The very first sentence of the Intergenerational Report says it all:
‘I believe that our best years are ahead of us.’
Translation: ‘Our best years are behind us’.
That’s the sense you get from reading the report anyway. I’ll get to that in a moment. As a national talking point, it’s worth having a look at. But as you’ll see, as an economic document, it’s pretty much useless.
You could draw a similar conclusion from Deputy RBA Governor Philip Lowe’s speech yesterday. That is, monetary policy is useless. Not that Lowe said that himself, but reading between the lines, you get a sense that he knows monetary policy no longer works effectively.
It’s funny, isn’t it? In private companies, if the strategy doesn’t seem to be working, the board often bring in external consultants to make an assessment of what’s wrong.
The fresh set of eyes help to get to the root of the problem quickly and without bias.
You’ll never see that happen with bureaucrats though. The RBA board would never appoint external consultants to advise them on what’s wrong with their approach.
As the old saying goes, when your only tool is a hammer, everything looks like a nail. There’s nothing that monetary policy won’t have a crack at trying to help.
Let’s take a look a Lowe’s speech and its implications for Australia’s Economy…
He starts off by making the point that global monetary stimulus has been unprecedented, yet risk free rates are negative in many parts of the world and inflation is subdued. More to the point, economic growth hasn’t responded to monetary stimulus in the way you would expect it to.
Not exactly what the textbooks would say, Lowe points out. So why isn’t monetary policy working?
I seriously can’t believe we’re having this conversation, but Lowe ponders whether it might be because there’s too much debt in the world.
‘Perhaps the single most important factor explaining this is the very high levels of debt that exist in many advanced economies.’
Geez Einstein, how long did it take you to work that out?
The thing is, Lowe prefaced it with ‘perhaps’. If he did otherwise, making the statement more definitive, he would have to admit that the power of monetary policy in a high debt world is severely curtailed. At best, it can only prevent a crisis…but it certainly can’t promote an economic recovery.
What does it mean for Australia?
Well, Lowe reckons the dollar is higher than it would otherwise be and interest rates are lower…all thanks to globally low rates forcing capital to chase yield. And this has pushed up Aussie asset prices, as show in in the chart below:
Click to enlarge
Of course, Lowe says these rises much be watched ‘carefully’…which means the RBA is pretending to care about the risks to financial stability but won’t do anything about it.
He then says that consumers aren’t responding to lower rates in the way they used to. Instead, they are paying down debts and saving more.
This is bollocks…
Mortgage debt-to-GDP is at or near record levels in Australia. And the ‘savings ratio’ is a residual number produced by the national accounts and not reflective of the level of real saving by households at all.
Lowe doesn’t want to admit it, but monetary policy isn’t ‘working’ in Australia because we too are in too much debt.
It’s the same old story and one that I’ve been banging on about for a while. That is, monetary policy is done helping the real economy. All it’s doing now is rewarding the speculators.
If you’re invested in the market, that includes you. Everything is a speculation these days. Asset prices are more dependent on the whim and judgement of central bankers than good old economic fundamentals.
I’ve started working on a strategy specially designed to lower the risk of investing in this type of speculative environment. I hope to tell you about it soon.
Meanwhile, let’s have a quick squiz at the Intergenerational Report. I’m not going to go through all the projections and where we might be in another 40 years. You can read all about that elsewhere.
What I do want to point out though is why you should take the numbers with a very big grain of salt. This is why I think the budget and Australia’s economic future will be much worse than the report’s numbers currently predict.
Don’t expect the government to tell you this though. And don’t expect any political party to do anything about it. As I’ve said before, it takes a genuine crisis to get genuine reform. Looking at our current trajectory, a crisis for Australia is just a matter of time.
Under the ‘proposed’ policy settings (best case scenario), the report estimates that the budget will return to a sustained surplus from 2019-20 until 2054-55.
This is ridiculous. Here’s why…
The projections estimate that government spending will increase 2.7% per year over the next 40 years. This would leave government spending as a percentage of GDP at 25.9%, well above 1974-75 to 2013-14 average of 24.7%.
How is the government going to spend more and still run an enduring surplus? Firstly, by taxing you more. My mate Kris Sayce knows exactly where the government is heading to get their hands on some cash.
More to the point, these mythical surpluses are more a result of heroic assumptions. Check these out, directly quoted from the report:
‘Projections in this report assume that the economy returns to full employment over the next seven years and then remains at full employment over the remainder of the projection period.
‘Nominal GDP is projected to grow at an average of around 51⁄4 per cent a year over the projection period, unchanged from the 2010 report.
‘Wages are projected to grow at around 4 per cent, consistent with domestic inflation and productivity growth of 1.5 per cent.’
On the one hand, you have a central bank bureaucrat trying to tell us that we’ve just moved into the twilight zone as far as economies and monetary policy are concerned, and the growth of yesterday is very unlikely.
And on the other, you have a bunch of government bureaucrats using historical assumptions to make long-term budget projections…assumptions that are clearly no longer relevant in a warped monetary world.
The conclusion here is that the adults in charge still have no idea of the challenges they face. It’s going to get embarrassing for them.
Of course, you can ignore all this and just buy stocks in the hope that ‘pushing on a strong’ monetary policy will keep markets levitated.
My strategy is to go for the down and out stock and look for a recovery story. That’s what I focussed on in this report. I first published it few weeks ago, and since then the stock I tipped is up around 25%.
I think it still has a long way to go, and judging from the recent update, the company is on the right path. To get access to my research, click here.
for Markets and Money