The strong Australian dollar is a disaster for Australian manufacturing, and persistent credit restrictions are likely to depress engineering and construction for years.
These are the two big, possibly permanent, losers from the aftermath of the ‘Great Recession’, but watching the action in Canberra there’s a sense of Nero Claudius fiddling on his lyre during the Great Fire of Rome.
Not that Australia is burning – far from it – but profound structural shifts are taking place in this country while our political leaders squabble endlessly and pointlessly about asylum seekers and emissions trading.
This country has indeed come through the ‘Great Recession’ in good shape and our resource industries are looking forward to decades of boom on the back of China and India, but that picture masks some difficult and lasting problems. Every silver lining, it seems, has a cloud; complacency is unwarranted.
In particular the 50% appreciation in the currency from its long-term trading range could drive a manufacturing catastrophe.
Unions and industry groups are calling for government assistance after last week’s closure of local tyre manufacturing by Bridgestone Australia, but the task is too great for that. A thousand flowers will die if the currency continues to rise, or even stays where it is.
In addition to that, we are now seeing a classic post-bubble deleveraging cycle manifest in the structural tightening of credit around the world. Global bank lending is continuing to contract, although there are signs in Australia that business lending is beginning to resume.
But it will not return to the way it was. Much of the securitised lending market has vanished, never to return, and bank capital has permanently increased.
Last week, Leighton CEO and president of the Australian Constructors Association, Wal King, said that despite the Government’s education building plans, firms in Australia would remain under pressure for at least two years because of “tight funding for development and the fall-out from the contraction in global industrial production”.
He and the AIG’s Heather Ridout were releasing a joint construction outlook survey on the same day that Treasury Secretary Ken Henry spoke about the structural changes that will be forced on the Australian economy by a sustained terms-of-trade boom.
The survey predicted a drop of $9 billion in engineering and construction work this financial year. The chief economist of the Master Builders Association, Peter Jones, predicted a 7% fall in employment over the next couple of years.
Last week two senior bureaucrats gave important speeches about the consequences of high terms-of-trade – Ken Henry, and the RBA’s Assistant Governor (Economic), Philip Lowe. The terms-of-trade, by the way, is the ratio of export prices to import prices – that is, export prices divided by import prices.
Lowe pointed out that despite big falls in commodity prices from their peaks last year, Australia’s terms-of-trade are around 50% higher than the levels prevailing in the 1980s and 1990s.
The only other time they have been as high as they are now was when the wool price spiked in the 1950s.
The result of this is that Australia has become, and will probably remain, a very high investment economy: the big contradiction to the story about Australia’s lack of investment in infrastructure that was highlighted yesterday by the Rod Sims of Port Jackson Partners, is mining, which is now 5% of GDP – a record by a big margin.
Also, huge LNG projects are now planned for export to China, on top of iron ore and coal expansion to take advantage of China’s steadily growing steel consumption.
Philip Lowe says the mining booms of the 1960s and 1980s look “relatively small” compared to this one.
Ken Henry said: “Standard economic theory tells us that if the terms-of-trade remain at high levels, not only will the resources sector command more capital and labour, manufacturing and other industries whose relative output prices are declining will command less, even as our total stock of capital expands.
“Furthermore, as the factors of production are reallocated, the pattern of growth will be characteristic of what is often referred to as a ‘two speed economy’; and real wages growth and labour productivity growth will be weak – possibly even negative.”
Many countries are taking action, usually pointlessly, to prevent this reallocation by halting the rise of their currencies against the US. Brazil, for example, slapped a tax on capital inflows; Korea, Thailand, Russia, Indonesia and Taiwan have been buying dollars.
A good start in Australia would be some recognition of what’s going on.
This article first appeared in Business Spectator.
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