The elite have no clue about Australia’s real problem

From Chris Richardson via the AFR:

After the Queensland election every political strategist will be telling both sides to batten down and not do anything – because doing something runs the risk of losing votes. Shame there’s still a country to run.

…So yes, (1) things are bad, and (2) the politics of the moment means they’re likely to get worse. We are back to deficits as far as the eye can see.

Australia looks to me like a nation that can’t handle the truth. The truth is that a temporary boom has come and gone, and a sustainable path for our national social compact requires some tough decisions. When even the Greens oppose sensible fuel tax policy – the restoration of indexation to fuel excise – it is clear something is wrong with Australia’s political processes.

Got this back to front, Chris. The pollies are playing politics with the economy. That’s why they’re getting booted. The government has been pulling favours for mates, not doing reform. There was virtually no structural reform in the Budget. The opposition parties are all doing what Abbott did to win power.

The electorate is dying to hear the difficult truth that’s staring us all in the face. They know the economy has gone wrong, that’s why they’re still saving like nobody’s business despite financial repression. The more they’re told otherwise, or sold rent-seeking dressed up as reform, the more uncertain they get.

The IPA’s John Roskam is the problem not the solution, also at the AFR:

Tony Shepherd, the former president of the Business Council of Australia, could have been talking about the election result in either Queensland or Greece when he said the “philosophy of tax, borrow and spend is being rewarded”. As it was, he was talking about Queensland.

Not surprisingly, left-wing commentators have welcomed Campbell Newman’s defeat. For them it’s proof “Austerity is Dead” not only in Athens and Madrid, but also in Brisbane. If Queensland does go broke, Brisbane could claim from Melbourne the title of Australia’s most European-like city.

…After the Queensland election Tony Abbott said “the lessons are not to give up on reform, but to make sure that everything you propose is fully explained and well-justified”. He’s right.

The Business Council budget review wrecked the government so not a great idea to throw your lot in with them. Abbott didn’t do productivity reform at their bidding, he did redistribution of income from the poor and middle classes to the rich. This despite Australian labour productivity rebounding nicely while capital productivity, your mates job John, is disastrous owing to over-consolidation in every sector, capital siphoned into a housing bubble, and a mining investment bubble chock-o-block with white elephant projects. What Australian needs is radical pro-competition reform not the slamming down of minimum wages (and I’m favour of IR reform for small business).

But it gets worse. Also at the AFR, John Abernathy wants Australian quantitative easing:

Clime director John Abernethy said the RBA’s move on Tuesday to lower the official cash rate to a record low of 2.25 per cent, from 2.5 per centshows “it is fighting to maintain control over the Australian economy” and “pre-emptive quantitative easing” (QE) is what is needed to drive growth.

“Since 2010, there has been little evidence to suggest that low interest rates will either stimulate credit growth or drive consumption demand in any country that has adopted near zero interest rate settings. Economic theory says that it should – but it hasn’t happened.”

…”Actually what we need is a complete rethink of fiscal policy. We have a government that is still seeking to consolidate the budget bottom line. It is the wrong time trying to make budget cuts. If anything, now is the time to consider using cheap money to build better infrustructure for the future.”

Australian can’t do QE, I’m afraid. We still run a sizeable and growing current account deficit. We’ve really no need to do it anyway. Rate cuts to 1% will push the Aussie to 60 cents. If that’s coupled with firm macroprudential then it’ll work.

As for borrowing for infrastructure, even if you print the money, the bonds won’t be separate from the sovereign rating. They’ll be implicitly guaranteed by by it, just as are state, local and bank debt. It’s general government debt that the rating agencies look at. Moreover, the yield on long term debt is already 2.4%, free in real terms.

Which brings us to real truth, also the AFR:

Ratings agencies say the Abbott government will need to deliver further spending cuts or tax hikes to ensure Australia maintains its AAA credit rating over the longer term.

While the sovereign ratings that help keep the government’s cost of borrowing low are under no immediate pressure, Canberra cannot afford to adopt a hands-off approach to budget repair because of lower commodity prices.

One of the agencies cautioned that while the current level of state and federal debt was well below other AAA-rated countries, there was less scope for an increase than elsewhere because of high household liabilities, offshore borrowings and commodity prices.

Here’s the unpalatable reality. Australia’s growth straight jacket is tightening. We live high on the hog by leveraging commodity income via huge offshore borrowing for mortgages. The lynch-pin is the Federal Budget, which transmutes the commodity income into low taxes and guarantees the leveraging.

As the income diminishes, pressures mount to reverse the low tax take and interest rates must keep falling to offset the resulting crimped household budget. At some point in the not-too-distant future, the monetary tank runs dry but still falling commodity prices demand further austerity or the deficit blows out. Sooner rather than later the AAA rating is stripped and the cost of all the offshore debt rises, asset prices begin to fall and Australia’s happy little asset wealth redistribution mechansim – housing – collapses.

The way out is repairing competitiveness to drive external demand and the more you manage to do that by raising productivity the less you have to do it via internal and external deflation. But it must done in a way that absolutely protects households and the vulnerable as much as possible or the above unwind will take down the economy.

We’ve set up what Michael Pettis calls the “inverted balance sheet”. Magnificently pro-cyclical. Disastrously pro-cyclical. Until someone wakes up to it, we’re going to dance right off the cliff.

Houses and Holes

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