The Domino Line Approaches the Australian Economy

We may have some of the world’s most liveable cities, but Australian children (and adults) live a severely deprived life. It’s probably got something to do with the time difference, but the cultural phenomenon of ‘Domino Day’ never seems to feature on Australian television screens. Even when Kylie Minogue received the world’s ultimate honour of knocking over the first domino in 2001, nobody in Australia got to watch, as far as we know.

Domino Day is an annual event where large groups of introverts from across Europe build a gigantic domino chain. And by gigantic, we mean four and a half million dominoes fell in 2009, each set up by hand over months.

From memory, the whole event takes hours to play out. There are special pendulums which last for TV ad breaks and there are backup lines tumbling away in the background in case a line fails. It’s such a serious event that a bird which got into the domino hall was shot a few years ago to stop it from knocking anything over.

It’s no coincidence that the only countries which bother watching Domino Day are Holland and Germany. They are also the two countries surviving the Euro crisis reasonably well (for now). Germans grow up understanding the spectacular nature of the domino effect. The lack of Domino Day screenings around the world leave other economists missing a key part of their education.

What Economist Should Spend Their Time Doing

Maybe participating in Domino Day should be compulsory for Australian economists. It will help them answer the big question of our time: Will the world’s economic woes ever reach Australia’s economy?

We may think our lot in life is a tough one with carbon, resources, alcohol, car and super taxes, but compared to everywhere else, we’re still much better off.

That’s probably what the Europeans thought to themselves back when the sub-prime bubble burst in America. Before they knew it, a domino clipped them in the back of the head and all hell broke loose on the continent too. And it’s still getting worse by the day.

Can Australia’s economy escape the turmoil? The answer is that no run of luck like Australia’s can continue forever. The dominoes are already bearing down on us. And what’s quite clear is how badly the Australian economy could faceplant once our domino does finally tumble.

Dominoes are Predictable

Luckily for Australian investors, we’ve got plenty of inspiration from overseas to give us an idea of what our own crisis might look like. If you’re looking to troubleshoot your wealth’s crisis plan, why not size it up with a foreign crisis?

America’s domino has already fallen, Europe’s is about to hit the ground and China’s has been knocked beyond its centre of gravity. What worked for investors in Europe and America may well work here.

So what lessons have we learned from crises overseas? What should you be doing to prepare yourself as the row of falling dominoes bears down on Australia?

We’ve got some ideas for you below. But before we get to that, is Australia really that fragile?

Well, all the factors that caused crashes around the world are beautifully displayed in Australia’s economy.

  • A budget deficit in the midst of impressive economic growth. (You’re supposed to run surpluses while things are going well.)
  • Our private debt is enormous.
  • House prices make up a huge proportion of Australia’s private wealth, but houses are hugely overvalued.
  • Australia’s banks are absurdly large, with the Commonwealth Bank bigger than all of Germany’s banks combined, and the big four bigger than all of the Eurozone’s banks by market cap.
  • The banks are reliant on foreign funding.
  • Resources curse, a two speed economy, or whatever you want to call it, has made the economy top heavy.
  • An overvalued currency is causing an imbalance in the economy.
  • Ridiculously high cost of living.
  • The burden of vast amounts of regulation and complex taxes.
  • A mortgage scandal
  • A belief in bailouts and Keynesian economics
  • Dodgy leadership

Each of these features triggered crises in countries around the world. Australia has all of them, except Silvio Berlusconi.

So what’s the solution? Here’s one option taken by a Markets and Money reader:

‘Hi Guys

‘I would like to thank you for the impressive insight you have given me over
the last few years.

‘I am stopping my subscription now because I know you are right and wish to
concentrate on my latter years gardening and ignoring the world in general.

‘Thanks for all the info in my time with you.

‘Cheers and keep up the good work’

Achieving a level of financial independence from the world and then turning to gardening is the ultimate retirement plan, in our opinion. That’s assuming your gardening features food production.

But back to what we can learn from the dominoes that have already fallen? Even the gardeners will want to pay attention here.

Lessons Learned the Hard Way

The first lesson was currency moves. As a crisis emerged, the world flocked to the US dollar as a safe haven. This reflex was so strong that even though the crisis began in the US, it still happened.

If a crisis breaks out again and Australia is sucked in this time, the Aussie dollar could easily fall more than the 30% it fell during the GFC. If you’re trying to crisis proof your wealth, that’s as much of an opportunity as a threat. Investments priced in foreign currency, like gold, would jump in Aussie dollar terms. The lesson is to diversify yourself into international assets.

Of course, gold is also a brilliant crisis investment in many other ways. With so many small investment companies failing across Australia during the good times, imagine how many will fail when things get nasty. There are plenty more Banksias and Angas Securities waiting in the wings. If you own gold, you don’t have to worry about things like that for part of your wealth.

Stop losses are a powerful tool you can use for most of your investments to avoid being caught up in a major crisis. They’re predetermined points at which you give up on your investment and sell out. The idea is to avoid holding on during a crash. But if you use stop losses, you must be willing to buy back in when things seem at their worst. Otherwise you’ll miss out on the rally after the crash.

The link between fragility and complexity is perhaps the most important lesson that you should keep in mind. It’s also a little difficult to understand. The more complex something is, the more fragile it becomes. In times of crisis, you want to avoid fragile, which means keeping things simple.

That means no margin lending, derivatives, funds, or anything you don’t fully understand. The more links in the chain, the more likely one of the links is weak. Stick to straight forward investments and ways of investing like dividends, small-cap speculation and cash in the bank.

The least glamorous way of dealing with a crisis is also the most effective. Why not try and reduce your spending while your investments aren’t succeeding? Responsible people spend less if their regular income falls, why shouldn’t the same apply to your investments? It’s much easier to save a dollar than make one in the stock market. Keeping your spending and your wealth in balance is common sense really.

Those are just a few quick ideas you could implement in a day. In the Money for Life Letter, we explore some more powerful strategies you might like to use to keep your retirement nest egg crisis proof.

That doesn’t mean investing for retirement is a laborious, boring process though. This week, Money for Life Letter subscribers learned about how exciting small-cap speculation can play a key role in even the most conservative retirement portfolio.

The crisis that will eventually envelop Australia may seem far away. But the dominoes are tapping away in the background and getting ever closer. It’s time to take a look at your wealth and see how it would have fared in America’s and Europe’s crisis. You may want to make some changes.

Nickolai Hubble.
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