A slow global recovery, the Australian economy & the stock market.
October 2nd, 2009 · Greg Atkinson · 12 Comments
If you were to believe the various ramblings of Kevin Rudd, Wayne Swan, Glenn Stevens and Ken Henry, then you would be under the impression that the Australian economy is about to power ahead in 2010. But if the IMF expects global growth to be slow, why would Australia be set to do any better?
Before I go on further let’s just think about the four main characters who are talking the economy up at the moment:
Kevin Rudd – has absolutely no real knowledge about the economy or business but is a good politician. He will say what the people want to hear as most politicians do, therefore we will be bombarded with the logic that the Government borrowed, spent and thus saved the day. It is the same reasoning that the other G-20 leaders are pushing because it makes them look like competent people of action. I put as much confidence in Rudd’s economic outlook as I do in the ability of Senator Conroy to deliver the National Broadband Network on time and within budget. (i.e. none)
Wayne Swan – or as I call him, the fluffy duck, who I would hope most people realise spends most of the time simply repeating what his minders have programmed into him. Swanny may be capable of independent thought but it is unlikely to include formulating ideas about the economy. As I mentioned in: You spin me right round Swanny the Federal Treasurer is a master of spin that is for sure, but a major economic thinker he ain’t.
Glenn Stevens – all hail to the man and the Reserve Bank of Australia (RBA) for according to them, they are one of the few central banks in the world that have performed almost faultlessly over the last few years. Is there anything Glenn Stevens can’t do? Well yes, he can’t forecast very well and was raising rates when the global financial crisis was looming, thus he put the brakes on the Australian economy when he should have been sitting on his hands. However he did sit on his hands in January 2009 when along with his RBA Board pals, decided to stay on holidays rather than meet in the middle of a global economic crisis!
Ken Henry – the Head of the Treasury who is currently focused on undertaking a review of the taxation system and thinks the government stimulus package is a good way to support the economy, no matter how it is spent. I have not seen him come up with any clear measures of how well the Government is spending our money nor did his boffins appear able to successfully model the impact of the alcopops tax. So let’s just say I don’t have a lot of confidence in him.
It is mainly these four people (whom I shall call the funky four) that are making the decisions or formulating the policies that guide the Australian economy. The first two are driven by political considerations (i.e. they want to be re-elected) whereas the last two should by driven by the desire to achieve the best outcomes for Australians.
Sadly however I think that Glenn Stevens and Ken Henry have been swayed by the desire not to annoy a popular Prime Minister and thus I believe their effectiveness has been diminished.
The overall message from the funky four is basically that the Australian economy has stood up well to the global economic crisis, the Government stimulus measures have supported the economy and that Australia can look forward to growth in 2010. Our beloved mainstream media generally simply rehash what these chaps have to say and rarely question much of what they have to say. But what if the funky four have got it wrong?
This leads me to the latest International Monetary Fund (IMF) World Economic Outlook which stresses that the global economic recovery will be slow and that the main drivers of global growth next year are expected to be China & India. (two nations we have managed to upset recently)
The IMF outlook contains a good summary of where the global economy is now:
“The pace of recovery is slow, and activity remains far below precrisis levels. The pickup is being led by a rebound in manufacturing and a turn in the inventory cycle, and there are some signs of gradually stabilizing retail sales, returning consumer confidence, and firmer housing markets. As prospects have improved, commodity prices have staged a comeback from lows reached earlier this year, and world trade is beginning to pick up.
The triggers for this rebound are strong public policies across advanced and many emerging economies that have supported demand and all but eliminated fears of a global depression. These fears contributed to the steepest drop in global activity and trade since World War II. Central banks reacted quickly with exceptionally large interest rate cuts as well as unconventional measures to inject liquidity and sustain credit. Governments launched major fiscal stimulus programs, while supporting banks with guarantees and capital injections.”
In simple terms the IMF is telling us what we already know, the global economy went into a tailspin and as a result governments around the world started tossing money about. As a result we can see signs of a recovery but global economic activity is still well below levels seen before the crisis, and this is a critical point to bear in mind.
The funky four might be confident about the Australian economic outlook for next year but remember this, for all the money being pumped into the global economy we are still well below the economic activity seen before the collapse in 2008 as any economist or businessman well knows. Private sector demand is not the main driving force behind the global economy at this stage, governments are.
This means that there is still a lot of excess capacity in the global economy and that includes mining capacity as well. Yes demand for Australian commodities has held up fairly well, but it has still fallen and we have yet to see the full impact of price falls trickle through as these are not felt in many cases until contract prices are renewed.
BHP has been talking about moving away from the annual contract price negations but the fact is they recently accepted a 33% cut in iron ore prices with Japanese steel makers and this has spread to it’s other customers in Asia including China. Prices for coal have also fallen, as have volumes. These are our two biggest export earners.
So when financial journalists and commentators jump up and down about how our commodities exports will drive the Australian economy in 2010 just remember that our iron ore and coal will be selling for less than it has over the past few years, we will probably be shipping less and our stronger dollar will mean that our miners will earn less in AUD terms for these exports. Now can someone please explain how this is going to push the economy upwards? Aren’t these factors more likely to be a drag on economic growth in 2010?
But the RBA appears to be gearing up to fight inflation again and that is a worry. As a result my guess is that the RBA will raise rates too early (i.e. before Christmas) when they should be sitting back and watching how the global costs of borrowing are tracking first. The problem with Glenn Stevens and the RBA is that they are now over-confident and wish to be seen as people of action. In short, I think there needs to be an ego alarm installed at the RBA offices.
To make matters worse Rudd and Swan have no choice but to keep spending until they have the next election in the bag. This means Australia will continue to rack up debt and not make any major structural reforms to the economy so we are better positioned to create jobs outside the mining sector, just in case things don’t work out as we planned. (i.e. a Plan B)
Then we have Ken Henry and his tax review. I have no idea what he will come up with but I doubt it is going to be focused on cutting back Government expenditure, encouraging individuals to take responsibility for themselves and not look for Government handouts or encourage innovation. I suspect the timing is right for a good old socialist leaning review of the tax system that will basically aim to redistribute wealth.
For stock market investors, everything I have discussed needs to be taken into account. Investing in stocks is not just about buying shares in companies we expect to do well, it is also about understanding how even the best of companies can see their profits suffer as a result of external factors such as government policies and the actions of the RBA.
When Australian interest rates do go up then the Australian Dollar (AUD) is likely to gain strength and many exporters will see a decline in their AUD earnings. This will mean less tax revenue for the Government and will adversely impact our balance of trade numbers. But at least exporting companies can tap into the enormous global market and get a lift from emerging economies, not so for those focused purely on the domestic economy. If our mining revenues remain weak then the domestic economy will suffer and many of these companies will struggle.
The Government also appears at this stage determined to push forward with the Emissions Trading Scheme. This is going to cause uncertainty within the business sector and is hardly likely to encourage them to expand operations in Australia that have a significant CO2 footprint. As a result this will dampen employment growth and we will probably see jobs outsourced to more “carbon friendly” nations
Some Australian companies might also find themselves at a competitive disadvantage to those who are based in countries with less aggressive C02 reduction targets. Again this is hardly going to help drive growth or stock prices for that matter.
Finally this is probably not the time to be doing a major tax review. No matter what Ken Henry comes up with it is going to spook someone even if what he suggests never sees the light of day. Usually in a crisis it is best to focus on the problems at hand and not create new ones. The Ken Henry tax review is at best an unnecessary distraction, but more likely to create confusion, fear and uncertainly. (no matter how much of it is leaked beforehand)
If our policy makes accept that Australia’s fate is largely not in their hands but in the hands of policy makers in the economic engines of China, India, Japan, Europe & the U.S. then they will sit back, remain calm and be flexible enough to respond quickly if needed.
However I sense politics and inflated egos might cause many unnecessary problems for the Australian economy next year. Let’s hope I am wrong.