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The two speed economy, debt and the fantasyland federal budget.

May 17th, 2010 · Greg Atkinson · 39 Comments

Now that the major stock markets around the world are falling the Australian media have become obsessed with the concept of a “two speed economy”. I am not sure who first started using this term, maybe it was the gurus at the Treasury or the Reserve Bank, but in my view there is no such thing as a two speed economy. The situation we have now is that the economy has simply been mismanaged.

As I have stressed many times, the Australian economy has so far avoided a major a recession because it is unbalanced. If the nation had a significant manufacturing exporting sector we would have seen GDP contract similar to what happened to our friends in Canada.

So we don’t have a two speed economy, we just have an economy being propped up by mining, housing and public sector spending. The two speed economy talk is just a convenient way for policy makers in Australia to avoid any criticism regarding the mess they have created.

The government also helped keep the GDP numbers in positive territory by blowing the billions they inherited from the previous government and then by borrowing and spending billions themselves. So it appears that the people managing the Australian economy reckon the way you deal with a debt crisis is by getting into more debt.

Now this may not be such a bad approach if the money that is spent will help the nation be more productive in the future. But as the media has finally realised and as I wrote about more than year ago, the economic stimulus spend-a-thon in the lucky country has been a colossal waste of money. In 10 years time we won’t be getting any productivity gains from outdoor covered learning areas or imported sub-standard roofing insulation.

There were plenty of other ways the economy could have been supported without the need to borrow as much. For example back in December 2008 in Actions to stimulate the economy in 2009 and beyond I wrote:

“There is no doubt that companies would benefit from a tax cut so let’s do it. Who cares what the average OECD corporate tax rate is unless we want to be an average OECD country. I am not sure by how much the rate should be cut, but let’s say around 5% and make sure we encourage companies to invest serious money in R&D so we do not become the thickheads of Asia. In addition if a company meets certain “green” criteria such as reducing pollution and recycling water, then they should be entitled to an additional reduction in tax.”

Now some 18 months after I wrote about cutting taxes the government has decided that in a few years time something like that will be implemented. But they cannot cut taxes enough and encourage R&D because they now need to pay down debt.

So rather than Australia being a smarter nation in the years ahead, it is likely we will be importing even more technology and fall further behind our Asian neighbours in terms of R&D spending.

In fact I would argue that the government cannot really afford the planned company tax cuts and this is one reason they are trying to hit mining companies with another tax. Don’t be fooled by the argument that the mining tax will help fund the extra money going into Superannuation, because that is complete nonsense.

The mining tax is being implemented because there will be a big hole in the government budget without it and actually I reckon there will be a big hole in the government budget even if the ming tax is implemented, simply because it is borrowing and spending too much.

This leads me onto the 2010 fantasyland budget handed down by Wayne Swan, the man who once claimed he had put the inflation genie back in the bottle.

Well Swanny the inflation genie is out of the bottle and doing just fine. The state governments are cranking up charges wherever they can, interest rates are climbing and house prices got a nice boost upwards thanks to your cash handouts to first home buyers.

Swan might not be the sharpest economic mind of our time, or any time for that matter, but he is a determined fellow and despite a string of failures and a record of under achievement, he has bounced back to promise he will balance the books in just a few years!

His claim is backed up with lovely charts and figures from The Treasury, the same folks who were surprised that the increase in the luxury car tax delivered less money to the Government than they thought because the demand for luxury cars decreased.

Yet the same twisted logic that they applied to the luxury car tax is at work again with the super profits mining tax. The Treasury reckon that they can crank up the tax on successful miners and that these companies will simply be happy to take it on the chin.

What the bureaucrats have not factored into their spreadsheets is that the companies that would be paying the new mining tax make large profits because they are good at what they do. This means they can take their expertise and funds to anywhere on the planet and that is what they will do if they feel they cannot get good enough returns in Australia from their investment.

There is no doubt that some planned mining projects in Australia will be shelved as a result of this tax and some mining company executives have already stated that this will happen. I wonder if the cancellation of projects was factored into the new mining tax modelling?

But let’s leave the mining tax grab alone and look a little more into how the government will balance the books.

In Swan’s world (and the world of the Treasury) China will keep buying our iron ore and coal etc. in vast amounts at the crazy high prices the miners are currently charging. The budget does make any provision for falling demand from China and assumes commodities prices will remain at record high prices.

So in Swan’s fantasyland budget, China’s economy keeps growing at least 5% a year, the economic problems in Europe don’t impact Australia at all, the Government keeps spending and company taxes are cut.

But wait, there’s more! Not only will the budget be balanced in just a few years but the government will also start to pay down debt, give people more money for their retirement and then at some point get back to saving the planet by implementing the delayed Emissions Trading Scheme! Hooray for Swanny!

Supporters of the budget will say I just don’t have a good grip on how strong demand is from China, but a quick look at the stock & commodities markets today suggests that I am not the only one not buying into Swan’s optimistic view of the economy.

Maybe the budget forecasts are correct, but I doubt it and the repercussions for the Australian economy if they are wrong will be severe.


39 responses so far ↓

  • 1 Greg Atkinson // May 19, 2010 at 9:56 am

    The rumblings about the Chinese economy being in a bubble grow louder every day. Even the Australian press are talking about it: Fears China’s economic bubble may burst

  • 2 Futureproof // May 20, 2010 at 6:55 pm

    I didn’t know that tarot cards, astrology and the study of powerball draws were accepted Treasury modelling methods. How wrong I was.

  • 3 Vince L // May 20, 2010 at 7:15 pm

    I hear they also read tea leaves and howl at the full moon. It seems The Treasury use a wide range of models.

    I wonder how far off the mark their forecasts will be?

    Will Henry resign if his mining tax does not deliver the goods?

  • 4 Greg Atkinson // May 21, 2010 at 7:36 am

    Well I wonder if Ken and his merry men at Treasury factored in the $AUD falling off a cliff?

    Did the all-seeing RBA prepare for this latest round of market turmoil? Maybe Glenn Stevens raised interest rates too fast and too far?

    The budget forecasts will come unstuck if the current market turmoil goes on much longer!

  • 5 Firebug // May 21, 2010 at 7:43 am

    The question is whether they prepare to cut the interest rate as fast and hard as they raised it?

    Won’t it be a slap on their own faces it they end up having to cut the rates?

  • 6 Anon // May 21, 2010 at 8:01 am

    Rates wont be cut for awhile…rates are not overly high compared with historical standards…and housing can take awhile from prices falling to affecting financial institutions etc. Also China has not rolled over yet – yet everyone is speculating it is going to.

    Dont let panic freeze your ability to pull the trigger.

    None of my posts constitute financial advice – so do not act on it in that manner. Its just chit chat. Always see a financial advisor for decision making / advice / info.

  • 7 Greg Atkinson // May 21, 2010 at 8:10 am

    Firebug the RBA is stuck in a rut as they say. They can’t really raise rates now with business and consumer confidence falling nor can they really lower them yet as this would send the AUD crashing down.

    Mind you it isn’t all their fault, the Government helped create a mess by leading people into housing and encouraging everyone to spend at a time when the wise option would have been to bolster national savings.

  • 8 Biker // May 21, 2010 at 9:03 am

    “Firebug the RBA is stuck in a rut as they say. They can’t really raise rates now with business and consumer confidence falling nor can they really lower them yet as this would send the AUD crashing down.”

    So imagine _Obama’s_ problem!~

    And maybe the ANZ’s actions in offering fixed rates lower than variable show remarkable foresight.

  • 9 Ned S // May 21, 2010 at 10:57 am

    “the Government cannot really afford the planned company tax cuts and this is one reason they are trying to hit mining companies with another tax””

    Kev couldn’t get the world to back him on ETS taxes so he had to find the loot elsewhere – A “super tax” on miners sounded like a politically acceptable option I guess. Plus a lot safer than asking Swanny to try and understand any more than one or two of the 138 recommendations in the KHR this term! 🙂

  • 10 Greg Atkinson // May 21, 2010 at 11:14 am

    Ned I would benefit from a lower company tax rate but Australia simply cannot afford it now. I also don’t want to see one sector of the economy hit to pay for tax cuts handed out to other sectors.

    Rudd and Swan are dangerous clowns. If you cut tax rates for companies then even foreign owed companies in Australia will benefit and are free to send even more of their money offshore!

    Don’t forget we support foreign owned car makers in Oz with taxpayers money…so Rudd & Swan’s logic is really twisted.

    So what are they trying to achieve? Are they trying to stop money going offshore? Spread the mining profits around? What?

    If they want to spread the mining profits around then they should appreciate it already happens. It is called Super, and if you have Super then the chances are that you are tapping into the mining profits anyway. Or people could stop buying imported flatscreen TV’s and grab some shares in BHP. In addition the companies already pay royalties and normal corporate taxes.

    But no, in Australia some people now want a free slice of the action for doing zip and taking on no risk.

    Want to have 2 cars, take an overseas holiday and not save a cent? Well don’t worry, because Kev07 and Swanny will bail you out.

    Problem is they are bailing people out with borrowed money!

  • 11 Ned S // May 21, 2010 at 12:04 pm

    “what are they trying to achieve” – They are attempting to use the tax transfer system to achieve their social objectives Greg 🙂 – Our to put it in the vernacular; To redistribute the loot where they figure it will buy them the most votes!

    The fact that neither you nor I (or even Henry), figure their social objectives are the way to go in the long run, would seem to be a bit of bad luck; Given that Oz is a welfare orientated democracy. Heck, even Abbott reckons it’s a good idea to take money off big business to buy votes.

  • 12 Biker // May 21, 2010 at 2:56 pm

    “So what are they trying to achieve?”

    Curious, isn’t it? It may be that their perceptions of good government may include low unemployment, a stable tax base, preservation of Aussies’ largest asset(s) and support for construction. Short-term thinking I know… and calculated to fit within the timeline of an election term.

    Have never forgotten Ned’s link, showing the ACT as Australia’s ‘most successful’ economy, based on construction. China also seems to be adopting that policy, among others.

    Bonner’s recent perceptions on China are quite remarkable, having evolved significantly.

    I expect it will all end in tears… but whose?

  • 13 Greg Atkinson // May 21, 2010 at 3:28 pm

    I wonder if they have given any thought to creating an economy that adds value to what it digs out of the ground?

  • 14 Ned S // May 21, 2010 at 3:57 pm

    “preservation of Aussies’ largest asset” – Yes, 70% of our “wealth” is in housing apparently.

    I see the lower house price lobby have caught on to making the case it is an “unproductive” asset class – Can be argued both ways I guess. But until the nebulous “someone” can give some sort of assurance that long term stock market investments are actually likely to return a profit or come up with a good reason why I’d want to invest in any countries’ bonds so I can fund them to pay their public servants and their charity cases more than they can afford based on their own tax collections, I’m a housing and cash type of bloke. Who’ll look to reduce tax by all legitimate means.

    “creating an economy that adds value to what it digs out of the ground” – That’s too hard for us Greg. We have lots of difficulty finding people who are smart enough, or hard working enough, to even dig it out of the ground in the first place. (I read recently that 50% of Aussies don’t know what 50% is – In the context of bemoaning the fact it’s a bit difficult trying to help them understand their super better.)

  • 15 Noosa Accommodation // May 21, 2010 at 8:55 pm

    oh my head hurts this week. Too much thinking and plummeting share market & AUD. Interest rates will head on the same southerly pattern that the dollar is on…surely.

  • 16 Greg Atkinson // May 22, 2010 at 8:12 am

    Noosa I think the RBA will probably take the safe option and sit on their hands for a while. I can’t see how they can cut rates yet because inflation is becoming a worry and they would be crazy to push rates higher in the midst of this mess.

    But then again, who really knows?

  • 17 Greg Atkinson // May 23, 2010 at 8:08 am

    Oh no, Ross Gittins has now chimed in and is talking about a three speed economy. See: Henry’s bike has three speeds

  • 18 Senator13 // May 29, 2010 at 2:28 pm

    I found this to be an interesting statement. What would others make of this?

    Senator CAMERON—I note your opening address where you have tried to bring us back to the key aspects of the government’s response to the global financial crisis. You indicated that macroeconomic policy was principally responsible for the recovery. There has been a lot said recently about the role of the mining sector in the resilience of the economy. There is an argument being pu that the mining industry played a pivotal role in the recovery. What was the role of the mining industry both in terms of the resilience of the economy and employment?

    Dr Henry—I have heard it said on a number of occasions, in fact I have lost count of the number of times I have heard people say, including senior commentators, that the mining industry saved Australia from recession or, even in less extreme versions of the statement, that the mining industry contributed strongly to Australia avoiding a recession. These statements are not supported by the facts I would have to say. As senators know if
    one defines a recession as two consecutive quarters of negative growth then it is true that the Australian economy avoided a recession but the Australian mining industry actually experienced quite a deep recession on that calculation.
    In the first six months of 2009, in the immediate aftermath of the shock waves occasioned by the collapse of Lehman Brothers, the Australian mining industry shed 15.2 per cent of its employees. Had every industry in Australia behaved in the same way, our unemployment rate would have increased from 4.6 per cent to 19 per cent in six months. Mining investment collapsed; mining output collapsed. So the Australian mining industry
    had quite a deep recession while the Australian economy did not have a recession. Suggestions that the Australian mining industry saved the Australian economy from recession are curious, to say the least.

    The full text can be found at: http://www.aph.gov.au/hansard/senate/commttee/S13174.pdf

  • 19 Greg Atkinson // May 31, 2010 at 1:20 pm

    Well Ken Henry really is in his own world. Hasn’t he looked at the the trade figures put out by the ABS? I recall not that long ago that the Government use to talk about how China and mining exports helped Australia avoid a recession, as did the RBA.

    Henry has lost it and I can only surmise he is thinking of a political career at some point. He has certainly become too vocal for a public servant on political/policy matters. Time for him to pull his head in.

  • 20 Ned S // May 31, 2010 at 2:00 pm

    “Time for him to pull his head in.” – I agree!

    Unfortunately it seems he couldn’t resist the temptation to open his yap in response to some early allegations that Treasury might secretly be happy if the mining tax cooled the economy down a bit?

  • 21 Ned S // May 31, 2010 at 4:58 pm

    I don’t have an informed opinion one way or the other on the mining tax, but Yes, it sounds like it would be a bad one to get wrong:

    “It is the biggest gamble ever seen in this country. At stake is much more than the survival of the government. At risk is an industry which Access Economics reports has investment projects of $105 billion under way and a further $185bn of projects on the drawing boards.”

    http://www.theaustralian.com.au/business/opinion/henry-wrong-to-assume-unconstrained-capital/story-e6frg9qo-1225873232725

    And my guess is that even dyed in the wool ALP supporters must be having a few niggling if unspoken concerns with the fact the decision is being made by Kev and Wayne.

  • 22 Greg Atkinson // Jun 1, 2010 at 12:56 pm

    Well the Chinese economy seems to be cooling as I have ranted on about for some time, so this might get the Australian economy back down to one speed..i.e slow. China’s manufacturing growth slows: official report

    Not a great time to be having a fight with the miners and putting out budget forecasts based on a mining boom!

  • 23 Ned S // Jun 1, 2010 at 1:05 pm

    I will be curious to see how many Aussies vote for more of the same.

  • 24 Firebug // Jun 1, 2010 at 4:33 pm

    We could get worse than the ALP though, if the Greens get a bigger say in this country

  • 25 Ned S // Jun 1, 2010 at 8:01 pm

    If the Greens get a bigger say in this country I’m going to “emmigrate” to Tassie and buy an f’ing chainsaw – Plus a goldmine on a pristine creek where I use mercury and cyanide for processing purposes! 🙂 And burn all the logs I cut down for cheap heating and lighting and cooking in winter – As well as in summer … Those I can’t find a market for as woodchip anyway!

  • 26 Anon // Jun 1, 2010 at 8:57 pm

    Key words are cooling not crashing. Seems like the consensus is for China to crash – I am not in agreement with this (at least not this year).
    Resources look incredibly cheap here. Look at BP!! ~18% fall in one day…a bargain! Contingient liabilities take so long to appear and then settle…could be decades! In the meantime BP will continue generating 9-10bill FCF annually 😉 and give loyal shareholders a 10% yield p.a. !

    Mr Market is nuts.

    This is not advice (or any of my posts)! Always seek a financial adviser to tailor advice to your particular circumstances!

  • 27 Ned S // Sep 26, 2010 at 12:47 pm

    Isn’t Freedom of Information a right royal pain in the pants! 🙂 :

    http://www.theage.com.au/business/treasury-brief-reveals-household-debt-concern-20100924-15qnn.html

  • 28 Greg Atkinson // Sep 28, 2010 at 12:12 am

    Looks like I am not the only person who reckons the budget forecasts are shaky. Access Economics also has some serious doubts according to this article: Budget an ‘accident waiting to to happen’

    @Ned S – yes, Australian household is a concern as we have been discussing on this site for a while. If the Chinese economy hits some bumps then things in Oz could turn very nasty very quickly.

  • 29 Biker Pete // Sep 29, 2010 at 5:32 pm

    “Well the Chinese economy seems to be cooling as I have ranted on about for some time…”

    You don’t believe that the Chinese _choosing_ to cool growth is a proactive, desirable strategy… say compared to the US, where the cooling is the result of extreme economic/political/military mismanagement, Greg?

    It’s my view that any ‘bumps-in-the-road’ will be speed-bumps deliberately initiated to keep the giant on its 100-year-track.

  • 30 Greg Atkinson // Sep 29, 2010 at 9:37 pm

    Biker I believe that the Chinese leadership is trying to remain in power, keep the masses happy and somehow maintain stability. I don’t think there is any grand 100 year plan in place and if there is, it will be as invalid as any other long term plan after a few years.

    We been down this path before many times. As sure as night follows day the Chinese economy will hit the skids, maybe it will bounce back, maybe it won’t. Who really knows?

  • 31 Biker // Sep 30, 2010 at 11:03 am

    Greg, I was amused when DR switched from its China-Will-Bust position, to HolyFrick-Look-What’s-Happenin’-in-China. Their complete reversal appeared to be the result of analysis of just _where_ China was creating massive infrastructure… and why.

    Yes, the political situation may be a powder-keg which might derail long term planning; or technological frog-leaping may make some of their key components (rail, for example) obsolete.
    Nuclear war might also impede planning.

    On balance, I think that it’s likely we’ll see China continue to rise very steadily, for the rest of my lifetime, anyway. A Black Swan event may mean that those who know how to profit from catastrophe do clean up… but my money is on Asian growth and Australian resources until 2030. 🙂

  • 32 Greg Atkinson // Sep 30, 2010 at 12:58 pm

    Biker China is simply too hard to work out at this stage. How do we know the growth figures are accurate? We don’t really? What I do know is that all good things come to an end and that the future of China is unlikely to play out how commodities investors would like.

    For example, if China is really growing as fast it is and the long term outlook is so bullish then why is oil stuck below $80 USD a barrel and why is the Baltic Dry Index showing signs of weakness?

    Something just doesn’t add up and it makes me a touch nervous.

    I am bullish regarding Asia, but very cautious when it comes to China.

  • 33 Biker // Sep 30, 2010 at 11:12 pm

    “…why is oil stuck below $80 USD a barrel?”

    Good question, Greg. I know we disagree about the future of EVs, but I imagine there are oilmen now who feel much the same as farriers felt holding a horseshoe, as the first motor cars rumbled past. Some of these EVs have just twelve moving parts.
    No fuel needed… and minimal lubrication.

    Imagine how much more quickly R & D would produce quantum leaps in EV technology if oil was $150 USD a barrel right now?
    The EVs we’re seeing now are the equivalent of the Wright Brothers’ Kitty Hawk glider.

    I’m bullish on Asia, with China as the main player; not because it makes me feel any _safer._ It doesn’t!~

  • 34 Firebug // Oct 1, 2010 at 10:59 am

    There is a lot of wisdom in what Greg said re Asia. China is simply too unpredictable a place. Just as most people didn’t see China rising so fast 20 years ago, we are unlikely to be able to predict correctly for the next 20 years either.

    There are a lot of structural issues with China most western world don’t have to deal with as much, such as water shortage, bad pollution, ageing population…

  • 35 Vince L // Oct 2, 2010 at 7:53 am

    Experts have trouble working out how individual corporations are performing so I wonder why people think anyone can read the China situation accurately?

    At the moment Australia is hanging onto China and going along for the ride, but nobody knows how the long the ride will last or how it will end.

  • 36 Greg Atkinson // Oct 2, 2010 at 8:26 am

    Biker I am actually a fan of EV’s and would say I see more EV’s up here in a day Japan than most people in Australia would see in a year. My point about EV’s is that they are less effective if you use coal to generate electricity since you are basically just swapping one fossil fuel for another.

    As for China, sometimes I fear it is a big version of Enron. I hope I am wrong.

  • 37 Biker // Oct 2, 2010 at 10:13 am

    “As for China, sometimes I fear it is a big version of Enron.”

    Enron had a fairly large military division, did it? 😉
    China’s greatest stumbling blocks are likely to be political.
    Technology can overcome most other issues. Ageing populations are more a western dilemma. You realise that when you see a 90 year old Chinese squatting, neatly trimming a lawn with a pair of scissors.

    EVs/hybrids: Most cities we visit now have almost 100% hybrid or LPG taxis fleets. Many have electric buses. I expect we’ll soon see all commercial construction will require roofs covered with solar panels as integral components, to power corporate fleets. In the US, it’s expected that extensive Walmart parking areas will offer shoppers free charging. Walmart will almost certainly cover their massive roofs with panels to (at least) supplement this. I suspect that the ‘suddenness’ of change may surprise us all, perhaps much more than other radical technological shifts have.

    Now, what do I do with this horseshoe?!~

  • 38 Mervyn Jacobi // Oct 6, 2010 at 7:09 am

    Greg, It is not the most prosperous companies who need lower tax, it is the poorer ones. I believe that the tax that was applied on the companies back about 30 years ago, ie 43% – and maybe could be increased with an addition – was reasonable I believe it was and would have been OK, but the smaller businesses definitely need much lower tax, even 20% or 10% – more to protect them from preditor companies, which is what has been happening. I think we would have more prosperous small business if this was put into opperation. You have to accept that Woolworths and Coles, with their take-overs have grown into an almost uncontrollable giants, and I do not like what I see.

  • 39 Greg Atkinson // Oct 6, 2010 at 9:40 am

    Mervyn the problem is how do we encourage companies to be successful while also helping smaller companies. If we tax profitable companies at a higher rate then this is effectively a success tax right?

    Smaller companies I agree need some help to get them going, but I am just not sure how you could do this without the system being abused. For example larger companies could set up units as small companies to tap into the lower tax rates.

    At the end of the day the consumer helped make Coles and Woolworths what they are today. I know we like to complain about them, but the average person wants one stop grocery shopping and that is what they offer. So do we tax them more because they have a business model that works?

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