suggested that we both:
- lower the currency asap through targeted money printing and
- support economic growth, incomes and productivity through a large public infrastructure program.
These two make sense together because they simultaneously support weak private sector investment, boost competitiveness through the currency and productivity enhancements and prevent asset bubbles. However, it does risk a widening current account deficit and may leave you still uncompetitive at the end of it.
The second matrix of policy suggestions has come from Ross Garnaut and Peter Johnson who have focused more directly upon the issue of competitiveness. Garnaut argues that a nominal exchange rate adjustment (via the currency) is not enough. He sees our lack of competitiveness as so extreme – and it is hard to argue that it is not – that a real exchange rate adjustment is required. That means not only must the currency fall a lot, but as tradable costs rise, wages must not. He argues:
- we should slash interest rates to lower the currency as soon as possible;
- use macroprudential controls if low rates cause credit to rise too fast;
- contain wages through a national program of burden-sharing and
- deploy budget discipline as well as launch an unfettered productivity drive.
Johnson sees the same competitiveness issue but argues that monetary policy cannot serve two masters (addressing both currency and inflation) and prefers that we:
- install capital controls to lower the dollar as soon as possible;
- use interest rates to prevent asset bubbles;
- deploy budget discipline as well as launch an unfettered productivity drive and
- thinks recession is inevitable as a mechanism to lower costs.
My own view is that a combination of the McKibbin and Garnaut approaches is the way to go:
- undertake a moderate, productivity directed infrastructure public spend to support growth, jobs and income;
- slash interest rates to lower the dollar;
- install macroprudential tools to ensure no credit blowoff;
- undertake a national burden-sharing narrative to ensure wages don’t rise. We may not able to get a new wages accord but I would still bring everyone together and reframe the conversation, and
- push for productivity anywhere and everywhere.
This approach ensures assets don’t deflate too quickly as we restore competitiveness in real terms. To my mind it is the basic minimum of policy innovation required, before we even get to tougher questions about Henry Review tax reform, cutting housing speculation incentives and making supply side reforms, increasing savings and taxing resources properly that will help us transition permanently towards a more balanced economy as well as tackle our long term demographic challenges.
Turning to the real world, what do we have from out elite currently?
- the RBA is slashing interest rates too slowly to bring down the dollar fast enough;
- it has explicitly repudiated macroprudential tools thus risking an even bigger asset bubble;
- both political parties are ignoring the adjustment ahead in narrative terms
- both parties are focused on long term spending but little on medium and short term productivity measures
- both parties are ignoring probable ongoing fiscal instability and supporting interest groups over national interests
Where will this lead? It means we face a longer and ultimately more debilitating decline. The lack of redress for the dollar and inflated input costs ensures no big rebound in our tradabale sector investment, exposing us all the more to the mining cliff. Credit and asset prices will bubble up more than they should, inhibiting a tradables recovery and ensuring further hollowing out of the industrial base.
The lack of budget discipline ensures ongoing fiscal instability as promises are repeatedly broken, spending is cut and taxes jacked chronically. This will be an ongoing weight upon private sector confidence as policy fails to cope. It will also be a red rag to the rent-seeking bull as each round of cuts and hikes involves public campaigns by those effected, retarding competition and productivity. With no honest narrative of the issues, government will be reduced to stakeholder management.
In sum, it means a longer and far more destructive path at risk of repeated recessions, the entrenching of rentier capitalism, lower than otherwise asset prices, falling standards of living and broad disenchantment. Whocouldanode?