Australia’s Economic Future: ‘Group Hug…or Human Shield?’

As you know, I regularly get stuck into politicians and central bankers in The Daily Reckoning. That’s because, for the most part, they’re a bunch of self-centred and self-serving phonies. I know of no other profession where people label themselves ‘right’ and ‘honourable’, yet behave, for the most part, in complete contradiction to these terms.

But today we should give them the benefit of the doubt. Well, not all of them, and not because there’s a sudden emergence of right and honourable behaviour…but because the need for political survival is shifting the political debate.

This is a good thing. Politicians can either pretend that nothing is wrong or they can look on the horizon and see what’s coming. If they see a storm approaching, they’d do well to warn you about it and make arrangements to stay safe.

What am I going on about?

Well, in the past two days, both the PM and Treasurer have made some interesting announcements. The PM discussed reforming the tax structure as it relates to the system of Federation. And yesterday, Treasurer Joe Hockey said that both monetary policy and fiscal policy have reached their limits and that further growth can only come through structural reform.

Now, you and I both know this to be true. But for a politician to announce it is a pretty big deal. It means they finally realise they can’t carry on with a policy of continual short term stimulus measures in the hope of getting to the next election.

They realise that Australia’s economy faces some very difficult headwinds from China over the next few years and long term structural reform is the only way of dealing with it. You can tell that China is a concern because Hockey specifically repeated the mantra that China’s growth will continue to be strong. He said:

The Chinese economy’s growth, at about 7.3 per cent, is still strong, -certainly off a much-bigger base than was previously the case when growth was higher.

The fact is that China is the second-biggest economy in the world. It is our biggest trading partner and growth will continue to be strong in China.

In contrast, according to an article in the Financial Times, China’s interest bill on its huge debt levels is set to hit US$1.7 trillion this year, larger than the economies of South Korea or Indonesia. While it’s true that this interest bill represents an income stream to some, the economy absolutely requires ongoing strong growth to pay the interest.

Yet that isn’t happening…even at a 7.3% growth rate on a ‘much bigger base’. Research from bank Standard Chartered estimates that one-third of new debt issued in China goes towards paying off existing debt. That’s Ponzi-like and should be a major concern.

Joe and Tony might not let on, but they certainly know about the fragile nature of China’s debt-based growth model. This is why they are scrambling belatedly to generate a national debate about tax and structural reforms that will prove painful to some sections of the community.

Tony Abbott raised the issue of changing the mix between federal and state taxation, bringing the prospect of increasing the tax rate on the GST. It’s true that the current structure of Federation is inefficient when it comes to taxes. The federal government collects the tax and distributes it while the states provide the bulk of the services, like education, hospitals, policing etc.

It makes more sense for the states to collect the taxes if they have expenditure responsibility anyway. And while you probably shouldn’t get your hopes up, doing so would potentially lead to smaller government at the federal level. At the very least, it should create a more efficient tax collection structure.

A cartoon in the Financial Review yesterday summed up Abbott’s motivation perfectly. The caption read, ‘Abbott and the states…group hug…or human shield?

It certainly looks as though the government is taking this path because their budget is in tatters. Given the current budget outlook, without large scale spending reforms, deficits will get much worse in the years ahead.

Handing some budget responsibility over to the states is a way around this issue. Politically, it’s easier than ending tax perks that largely affect the Coalition voter base. Things like negative gearing, capital gains tax concessions and low tax on super and pensions.

The main problem with Australia’s tax and regulatory system right now is that it rewards speculation and punishes productive investment. That’s not a way to generate strong, long term employment and wealth creation.

I mean, employers over a certain size pay payroll tax (tax on employment) and then the employees are hit with another set of taxes (tax on individual enterprise). One of the only ways for employees to minimise their income tax is to go into debt to buy a property, turn it into an income loss, and make up for it via a capital gain…which attracts a concessional tax rate!

Meanwhile, savers and the non-indebted pay full tax rates on already low returns.

I’m not assuming this latest little political dialogue is some sort of panacea for Australia. But when politicians talk about creating a national debate and structural reform, it pays to be engaged and informed.

The risk is that special interest groups will hijack the debate for their own ends…which is how democracy mostly works anyway. If you’re interest group is too small, you just don’t get a look in.

But there is always hope. At election time, it’s what makes us vote one lot out and bring in another — who are basically the same. It’s what Obama ran his whole 2008 campaign on!

But hope is not a strategy. Hoping politicians do the right thing (for whom, anyway?) is asking to be disappointed. Still, you can afford to get a little excited about recent events. It shows that the pollies might be finally starting to take the risks looming for the Aussie economy seriously.

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Greg Canavan is a Contributing Editor at Markets & Money and Head of Research at Port Phillip Publishing. He advocates a counter-intuitive investment philosophy based on the old adage that ‘ignorance is bliss’. Greg says that investing in the ‘Information Age’ means you now have all the information you need. But is it really useful? Much of it is noise, and serves to confuse rather than inform investors. And, through the process of confirmation bias, you tend to sift the information that you agree with. As a result, you reinforce your biases. This gives you the impression that you know what is going on. But really, you don’t know. No one does. The world is far too complex to understand. When you accept this, your newfound ignorance becomes a formidable investment weapon. That’s because you’re not a slave to your emotions and biases. Greg puts this philosophy into action as the Editor of Crisis & Opportunity. He sees opportunities in crises. To find the opportunities, he uses a process called the ‘Fusion Method’, which combines charting analysis with more conventional valuation analysis. Charting is important because it contains no opinions or emotions. Combine that with traditional stock analysis, and you have a robust stock selection strategy. With Greg’s help, you can implement a long-term wealth-building strategy into your financial planning, be better prepared for the financial challenges ahead, and stop making the same mistakes that most private investors do every time they buy a stock. To find out more about Greg’s investing style and his financial worldview, take out a free subscription to Markets & Money here. And to discover more about Greg’s ‘ignorance is bliss’ investment strategy and the Fusion Method of investing, take out a 30-day trial to his value investing service Crisis & Opportunity here. Official websites and financial e-letters Greg writes for:

 


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