Does the Australian Economy Have the Stomach for Reform?

I’ve put in a request to have your daily email renamed ‘Ye Olde Markets and Money’. That’s because of my quaint and doltish focus on data like the trade balance, things that don’t really matter anymore but are still fun to monitor.

Yesterday, the Australian Bureau of Statistics (ABS) released trade data for the month of May…and it was a shocker. Instead of an expected deficit of $200 million, it came in at a whopping $1.9 billion. Following a series of surpluses in the early part of the year, this is the second monthly deficit and will drag down second quarter economic growth unless we see a big turnaround in June (unlikely after the big falls in the iron ore price).

The Australian stock market certainly didn’t care about the trade deficit. It surged higher yesterday on…we’re not sure what…probably short covering. In the past three weeks we’ve had three such vicious rallies, all of which ran out of steam pretty quickly. Will this one be different?

Phillip J Anderson, Port Phillip Publishing’s newest recruit, no doubt doesn’t care about quaint notions like trade balances either. Phil looks at cycles, and he couldn’t care less what happens in the meantime.

I’ve just finished his first issue, and it’s an intriguing read. For Phil, it’s all about the real estate cycle. The monetisation of land value via debt is the key to understanding how these cycles work.

‘The land market, and the credit created against it, is what drives the real estate cycle, which drives the economy, which ultimately drives stocks and property. If you do not understand the land market, then you are blind to the risks you are taking when you invest.

‘At the very heart of the real estate cycle, chasing the unearned wealth that is the economic rent drives most real estate investment (speculation). The banks love this process. Banks capture this economic rent via mortgage payments — creating credit against the land price. Land price, is, in reality, the capitalised annual rental value of the land.

‘This means banks have become a far larger (now enormous) part of the economy than they otherwise should be. We are, in effect, mortgaging the earth to them. It’s a very profitable system for those who control it.’

Until they blow it up, which they inevitably do. Phil reckons the next explosion isn’t due for a while, so get on board. If you’re interested in Phil’s ideas, click here.

But let’s get back to Ye Olde Markets and Money, and wring our hands over old-fashioned notions like economic prosperity and budget sustainability.

Funnily enough, the old pugilist Mark Latham got me thinking about this after reading his piece in the Financial Review today. Latham points out that in life, as in markets, people think the past is prologue.

‘In public opinion, it is widely assumed the economy is running itself and our future prosperity is guaranteed. No matter how frantically governing parties ramp up their rhetoric about the importance of economic management, few people are listening.’

In other words, we’ve had it too good for too long. This is not a new claim. But Latham makes the point to introduce a new essay by former Rudd economics adviser Andrew Charlton called Dragon’s Tail. Charlton says we’ve been enjoying a ’precarious sort of prosperity’…the result of a big fat Chinese credit boom that resulted in a huge misallocation of (our) resources.

Now, the Dragon’s Tail could come back to smack us in the face. The upshot of Charlton’s essay is that we need a major period of microeconomic reform…something the electorate is just not up for.

Well, what you want and what you get are sometimes two different things. The government understands the predicament, but don’t know how to implement reform without getting the electorate’s nose out of joint. That’s because we’ve got a bozo in charge of things, a leader that the Australian public has no intention of following, at least not closely.

So what do you do when your leader can’t sell an unpalatable future? You push an unelected bureaucrat up to the podium to have a crack…

That’s what happened yesterday when Treasury Secretary Dr Martin Parkinson gave a speech at a mining conference in Perth. He used the occasion to basically say Australia’s economy is moving into a low growth phase, and unless we reform our taxation system, things are going to get worse.

In the past decade or so, poor productivity has not impacted our ability to grow incomes. But that happy phase is now over:

‘Despite a significant slowdown in productivity growth, average incomes in Australia have grown at among the highest rates of OECD countries over the past decade. That’s largely due to the rising terms of trade and associated appreciation of the exchange rate.

‘We can no longer rely on rising terms of trade as a source of income growth. In addition, the ageing of the population will place downward pressure on income growth from increasing workforce participation.

‘In the medium term, income growth will therefore largely be determined by our success in raising our productivity.’

Dr Parkinson reckons that if labour productivity grows at its long run average, future income growth will be just 1% per annum, half of what we have become accustomed to.

So we need to work on productivity growth. How do we do that? Reform…starting with taxation reform.

‘It is hard to overstate the need for reforming the tax system. If our public finances are not placed on a sustainable footing, tax reform becomes more difficult as time passes.

‘Our tax mix is heavily weighted toward direct taxes on income — personal and corporate. If we were to leave our tax rates and bases as they are, our reliance on income taxes would grow over time.’

Ken Henry provided a good basis for taxation reform back in 2010. The government at the time ignored all the proposals, and twisted the proposed resource rent tax into the bungled super profits tax. The one the current government just got rid of it. What a debacle…

Do we have the stomach for reform? I’m guessing we don’t. Australia’s economy is too caught up in the myth that debt = wealth to care about the serious long term issues that face the country. As a proud Aussie, I’m increasingly disillusioned with where this country is heading.

More than likely, Australia will have some sort of crisis before the wider population realises the magnitude of the hole that we’re digging for ourselves.

Only then will we realise what is going on. And at that point the job will be so much harder.


Greg Canavan
for Markets and Money

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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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