Australia’s Economy – like Swiss Cheese?

Swiss cheese is dynamic and delicious, but full of holes and is a metaphor for the Australian economy.

This week the Liberal Federal Government delivered its annual budget followed by Labors reply. Both parties totally missed the point and are playing politics with the national interest at a crucial time – this demands much more.

Covid-19 has delivered the largest economic and financial shock since the 1930 'great recession'.

 One year ago –

 1. Global pandemic – not seen since 1918

2. Economies switched off, then turned back on – never been done before

3. Largest government stimulus ever – with 2008/9 tactics beefed up considerably 

4. Largest central bank monetary injections – new policies with possible bubbles

5. Oil price war – that was great timing!

6. China vs USA trade war – the new longer term risk

 The scale of the economic reduction can be seen in this graph -- note 2008/9 is just a blip

A partial recovery has been achieved by massive stimulus spending, which adds to the national debt and even more central bank stimulus with associated risk of asset bubbles. The national debt is still growing as the budget showed - even now is as large as post world war two and will need to be paid back, just as interest rates threaten to rise.

Australia’s economy shrank by 1.1% in 2020, with GDP of A$1.6 trillion

The Australian government spent 19.5% of GDP or $312 billion on stimulus programs during 2020.

Did this huge spending spree correct the economy?

Partially, Yes – but it also left large holes that are still not fixed.

RBA RTGS payment data for April was released last week, the most comprehensive 'real time' data available showed payments across the economy with value down 12.5%, while transactions down 11.7% for 12 months.

Basically transactions crashed in April 2020 and have not recovered – despite all the spin and bluster.

Rather than improving it’s getting worse as the stimulus impact wears off. Consumer, Business and Government payments in April declined by 30% in value vs April 2020! 

The daily processed volume was $167,465 billion the lowest number since August 2018 – if you read news sites, even the financial press, not a care in the world.

The three month average is also bad – a decline of 27.3% in value and 8.5% in transactions.

Savings rate inhibits growth

Australians saved quickly in March 2020 – Australians were scared and concerned and quickly changed habits.

The household savings ratio is back at record levels not seen since the “Whitlam recession’ in 1974/5 and are twice as high as 2008/9.

The key issue is that the rich and retired are saving and are unlikely to spend much - yet the federal budget does not address this issue.

While bank lending to businesses is at 6 year lows and lending over all is trending down below 2%.

Economic Holes

The RBA payment numbers reflect much lower activity in key areas of the economy.

Migration – 262,000 net new arrivals in 2019 worth $132 billion per year; inbound tourism - worth $66.9 billion per year; foreign students - worth $31.9 billion per year - add new car sales, cafes/restaurants, China trade war etc..... these total $272.9 billion or 17.2% GDP. 

Many of these categories are big city earners such as migration, tourism, foreign students etc.. - so that's trouble in 2021/2 or until the traffic rebounds in 2022/3.

Migration

Migration is a key driver for Australia – normally running at 23,000 per month currently running at 1800 – this will lead to a two and half year net gap of just over 750,000 migrants by June/July 2022.

The lack of migration will have an impact on Australia’s population growth and the loss of $330 billion over two and half years, a real Swiss cheese problem.

Foreign Students

Foreign students are another key area – before Covid-19, 586,000 students attended classes, this has declined by 14% or 84,000 in 12 months. The lack of new students will see total enrolments at 212,000 by January 2022 – this will cost $20 billion per year in figures by Mitchell Institute.

Another concern is Australia is not marketing to new students and this is showing up in preference for study – both Australia and New Zealand have a big problem, so don’t expect this market to bounce back quickly.

While existing students already restricted to online study are very dissatisfied – this is playing with fire. The risks are a reduction in future student numbers and $80 billion at risk going forward.

Tourism a smashed business sector

Tourism the No 5 export has similar numbers down 98% since April 2020.

The major tourism markets are China, New Zealand and India. Indian tourists are out of the question and will Chinese tourist be allowed into Australia when only 18% of the population has been vaccinated? This puts at risk a large part of the $167.2 billion future tourist income for the two and half years.

Positive Points

There are plus points - increases in mining, agriculture, food/retail spend with possible internal travel - which add up to 10.5% of GDP - but it still leaves massive gaps adding up to 6.5% of GDP.

The core issue is stimulus is reducing quickly so what will lift the economy – this rests with the RBA now.

There are also opportunities – get Australians to spend on internal tourism rather than going to Bali or New Zealand etc. Also 35,000 Australians stuck overseas – many would bring purchasing power with them – others will require welfare. 

Combine this with the record massive consumer savings, older consumers have saved the most and won’t spend much and sluggish retail sales spells trouble for banks, lenders and consumer spending.

Covid-19 Still THE Threat

Australia is rated in the top 10 with its initial Covid-19 response, however real risks are still in play. The initial success has led to complacency and the belief that Australia can ‘lock out’ the rest of the world, including its own citizens who are overseas.

The totally botched federal government vaccine program and complacency is combining to drive up vaccine hesitancy.

The lack of early vaccine purchases, not enough spread, backing the wrong vaccine and now a tragic vaccine roll out program risk Australia's progress - a bit like playing well to half time in a footy match.

This all risks closing the economy for even longer – if not corrected the full opening up of the economy could drift into 2023.

The slow rate of international vaccinations is also a real concern, while rich countries are moving ahead they only comprises 16% of the world’s population. Only two counties are above 50% Israel and UK, still short of the 70% required for heard immunity. There is still a long way to go - yet many Australians think Covid-19 is over!

The Covid-19 crisis in India is the result of a lack of coordination and vaccine hording by rich countries. The risks are that Covid-19, with continued mutations keeps rolling around the globe especially in emerging countries for the next 3 years and this will inhibit global growth. 

Other budget reactions highlight key issues - including inflation.

Missed it by that much: good effort at marketing misses the main chance

SMH By Ross Gittins May 11, 2021

 This is the lick-and-a-promise budget. The budget that proves it is possible to be half pregnant. Which makes it the couldabeen budget. Scott Morrison and Josh Frydenberg had the makings of a champion of budgets, but their courage failed them.

 It’s not a bad budget. Most of the things it does are good things to do. Its goal of driving unemployment much lower is exactly right. Its approach of increasing rather than cutting government spending is correct, as is its strategy of fixing the economy to fix the budget.

But having fixed on the right strategy Morrison, reluctant to be seen as Labor lite, has failed in its execution. Economists call this “product differentiation”; others just call it marketing.

Some are calling this a big-spending budget. It isn’t. Frydenberg has kept his promise that it would be no “spendathon”. As a pre-election vote-buying budget it hardly rates. Its “new and additional tax cut” for middle-income earners of up to $1080 a year turns out to be not a tax cut but the absence of a tax increase.

 Politically, this budget had to offer a convincing response to the report of the royal commission on aged care. Reports have suggested fixing the broken system would take extra spending of about $10 billion a year.

Had he accepted that challenge, Morrison would have put himself head and shoulders above his Liberal and Labor predecessors. He settled for spending an extra $3.5 billion a year. Major patch-up at best. The scandals will continue.

Politically, Morrison had to make this a women-friendly budget, to prove he valued women’s contribution to the economy and remove impediments to their economic security. Making childcare free – as it was, briefly, during the lockdown – would have been a big help to young families, as well as greatly increasing employment. It would have backed his fine words with deeds.

That would have cost about $2 billion a year. Morrison settled for $600 million a year, limiting the new assistance to about one childcare-using family in four by excluding the great majority, who have only one child in care.

Frydenberg has said that significant investments in energy, infrastructure, skills, the digital economy and lower taxes are all aimed at driving unemployment down.

But this talk of “investments” in mainly male-dominated industries is just what led female economists to be so critical of last year’s macho budget. In any case, energy and infrastructure yield few new jobs for each billion spent.

That’s why women-friendly and job-creating both pointed to a budget that focused on growing the “care economy” – aged care, childcare, disability care.

It’s labour-intensive, employs mainly women and provides services that women care about more than men. And it’s largely funded and regulated by … the federal government. Opportunity fumbled.

If you can’t get too excited by the expectation that the economy will grow by a positively roaring 4.25 per cent in the coming financial year, and a much more sedate 2.5 per cent the following year, I don’t blame you.

For one thing, budget forecasts don’t always come to pass. For another, Frydenberg’s claim that more budgetary stimulus is needed because of continuing uncertainty over the pandemic is disingenuous.

The truth is, at this stage the economy is still running on the stored heat of last year’s massive budgetary stimulus, much of which has still to be spent. The purpose of public-sector stimulus is to get the private sector – households and businesses – up to ignition point, so it keeps going under its own steam.

That hasn’t happened yet. So the purpose of the further stimulus in this year’s budget is to keep the kick-starting going until the private sector’s engine gets going.

Much of this depends on a return to decent pay rises – which is, as yet, beyond the budget’s “forecast horizon”. We haven’t had a decent pay rise since before the election of the Coalition government.

We had been used to our standard of living getting a bit better each year. That hasn’t happened for years. A Liberal Prime Minister who can’t lift our standard of living should be pedalling a lot harder than he is in this budget.

How the dream recovery could become a nightmare

If the pandemic resurges, or interest rates rise, Scott Morrison could find out why economists have nagged him to reform the economy.

AFR Alan Mitchell Contributor May 11, 2021

 A dream recovery and a licence to spend in an election year; what more could a prime minister ask for?

And yet even if, on the strength of Treasury’s forecasts and the government’s largesse, voters now hand Scott Morrison a second term, either COVID-19 or the US economy could turn the prize into a poisoned chalice.

The Prime Minister might be about to find out why economists and editorial writers have nagged him to get on with the task of reforming the economy.

 In fairness, the budget acknowledges the risks associated with the pandemic: “The control of the virus in Australia and globally remains a significant risk to the economic outlook. Outcomes could be substantially different to the forecasts, depending upon the extent to which the assumptions hold.”

COVID-19 is still undefeated and mutating and, in the United States, eminent economists warn of the risk that President Joe Biden’s fiscal strategy could trigger a resurgence of inflation in the US.Deloitte Access Economics’ qualification of its own economic projections also applies to Josh Frydenberg’s: they both assume the pharmaceutical industry will beat the COVID-19 mutations.

If it cannot, the world will face a future of lasting or repeated border restrictions and lockdowns. Australia may be able to close its borders to the virus, but it cannot insulate itself from the effects of the disease on the world economy.

 Such is the nature of this crisis, that success seems almost as scary as failure.

Economists Olivier Blanchard and Jean Pisani-Ferry warn of the impact of continuing or recurring restrictions on industries that depend on intensive physical interpersonal contact.

These would include immigration, international tourism, aviation, education, financial services, business, and professional services, which have grown in importance as manufacturing has migrated from advanced economies to emerging market economies.

However, Blanchard and Pisani-Ferry also point out that modern manufacturing trade also would be adversely affected because of the disruption to marketing and production co-ordination activities.

The potential impact on emerging market economies is another serious concern. These fast-growing economies account for two-thirds of global economic growth (40 per cent if you exclude China).

The International Monetary Fund estimates that cumulative income per capita in emerging and developing countries, excluding China, between 2020 and 2022 will be 22 per cent below what it would have been without the pandemic.

Inflation risk

There also is a risk of financial instability in these countries if rising interest rates in the US triggers a reversal of capital flows. Such is the nature of this crisis, that success seems almost as scary as failure.

In the US, the Biden administration is repairing its predecessor’s damage, but its fiscal plans are causing anxiety among leading economists including Blanchard and Lawrence Summers.

They soon also may cause considerable anxiety in Canberra. Summers fears that Mr Biden’s huge fiscal stimulus will see a return of 1970s-style inflation.

Blanchard, a former president of the American Economic Association, agrees the inflation issue is serious. If inflation were to take off, there would be two scenarios, he says.

“In the first, inflation expectations would likely become de-anchored, cancelling one of the major accomplishments of monetary policy in the last 20 years and making monetary policy more difficult to use in the future. In the second, the increase in interest rates might have to be very large, leading to problems in financial markets.”

High US inflation could see the Australian government having to choose between importing US inflation and taking the much harder road of remaining a low-inflation economy in a more inflationary world.

Whether the problem is COVID-19 or US inflation, the economy’s competitiveness, flexibility and productivity growth will be important for employment and incomes and winding back the fiscal imbalance.

 For the Australian government, it will be a time for holding the line on past reforms, like the phasing down of debilitating industry assistance and the creation of an independent central bank.

If service industries are permanently disabled, capital and labour will have to find alternative employment. It is crucial that investment decisions are made by industries risking their own money, and not by politicians spending other people’s money to buy votes.

If the problem is US inflation and interest rates, Australian industries and their employees could find themselves in a world of fragile export markets, overshooting exchange rates, and volatile capital markets. Maintaining competitiveness through flexibility and innovation may be essential to business survival.