Four years ago I named this blog Houses and Holes. Even then it was obvious where we were headed. I had just been run out of Business Spectator following the RSPT debacle during which I had defended the tax against the prevailing editorial line. That was a salutary lesson in Australian “leadership”. I learned that our elites are spectacularly incapable of looking beyond today, are capable of pathological self-interest, and have absolutely no idea what they are doing when it comes to the common or national interest.
It was a bowel-shaking discovery.
And so the blog was founded and took its name from the principle of chronicling (and fighting) the rise of an Australian elite intent on squandering our extraordinary good fortune.
I tell this story today not because the departure of Ford and Holden has proved my basic Dutch disease thesis right. I tell it because the calamitous failure of leadership that has led to this moment is not leaving. It remains firmly in control.
Briefly then, let us survey how we got here, before I attempt to assess where the ill-conceived plans of our betters are taking us.
Without putting too fine a point on it, the Howard Government blew the mining boom. Rather than save the most incredible economic windfall just about any economy, anywhere has ever enjoyed, it squandered the proceeds on tax cuts and middle class welfare.
As well, through much of this period, the Macfarlane-led Reserve Bank of Australia allowed a huge housing bubble to develop around the fiscal largesse. First in Sydney, and then nationally, house prices became a national obsession via conspicuously loose monetary policy (within the high structure).
When the good times ended, the Rudd Government inherited a Budget in structural deficit but also a 150 year boom in mining investment. Rather than blow the boom it exploded itself by proposing and then selling out a mining tax that was designed to prevent the boom from hollowing out the rest of the economy.
Hamstrung by political failure, the Stevens RBA turned to the currency to control the boom and pushed it to astronomical highs. It has struggled ever since to lower the dollar as other central banks have outstripped it on innovative policy amid a global currency war.
All four episodes have egged on a very elevated interest rate structure and thereby an over-valued Australian dollar.
The upshot today is we have Dutch disease. Neh, we have Australian disease. The Dutch had their illness for only a few years and their manufacturing rebounded to new highs when their commodity boom ended. Our manufacturing sector is headed for extinction as a lack of competitiveness is a decade long rubric for the economy.
So, if the history of our macro management is one of short term decisions that prove destructive over time, what can we say about our future? What if we extrapolate this myopic policy-making through the next five years of mounting challenges? Where will we be?
First, the government will brush off the departure of the car industry. It will sell the message that this was an inevitable failure, driven by Detroit, in which we had no choice and no say. It will double-down on house prices and consumption as the new sources of growth, abandoning Budget discipline as it continues to support household incomes through its own borrowing, distributed via more middle class welfare and pork-barreled infrastructure spending.
But behind this, our great post-mining boom adjustment will go on as declining terms of trade and stalled income growth emanate from a slowing China. The mining and now manufacturing investment cliffs will subdue growth for three years and the Abbott Government’s measures will not be enough to stimulate trend growth.
Thus the RBA will keep interest rates very low and do nothing to control the rise of housing speculation. It will ignore sensible calls to emulate the Reserve Bank of New Zealand’s macroprudential tightening and watch as Sydney speculators blowoff prices at a marvelous rate. First home buyers will be collateral damage as the Australian housing market surges alongside global asset markets that are all drunk on similar liquidity. It may even give us a little reprieve if consumers get tipsy too, though they look seriously sober today.
Meanwhile, global interest rate markets will slowly rise and eventually even the housing addled RBA will have to apply the interest rate brakes. Market anticipation of this (which has already started) will keep the currency buoyant, perpetuating the hollowing out process that can no longer be hidden.
Because the housing boom is really only a speculative bubble, driven by low yields on other asset classes, with no real underlying demand, it will roll over quickly when interest rates rise. As housing stalls it will expose the enduring weakness in the underlying economy as mining investment is still falling, the car industry implodes and other tradables fall away on the still overly high currency.
At this point, interest rates will fall again, even further than they did earlier in the cycle. The currency will crash and inflation surge. The Abbott Government will be faced with falling asset prices and rising inflation. Likely, it will apply a renewed first home buyers grant in a desperate gambit to keep the falling housing market aloft. It will also be at war with unions as wage claims rise with inflation. The Labor Opposition will be deeply obstructionist.
Perhaps the Abbott stimulus will succeed for another year. Then again, maybe it won’t, as it’s own Budget deficits will now be running at $50 billion per annum. With no prospect of a return to surplus over the cycle, global markets and the ratings agencies will cut Australia’s AAA rating. That will flow through to the banks funding costs, that are still supported by the sovereign. Interest rates will rise despite the RBA rate cuts as global markets force a current account adjustment onto Australia.
I do not mean this as a forecast. Our famous good fortune may bail out our leaders again. The US may recover strongly next year and cause our dollar to fall heavily. China might send a new wave of investment of such magnitude into Australian real estate that we can trade on ghost cities for another cycle. Mars might conquer earth and declare all debts null and void.
But the departure of Holden is the writing on the wall for our current macroeconomic settings and this story is meant as a cautionary tale imploring our leadership to seriously address our competitiveness predicament now and not later. We are not innocent in this advancing fate. It is not the pre-ordained outcome of some naturally perfect market. We are electing it with our choice of macro and micro economic settings.
Australians are capable of anything, given the right signals. We’re a doughty, pragmatic and innovative people. It’s surely better that we take control of our destiny than it is to wait upon the unintended consequences of other’s actions. We need to fight to preserve and build upon every skerrick of potential production in our economy or we really do risk a generational decline.