Wednesday, November 29, 2006

"The Stanhope Tax"

Telstra has threatened to add a “Stanhope charge” to every one of its telephone bills in the ACT. Until now the communications giant has maintained uniform prices across the nation.

But it says the new charge, likely amount to $27 per Canberra household, would be added only to bills issued in the ACT and would be clearly labeled with a statement saying it had been imposed as a result of the new utilities tax introduced by the Stanhope government.

The Chief Minister was unmoved by Telstra’s threat last night saying he did not think it becoming of a major national corporation such as Telstra to propose such an idea, but that that was a matter for it.

“It needs to be understood that the full quantum of the tax that would be imposed in a full year on Telstra through this utilities charge would be less than half the salary that the Chief Executive of Telstra currently makes in a year,” he said.

$3.5 million of the $16 billion that the ACT will raise from the tax from next year is expected to come from telecommunications companies. The rest will be raised from gas, electricity and water utilities in proportion to the number of kilometres of ACT land their pipes and wires cover...

“For telecommunications companies we are talking here about a dollar a fortnight,” Mr Stanhope said. “But if Telstra feels inclined to outline on each of its bills to ACT customers that a dollar a fortnight of its bill is attributable to a utilities charge by the ACT government, good luck to them.”

Telstra is understood to be concerned not so much about the amount of the tax but about the potential for it to spread to other states. Its spokesman John Short said until now no Australian government had charged it for the land covered by its cables.

Telstra's biggest competitor in the ACT, Transact, partly owned by the ACT government indicated yesterday that it would consider following Telstra’s lead and labeling the charge.

Its General Manager Dianne O’Hara said that the fact that the ACT government owned a proportion of her firm would not deter her. “They are a significant shareholder, but they are certainly not the major shareholder,” she said.

The Chief Minister said that if Transact did decide to go down the path threatened by Telstra he would not move to stop it. “I would not intervene in an operational issue with Transact or indeed in any Territory-owned corporation or in any corporation in which we had a stake,” Mr Stanhope said.

The Treasurer Peter Costello lent support to Telstra and other communications companies in their campaign against the new tax in Question Time yesterday. He said that while the Labor Party federally was saying it wanted more investment in broadband “here we are in the ACT, where a new tax is being proposed on all utilities including broadband”.

“Again, I call on federal Labor; I call on [Mr Beazley and the Shadow Treasurer Mr Wayne Swan] and each and every other one of their small but dwindling faction, to come out and completely dissociate themselves from new taxes on infrastructure. It can be done very easily; it can be done by condemning the Stanhope proposal. It can be done by giving a pledge that federal Labor will not be trying to replicate this new tax right around the country” he said.

A spokesman for Mr Swan said last night that the Shadow Treasurer was still examining the fine detail of the Stanhope proposal. He said that federal Labor did not support the imposition of any new tax likely to discourage investment in infrastructure.

Tuesday, November 28, 2006

The battle to free Australian wheat.

Incomprehensibly in the 21st century, Australian wheat farmers are denied the right to sell what they grow to whoever they want.

Egg boards, grain marketing boards and the old Wool Corporation have all lost the monopoly powers that they once had. But the old Australian Wheat Board, the AWB, has continued to argue that only it can obtain the highest returns for growers on their overseas sales and that it needs a monopoly in order to do it.

In support of this, it has produced figures demonstrating that it earns Australian farmers a much higher gross price for wheat than anyone else could.

Commissioner Terence Cole has found those figures to be fraudulent. The gross prices are indeed (suspiciously) high but after costs, the net prices are not. The gross prices have been inflated by the payment of costly kickbacks.

Among the sad implications of the Cole report is that the AWB misled not only the United Nations, but also the growers compelled to sell through it.

Last week, Canberra economic consultancy ACIL Tasman released the results of an examination of the AWB commissioned by wheat traders wanting to end the AWB's export monopoly...

It found that the revelations made to the Cole inquiry were the ''inevitable outcome'' of the AWB's monopoly culture. The report said that the AWB faced the incentives ''characteristic of monopolies protection from competition, lack of accountability, ability to shift and pad costs, high levels of personal remuneration unrelated to performance, and opportunities to live the 'high life' at [wheat growers'] expense.''

ACIL found that the AWB obtained no net price premium for growers as a result of corrupt payments and other expenses and that there was no reason to believe that it could ever have done so. It didn't control much of the world's wheat supply and had no special knowledge about the behaviour of its competitors.

When the AWB broke the law, it believed it could ''avoid scrutiny and preserve political support for its monopoly status with a public relations campaign based on untested assertions and fear of change''. ACIL recommended that wheat growers be free to sell their wheat to whoever they wanted, subject to a transitional licensing system that would last for two years.

Many members of the Liberal Party support a free market for wheat, among them the outspoken Western Australian MP Wilson Tuckey who describes himself as ''the member for the biggest export wheat growing electorate in the country''.

But many of their Coalition partners in the National Party will vehemently resist free trade, not only because they have been swayed by the AWB's arguments but also because of what, even now, the AWB represents orderly socialised marketing, and a sign that the National Party still has influence.

The Prime Minister yesterday headed off talk of an embarrassing Liberal private member's Bill that would end the AWB's monopoly by saying he would soon announce a proposal of his own. But he didn't say what it was or whether it would be a free-market proposal. Asked how he would reconcile the conflicting interests in the Coalition, he replied: ''Reconciliation on these issues is my, you know, other name.''


Tuesday Column: private equity - it's my money!

Ever get the feeling that you have been here before?

The new breed of “private equity” funds are on the rampage. CVC Asia Pacific has bought half of the company that owns the Nine Network for $4.5 billion, Kohlberg Kravis Roberts has bought half the Seven Network for $4 billion, Newbridge Capital bought Myer for $1.4 billion, and now Texas Pacific, in partnership with the Macquarie Bank wants to spend $11 billion on Qantas.

Worldwide the value of new so-called private equity takeovers is said to double every 12 months.

And yet somehow it all seems familiar...

Back some two decades ago in 1987 when I was working as a reporter at the Sydney Stock Exchange an announcement come over the loudspeaker that seemed to make no financial sense.

An equity consortium headed by the then 26-year old Warwick Fairfax planned to spend what was then an obscene amount of money ($2.25 billion) taking the newspaper-publishing company that bore his name private.

Most of the consortium’s funds were borrowed and after the takeover Fairfax would disappear from the stock market.

The deal would only make financial sense if Fairfax was really worth far more than the stock market had believed it was. In other words, if the market had got it wrong.

It was driven by very easy access to finance (remember this was the newly-deregulated 1980’s), a tax regime that encouraged borrowing, an optimism about how the company could be freed up to make money if it was taken private, and the fees that would be earned by the geniuses that put together the deal.

As it happened it all ended very badly. Much of Fairfax was sold (The Canberra Times, the Seven Network) or closed down (The National Times, the Sydney afternoon Sun); Rothwells, the merchant bank that arranged the finance collapsed bringing down the Western Australian state government; and Warwick Fairfax lost his part of the family fortune.

Right now the new explosion in private equity buyouts feels to me like the debt-fuelled takeovers of the 1980’s did at the start.

After some initial astonishment they are being treated in the press as if they are works of genius. If the Nine Network, the Seven Network and Qantas are suddenly worth twice what they were, it must be because the share market has it wrong. It couldn’t possibly be because the financial engineers behind the deal don’t understand what they are taking on.

The faceless predatory private equity funds of this decade are being driven by similar forces to those that drove Australia’s colorful “entrepreneurs” in the 1980’s.

Our tax regime encourages takeovers fuelled by debt. Back then takeover merchants such as Robert Holmes a Court, John Elliot and Alan Bond could negatively gear – get the taxpayer to fund half their borrowings. Today the capital gains tax paid by foreigners who buy an Australian company and then sell it is extraordinarily low, and set to get lower. Legislation now before the Senate will eliminate the capital gains tax paid by foreigners on non-real estate Australian assets.

The Australian economy is strong and our sharemarket looks set to keep climbing – just as it did back in 1987 (ahead of the crash). It’ll need to keep climbing in order for the private equity funds to double the worth of the Nine network etc and get their money back.

And just as in the 1980’s money is incredibly easy for the funds to get. And not just from lenders. Although, not commonly realised, Australian superannuation funds are big investors in private equity funds.

Among the biggest is Australia’s biggest public sector superannuation manager, named ARIA, the Australian Reward Investment Alliance. If you haven’t heard of it that’s because its only recenly changed its name. It used to be called the CSS/PSS and it runs both of those funds. If you are a Commownealth Public Servant it is highly likely that ARIA is managing your money and pushing it in the direction of pivate equity funds.

ARIA’s Chief Executive Steve Gibbs says he won’t name the private equity funds. He uses about 15 to 20 of them, most of them Australian. All up they hold about 5 per cent of the ARIA’s funds and may soon hold up to 10 per cent per cent.

The way it works is that ARIA commits to give each of the private equity funds it deals with a certain amount of money. But it doesn’t actually hand over the money until the fund needs it to pay for a takeover.

After the takeover ARIA and the other investors in the private equity fund get no return whatsoever from the investment until the equity fund disposes of it at a profit. When that happens ARIA gets its money back and hopefully more.

As Steve Gibbs explains: “So we might say to a particular manager $50 million, and that’s a typical amount, we would say, okay we will commit up to $50 million, and over a five year period they will draw that down as they find good investments, and by the time they make their last investment, investing the last of the $50 million, we have probably got half of it back because of investments that have been realized.”

I suggested to Mr Gibbs that each deal that he put money into though a private equity fund was really a gamble that asset prices were going to continue to increase.

He told me that he never used the word gamble but that “what you are doing here is you are making an investment on the basis that once the investment is in the hands of one or more of these private equity managers they can help the company develop a strategy which will ultimately grow the company. It may be as simple as providing capital, it may be that the company has the strategy but doesn’t have the capital”.

You and I though our super funds are behind the new wave of private equity takeovers.
It’s a new wave fuelled by optimism and the belief that big companies are often the best ones. Lets hope that it turns out better than it did in the 1980’s.


Saturday, November 25, 2006

Saturday Forum: All the water we want.

Worried that you'll never be able to water your lawn again? Don't be. As unlikely as it seems at the moment, you'll soon be able to make your front yard as green as you like.

That's the one reassuring message to emerge from an otherwise bleak assessment of the water supply situation in Australia's towns and cities issued this week by the Parliamentary Secretary for Water, Malcolm Turnbull. The report is unusual in that it has been prepared by economists rather than, as is usual, by either engineers or environmentalists. And as a breed, economists are particularly indelicate. They don't mind who they offend.

Engineers will be offended to hear that building new dams is one of the worst ways to boost water supplies during a drought. As the report, by Marsden Jacob Associates, puts it: “the best sites for dams have already been taken”. And in any event, new dams have a near fatal flaw when it comes to helping out in times of drought. That's the time they are most likely to be dry.

Environmentalists will be offended to hear that rainwater tanks are pretty useless as well. Installing enough tanks to make any difference would be far more expensive than building a desalination plant, and next to useless in a continuing drought.

By far the cheapest and quickest way of obtaining water for cities is to buy it. According to Marsden Jacob, irrigators along the Murrumbidgee and the Murray are prepared to hand over their water entitlements to utilities such as Actew for as little as 63c per thousand litres (that's right, 63c per thousand litres, as opposed to a minimum cost of $1.15 per thousand litres for a desalination plant or $3 per thousand litres for a network of rainwater tanks). But with the exception of Adelaide and Perth, most cities won't do it.

And it is here that the Marsden Jacob report is particularly useful to a politician like Peter Costello. It says for him the things he would rather not say for fear of offending his Coalition partner, the National Party.

The belief that city dwellers (to whom water is exceedingly valuable) should not buy water from farmers (who really can't make that much out of it) has a long history in Australia...
In 1967 Victoria's long-serving premier, the Liberal Sir Henry Bolte famously declared that “not a drop of water will cross the divide to meet the needs of Melbourne”.

Since then even Labor state governments have railed against the idea for fear of offending farmers. But why would farmers be offended by being given the right to sell their water to people who needed it more than them and were prepared to pay for it? Perhaps they wouldn't. They would certainly be enriched.

But the National Party and its frontbencher Peter McGauran, who is the Minister for Agriculture, is holding out against the idea because of what it would do for farms. It would empty them. If the water entitlements were sold permanently, it would empty them permanently. (And as it happens also reduce the pool of potential National Party voters).

Turnbull has made his position as clear as propriety allows. He has said: “I think it is important that we allow water to trade and farmers to make their own choices in their own judgments about what crops to plant.” It wouldn't be going much further to add it was important farmers be able to make their own choices about whether to plant

Marsden Jacob has done that for him. At between 63c per kilolitre and $1.30 per kilolitre, buying water from irrigators is a far cheaper way of adding to city water supplies than recycling treated sewerage, which would cost anywhere between $1.68 and $2.61 per k/L and cleaning seawater which would cost between $1.15 and $3.

And it could be done much more quickly. The ACT water authority Actew is already thinking in that direction. Soon it will link its pipes to the Snowy Hydro Corporation's Tantangara Dam on the Murrumbidgee River, allowing it to easily buy water from Murray and Murrumbidgee irrigators.

Marden Jacob believes that it is important that Actew does. It says that to 70 per cent of Australians in cities having a healthy, green garden is important. It has performed willingness-to-pay calculations that suggest the annual cost to the community of our now extreme water restrictions is about the same as the capital cost of building a new desalination plant.

It needn't be borne. The consultants quote Prime Minister John Howard: "The simple fact is that there is little or no reason why our large cities should be gripped permanently by water crises. Having a city on permanent water restrictions makes about as much sense as having a city on permanent power restrictions."

Marsden Jacob believes that Australians have a right to as much water as they are prepared to buy. Buying water from farmers or installing desalination and recycling plants is not that expensive, and Australia's water authorities should have been doing so years ago. With the exception of the Water Corporation of Western Australia, most of Australia's water authorities have instead preyed on the goodwill of the people who rely on them.

Instead of providing those people with the water they need, and would be prepared to pay for, they have imposed “temporary” water restrictions and justified them because of “severe” and “unusual” circumstances. But the circumstances are no longer unusual. The water authorities in most of Australia's cities have traditionally planned on the basis of 100-year average inflows. Behind this is the assumption that if inflow is lower than that average in one year it will bounce back up to above average in the years that follow.

The graph on this page showing the water inflow for Perth demonstrates that is probably no longer a realistic assumption. The Water Corporation of WA has come to the view that it is no longer realistic to plan for a 100-year average. Not only has Perth's inflow been bouncing around from year to year but the average has been dropping. And not smoothly.

The WA Water Corporation has identified two sharp step-downs in the average inflow, one about 1975 and another about 1996. The latest average is just one-third of the old one. Turnbull explained it this way: "While graceful linear progressions fit well on graph paper, they do not suit the natural world. We are experiencing step-downs, hard instead of soft landings, abrupt and shocking changes rather than the gradual impact where climate change is something in the future, something to be addressed in the future".

His message, and that of the economic consultancy advising him, is that the problem of properly supplying water to Australia's cities is easily solved. All it needs is recognition and a modest amount of money.

Push for higher water prices

Nov 23 2006

Dramatically higher prices for water and a raft of new infrastructure projects including desalination plants co-located with nuclear power stations have been foreshadowed by the Prime Minister's Parliamentary Secretary for Water as part of an all-out attack on the worst water crisis since settlement.

Delivering a National Press Club address in Adelaide, which he said was in danger of running out of drinking water next year, Malcolm Turnbull said yesterday that most water authorities had not invested any money in finding new water for years, some of them decades. They hoped, or assumed that “something would turn up”. Mr Turnbull said that at the same time the authorities were “generating buckets of cash and paying massive dividends” to their state and local government owners.

Asked whether he would use the Commonwealth's newly confirmed corporations power to take control of Australia's water from the states he replied, “Thanks for the suggestion,” adding, “many people raise it with me, but our policy, our focus, is on collaboration.” He said funding the new initiatives he proposed would be no problem. The price of water could rise. “Basically all this is affordable. The cost of water is not that high - go home tonight and compare your water bill to your electricity bill,” he said.

Mr Turnbull released a consultant's report which found that water prices in the ACT would have to increase by 25 per cent just to fully recover the true cost of providing the water at present. In Sydney, prices would have to climb 48 per cent.

The report finds that new dams are not a particularly good way of increasing supplies of water because “the best sites have already been taken” and because dams are at their least useful during long droughts. It recommends instead plants to recycle sewerage and desalinate seawater. Mr Turnbull noted that desalination was twice as expensive as recycling sewerage, but said that if “the yuk factor” prevented us from drinking recycled sewerage, desalination plants were realistic.

They could sensibly be co-located with new nuclear power plants to make use of their waste heat. “You use that water that you are using for cooling, you raise the temperature and when the temperature is raised it is actually easier to desalinate, and that's why [desalination and nuclear power plants] compliment each other, that is certainly a possibility,” he said.

Mr Turnbull lent more support for nuclear power by declaring that climate change was real. He said the current drought was “beyond the contemplation of all but the most urgent and apocalyptic forecasters.” And he said even scientists had failed to appreciate the nature of the change.

This year the inflows into the Murray River are expected to be only 9 per cent of the long-term average; half the previous all-time low. Mr Turnbull said by April the dams which had insulated Adelaide against the drought would most likely be empty. The only water that would be available for South Australians would be that which flowed into the Murray.

The report prepared for Mr Turnbull by the economic consultancy Marsden Jacob recommended that other cities follow the lead of Adelaide and buy water entitlements from farmers. It said the ACT would be in an excellent position to do this because of its proximity to Murray irrigators, but noted that there was political opposition to such an idea. Asked if governments should offer to pay farmers to abandon their land, Mr Turnbull did not reply.

Friday, November 24, 2006

Qantas: bring on the spivs!

A takeover of Qantas led by money-hungry over-indebted American spivs could be the best thing that ever happened to the Australian traveling public. Not because the new owners would make Qantas more efficient and immediately pass on the savings to travelers. Quite the reverse.

The modus operandi of the new breed of American “private equity” funds such as the Qantas suitor Texas Pacific to load up their prey with debt and ramp up charges and the like to pay it off.

And anyone who has driven on a Macquarie Bank toll road or tried to catch a taxi or park a car at the Macquarie Bank-controlled Sydney Airport will know that Macquarie, Texas Pacific’s partner in the bid for Qantas, isn’t shy about jacking up prices either.

Not that they are likely to get the chance. The $11 billion takeover, still in the “preliminary discussion” stage according to Macquarie, is most unlikely to fly.

The Australian Competition and Consumer Commission gets to run its eye over takeover bids. Its Chairman, Graeme Samuel knows all about the Macquarie Bank. He was its Executive Director in the early 1980’s.

He knows too that the proposed takeover would see Macquarie controlling Australia’s busiest airport and owning 15 per cent of the airport’s biggest customer – the sort of arrangement that the ACCC was set up to stop, should it be likely to be anti-competitive.

The Treasurer gets a say as well. As the Minister responsible for the Foreign Investment Review Board he is able to block any foreign bid for the airline, even one that obeyed the letter of the law relating to Qantas and kept foreign ownership below 49 per cent.

He certainly won’t be easing that restriction in order to make it easy for the predator...
He said yesterday that Qantas “flies the Flying Kangaroo and the Flying Kangaroo says Australia - and as far as I'm concerned that means majority Australian ownership”.

The Foreign Investment Review Board guidelines are so broadly drawn that if the Treasurer so wanted he could block the bid for Qantas with as little as a phone call and a press release, as he did for the Shell bid for Woodside Petroleum in 2001.
With an election due next year and with the genuinely untested legal issues that would accompany a foreign bid for Australia’s national flag carrier there is every likelihood that he would.

The share market recognised this yesterday the Qantas buying stopped.
But what if the bid did succeed? What if Qantas became effectively American controlled?

It would lose the special place it has held in the hearts of Australia’s politicians. In the 13 years since Qantas at first became part-private under the Keating Government (and became one-third British owned) our politicians have continued to act as if what is in Qantas’s interest is in the nation’s interest.

They have blocked bids for competition on the Qantas’ rivers of gold – the air highways that stretch from Sydney to Los Angeles and from Tokyo to Sydney. All in the national interest, they have assured us.

The real national interest is in opening the skies to complete competition, so that we (and the foreign tourists who are considering coming to Australia) can enjoy world’s-best low prices when we travel.

An American takeover of Qantas, with the associated bad publicity about Qantas no longer being special and about jobs going offshore might just persuade our Government to flick the switch to full competition.


Wednesday, November 22, 2006

Australia's nuclear future?

Dr Switkowski says there is “no case” for nuclear power without some sort of carbon tax. The Prime Minister says such a tax would mean that “Australians would pay more for electricity while jobs and investment would be exported offshore”.

Or that’s what he said three months ago. Since then his language has subtly shifted.

He is not alone. Dr Switkowski told the Press Club yesterday that opinions are shifting quickly. The former nuclear physicist said that as recently as a year ago he felt intense community opposition to nuclear power. Now he says feelings are more moderate.

And so too is John Howard’s desire to protect the coal industry. Asked in Vietnam yesterday for his view about a carbon tax the Prime Minister said: “Well at the moment dirty coal is cheaper than nuclear power… but I thought everybody was in favour of reducing greenhouse gas emissions and if you’re going to reduce greenhouse gas emissions, even things like clean coal technology will make the use of coal a bit more expensive.”

Mr Howard may still be against “ a carbon tax” but he appears to no longer be against imposing a cost on Australia’s coal-fired power industry in order to reduce emissions of carbon...

Free-marketeers such as the ANU’s Professor Warwick McKibbin, a member of the Switkowski Nuclear Review would prefer that coal and gas-fuelled power stations be made to pay for the carbon they belch out by buying permits.

(The free-market bit is that they would be allowed to buy and sell the permits so that firms that cut their carbon emissions early and have spare permits can sell them at a profit.)

Dr Switkowski said yesterday that the permits would need to be priced high enough to force up the cost of coal and gas-fired power by 20 to 50 per cent.

John Howard appears to be talking about a requirement for coal-fired power stations to use clean coal technology, which would “make the use of coal a bit more expensive.”

As it happens clean coal technology (which is very difficult to install, but easy to introduce when a power station is replaced) is quite a bit more expensive – it can double the cost of power produced from coal according to CSIRO calculations.

John Howard’s approach may not be as different from Ziggy Switkowski’s as it seems.

Both would push up the price of coal-fired power by imposing big costs on those plants, and both could do it enough to meet Australia’s greenhouse obligations and make nuclear power financially attractive.

Mr Howard would do it by requiring Australia’s existing power stations to install an expensive technology, Dr Switkowski would do it by allowing them to trade expensive permits.

The two aren’t that far apart at all.


Tuesday, November 21, 2006

Our uncommunicative Communications Minister

Three nights ago Australia’s Communications Minister Helen Coonan was handed an opportunity some of her colleagues would have died for – a prestigious platform from which to explain her thinking to an influential audience with no questions allowed.

Senator Coonan was invited to deliver the eleventh Andrew Olle Media Lecture, the first Government Minister so invited. Previous speakers have included the comedian John Doyle (who was funny but impassioned) and as it happens Lachlan Murdoch and Kerry Stokes.

It was a heaven-sent opportunity to explain exactly what the changes to Australia’s media laws were all about.

She chose not to use it.

Instead the Minister in charge of those changes spoke for the best part of an hour about the exciting new world of computers. You can read the speech on her website.

It’s been five weeks since the Senate vote that gave her the new media law she wanted and unleashed a multi-billion dollar corporate feeding frenzy.

At the time Helen Coonan said she didn’t expect a wave of takeover activity.

The tsunami is about to begin... In preparation James Packer and now Kerry Stokes have built up multi-billion dollar war chests with the help of American investors who would have been unable to pump the money in under the old rules.

On the copping block is John Fairfax Holdings, which owns the Age, the Sydney Morning Herald and the Australian Financial Review, and in an earlier incarnation used to own this newspaper.

Circling, and in once case already owning shares, are Rupert Murdoch, James Packer and now Kerry Stokes. It is likely that each will get a piece of Fairfax.

On Friday the Minister could have explained why all this was necessary to the most interested (and captive) audience possible. If she had access to economic modeling that pointed to the benefits of the changes she could have released it.

She is not shy of releasing such economic modeling where it supports what her government has done. Yesterday she released the results of modeling about the effect of the 1997 telecommunications reform. She said it had made the Australian economy $15.2 billion larger.

What about the effect of the legislation that she was actually responsible for?

How does a wave of takeovers and the breaking up of one of Australia’s most important media voices benefit Australians or the Australian economy?

And what’s going to happen when the Americans who are putting up the billions want to see a return on the money they have chanced?

Will they slash content, jack up prices or close publications down. Or perhaps something else?

The Minister’s Department has doubtless thought about this. There might even be a plan. It’d be nice to know what it is.


Monday, November 20, 2006

Tuesday Column: Telstra sold too cheaply??

The government thinks it has just sold Telstra.

I think it’s done much more.

Let me explain. When the T3 process began, just six weeks ago, it looked anything but revolutionary. Senator Minchin and his colleagues expected to offload another sliver of Telstra (about one sixth of the company), which in addition to the half of the company they had already sold would leave private owners with around two-thirds of Telstra, and the Government through its Future Fund with one-third.

One-third was important because it would have given the Government continuing control. By control I don’t mean the ability to direct the company about the way it made its day-to-day decisions – the Government wouldn’t want to do that – but the ability to veto any major change of direction.

(If you are one of those people who believe that a government committed to getting out of the telecommunications business would never want to step in throw around its weight in Telstra, you haven’t been paying attention. That’s exactly what it did at last week’s Telstra AGM when it used its voting block to install its nominee on the Board against the wishes of the Board itself.)

There is one particular change of direction that the Government has been extraordinarily keen to prevent. It is the splitting of Telstra into two separate companies – a boring “utilities” company and an exciting “digital media” player.

On one estimate a decision to do that could double the value of the resulting shares.

But just before the T3 launch the Government demanded and got an assurance from the Telstra Board that it wasn’t planning to split the company.

That assurance would have been enforceable if after the T3 sale the Government had, as expected, kept control of one-third of the shares. It could have reminded the Telstra Board of the assurance and used the threat of the veto power its one-third shareholding gave it to make sure the Board stayed in line.

It no longer has that threat... The weekend success of the share offer has left the Government through its Future Fund with just one-sixth of Telstra, which given the way I am assured these things work, gives it no hold over the Board whatsoever.

Melbourne University’s Professor Ian Ramsay explains it this way: Corporate control is an all-or-nothing game. If you own enough of a company to get one person elected to the Board (and in a company like Telstra one-third is enough) you own enough to replace the entire Board. You hold the biggest of sticks.

But if you own less than a certain threshold (and one-sixth of the company is certainly less than the threshold) you don’t have the power to get a single person onto the Board unaided. You have no stick whatsoever.

Telstra is now free to decide to split in two if it so chooses. It is generally held legal view that an undertaking given by one board cannot bind a future board (in the same way as an undertaking given by one Prime Minister cannot bind a future Prime Minister).

If shareholders do decide on a split they could double their money.

According the telecommunications guru Paul Budde the maths work like this: Right now each Telstra share is worth a little under $4.00. If each shareholder was given instead, one $2.00 share in a dull infrastructure company that charged for the use of its wires, and one $2.00 share in an exciting digital media corporation that used those wires and offered TV, the internet, mobile and fixed phone calls to consumers, the shares in second company could triple in value. After about a year the shareholder who used to own one $4.00 Telstra share would be holding instead one $2.00 infrastructure company share and one $6.00 digital media corporation share. $2.00 + $6.00 = $8.00.

Why would the shares in the digital media corporation triple in value?

Its Bigpond, Sensis, Foxtel and fixed and mobile call businesses could be combined and unleashed. Right now they are limited in what they can do because of regulations – regulations imposed because of Telstra’s sensitive position as the dominant communications wholesaler.

In Paul Budde words: “Right now Sensis cannot move into video and Foxtel cannot move into telecommunications and Bigpond can’t use television.”.

But he says unleashed, “the $2.00 digital media company would find itself valued in the same mind boggling category as YouTube, a Yahoo or an E-Bay”. Its share price could triple.

And the dull $2.00 infrastructure company would be valuable too, to a certain sort of investor. Australia’s Macquarie Bank has shown that as part of their portfolio investors and funds love the security of owning toll roads. The returns are never exciting, but they are consistent. Cars pay to use the roads every day, just as phone companies pay to use wires and exchanges every day.

The Macquarie Bank is already extending its model for setting up toll road trusts into the field of communications. This year put together a consortium to buy and split up the Hong Kong telephone business which was knocked back the Chinese government.

Right now Australia’s other big packager of infrastructure trusts Babcock & Brown is working on splitting the Irish telecommunications firm Eircom.

It is beyond doubt that both are running their rulers over Telstra right now, and are delighted that our Government can’t stop them.

The Telstra Board could. And given that the present board’s whole strategy is built around keeping the company together, it is a fair bet that it will try. But boards and superstar imported CEOs don’t last forever. If Macquarie and/or Babcock & Brown start do buying shares in Telstra there are likely to be changes at the top.

If all goes to plan Telstra’s one-million plus shareholders would be enriched, Macquarie and/or Babcock would pocket very well earned commissions and our Government which on Sunday was very pleased with the $15.5 billion it had raised from T3 would look as if it had unloaded our communications company for a song.


Saturday, November 18, 2006

Costello confusion

Is it "Good Costello" vs "Bad Costello"?

Actually among delegates attending the G20 it is hard to tell which Costello is which, as Matt Wade reports in this priceless piece in today's Sydney Morning Herald.

Friday, November 17, 2006

Professor Friedman is dead

So many great things have been written about Milton Friedman on other blogs.

I am very sad. Apart from anything else I wanted to interview him. He was regarded as the devil incarnate while I was studying economics at Flinders University in the last half of the seventies, but with time and age I warmed to his wisdom and intellect, just as I have warmed to Gary Becker, who I also want to interview before he dies.

Jerry Courvisanos and Alex Millmow of the University of Ballarat have written this great paper about the way he changed things in Australia entitled How Milton Friedman Came to Australia.

My 500 word contribution to tomorrow morning's Canberra Times is below the fold. I wish I had had more words.

Milton Friedman died yesterday of a heart failure in San Francisco, aged 94.

He is one of only two 20th century economists to have a movement named after them. At the height of his fame (and infamy) during the 1970’s economists in Australian universities were known either as Keynesians or ‘Friedmanites’.

The idea for which he was most famous, that it is important to kill inflation rather than allowing it to grow as a means containing unemployment, is now mainstream – it lies behind the Reserve Bank’s monthly interest rate decisions.

But it wasn’t mainstream then. The century’s other great economist Maynard Keynes had persuaded governments worldwide that there was a tradeoff between inflation and unemployment. If there weren’t enough jobs governments should print or borrow money and allow the economy to grow.

So unwelcome and so harsh were seen to be his ideas that when he came to Australia in 1975 the office of the Labor Treasurer Jim Cairns is said to have tried to prepare a dirt file on him.

According to Professor Bob Gregory of the ANU, Cairns’ private secretary Junie Morosi is alleged to have asked her office: “Who is this guy, and what can we get on him?” “And so someone from Cairns’ office started ringing up economists saying: ‘Who is this guy, and what can we get on him’,” he said.

Friedman appeared at the National Press Club and dazzled the nation when he debated a panel of Australian economists on the ABC’s Monday Conference, so much so that the program was repeated six weeks later.

His ideas were right for the times. He had predicted stagflation – unemployment and inflation together, something Keynesians had said wasn’t possible - and it had arrived in Australia. Within days of his visit the larrikin Coalition MP Bert Kelly stirred things along in Parliament by asking Cairns “If printing money is a good solution, why not print more of the stuff and get rid of the unemployment problem altogether?’

Many of Friedman’s ideas were ahead of his time. In 1955 he outlined a scheme for financing university studies similar in principle to Australia’s HECS which was developed independently 40 years later by Australia’s Bruce Chapman for the Hawke government.

“Friedman basically said college students in the US won’t be able to borrow because there’s no collateral for a bank so you need government intervention and then he suggested what is now called a graduate tax”, said Professor Chapman of the ANU.

According to Professor Gregory: “In the 1950’s he was regarded as very right wing. He believed in small government, he believed that markets should be subject to minimum regulations, he believed that central banks should be independent and control money supply, he believed governments shouldn’t run deficits. Now those ideas are mainly mainstream. Milton didn’t move, but the middle moved towards him.”

The Prime Minister John Howard yesterday paid tribute to Milton Friedman saying that the stable monetary and fiscal policy frameworks that are the hallmarks of successful western economies were in part a legacy of his work

Switkowski's Nuclear Future

When the former Telstra chief Ziggy Switkowski rises at the Press Club on Tuesday to outline the findings of his Nuclear Energy Review most of the interest won’t be in the findings themselves, but in the reasoning he uses to back them up.

The findings have already been leaked. They are that nuclear power could be commercially viable within 15 years and Australia can go ahead and start planning, safe in the knowledge that by the time a nuclear power station is ready the cost differential with coal will have disappeared.

They are findings that, on the basis of the evidence presented to the Switkowski Review, look hard to justify.

The United States, often regarded at the forefront of the push for nuclear power, hasn’t built a new nuclear plant since the meltdown at Three Mile Island in 1979.

The problem isn’t only community concern about safely and about the ability of plants to withstand a terrorist attack, it’s economics...

BHP Billiton says in its submission to the Switkowski Review that even with the huge reductions in the cost of building plants likely in the years ahead “only few nuclear plants are expected to be built in the United States in the next few years”.

It says those that are built will be constructed “only as a direct result of the US$15 per megawatt hour subsidy and other incentives available under the Energy Policy Act 2005”.

In Australia the economics of nuclear power are even harder to justify.

As Dr Switkowski himself said last month: "Australia is blessed with a couple of things - very low-cost electricity because of access to coal and gas, and has many centuries of coal supply available."

In March this year a British scientist John Gittus examined the economics of nuclear power for the Australian Nuclear Science and Technology Organisation (ANSTO). The plant he recommended was the Westinghouse AP1000, which has yet to be built anywhere in the world. He said that eventually new AP1000’s would come down in price to be as cheap to build, run and decommission as new Australian coal-fired power plants. But he said that until then the AP1000 would produce electricity “at a cost that is
significantly higher than would a new coal fired or CCGT power station”.

He suggested a government subsidy of 14 per cent of the cost of building the plant and 21 per cent of the cost of its electricity for the first twelve years.

BHP puts the problem this way: “The electricity markets in Australia are renowned for their effective market operation and their clear market signals to encourage efficient investment. The Australian market structure helps ensure that only cost-competitive generators are profitable. Under current circumstances, nuclear generation would not be cost-competitive with existing or anticipated new generation assets.”

It says that not only is nuclear power about 13 per cent more expensive than gas for those countries that have access to it, but that “significantly”, it is 6 per cent more expensive than electricity produced by wind “which is also a carbon-free resource in its power production phase”.

BHP acknowledges that if a carbon tax was introduced that roughly doubled the price of coal-fired electricity nuclear power would become attractive. But it says “on these assumptions, many other technologies - wind, solar, clean coal, carbon geosequestration, carbon offsets, energy efficiency, etc. - could also become more competitive”.

BHP Billiton, which operates the Olympic Dam uranium mine in outback South Australia says it has “no intention of entering the nuclear power generation market and its potential investment in the expansion of the Olympic Dam project is not dependent in any sense on the establishment of a domestic nuclear power industry”.

The National Generators Forum, which represents Australia’s existing power generators is equally unconvinced about nuclear power. It has told the Review that even by 2030 nuclear power would still cost twice as much for Australia to make as would power from coal.

It says the reason nuclear power makes commercial sense in Europe and Japan is that coal and gas are hard to get. And because of the dense population in those places coal-fired power stations are dangerous to residents. But in Australia coal-fired power stations are distant from the cities and the coal they burn is cleaner, for example (according to the Forum) producing almost no nuclear radiation as does coal from other countries.

About the only way to make a commercial case for nuclear power or other alternative energy sources is to tax or require a permit for the release of carbon. (A tax is paid to the government; a permit is issued or sold by the government but can then be traded privately.)

And as it happens Australia’s leading proponent of carbon permits and trading is Professor Warwick McKibbin from ANU, who is one of the six members of the Switkowski Review.

Professor McGibbin is an internationally recognised economic modeler. He has calculated that if Australia ratified the Kyoto treaty and introduced carbon trading it would cut the value of our national income over the next 50 years by a mere 0.16 per cent.

John Quiggin from the University of Queensland puts this in perspective. He says 0.16 per cent of GDP is to two weeks' economic growth. “In other words, suppose that we all took it easy for two weeks… and kept producing the same level of output but there was no growth in productivity. Suppose that after the two weeks were finished the economy returned to the previous rate of growth, but that the growth missed in those two weeks was not regained. This would be roughly the impact that McKibbin is modeling,” he says.

It is just possible that on Tuesday the Swikowski Report will provide John Howard with a face-saving way of agreeing to carbon trading, if not signing up to the Kyoto Treaty itself.

The Switkowski Review is examining more than nuclear power. It is also looking at the idea of “adding value” to the uranium Australia exports by turning it into fuel rods; leasing them to overseas power plants and then taking them back for burial in the desert.

As BHP puts it in its submission, some commercial interests have suggested that there is “an opportunity and almost obligation” for Australia to process and rebury its uranium give our stable political political and geological situation.
It is an obligation BHP vehemently rejects saying it “believes that there is neither a commercial nor a non-proliferation case for BHP Billiton to become involved in front-end processing or the development of fuel leasing services in Australia.”

Indeed it says there is an oversupply of fuel reprocessing services worldwide and that most of the end-users of Australian uranium do not want to send it back. It says any attempt to force BHP and Australia’s other uranium exporters into the processing and burial business “would put customer relations and the investments those underpin at risk”.

It notes that traditionally the Australian government has been reluctant to impose “artificial constraints” on Australia’s exports and reluctant to pick winners when it comes to supporting industry.

And that’s what will be so interesting about the Switkowski Report. It will only be able to find that nuclear power industry is viable in Australia with a carbon tax or a system of carbon permits and trading, and those measures would advantage many other forms of power generation as well.

Nuclear power stations are so expensive to build that putting a high efficiency solar panel on every roof in Sydney might be cheaper per kilowatt-hour of electricity produced.

Traditionally trained engineers are uncomfortable with such an idea, because they have become used to a model where electricity is generated centrally and then distributed radially, in the same sort of way as are radio signals. But just as the internet is changing that system for radio, local generation may be changing it for electricity as well.

Many Australian homes now produce power from solar cells or wind and sell it back to the generators, although the generators themselves don’t seem to be encouraging the idea. It is no worse a method of producing power than central distribution, and probably more secure, but it requires a new way of thinking. On the outskirts of Sydney one new apartment development will make its own power from gas, using the waste heat to provide each apartment with hot water. It won’t be connected to the central electricity supply at all.

Nuclear power requires central distribution at its most extreme. Some of its advocates have even suggested that one single nuclear station could supply base load power for entire country, located near the uranium mines in Australia’s center. But the idea that there needs to be a big base load supplier is becoming less fashionable as well. Much of the ‘demand’ for a constant base load is created by power companies that are unable to easily vary their output. They create the demand with variable tariffs and devices such as off-peak water heaters.

A Nuclear Review prepared by an economic rationalist would have behind it no assumptions about the way power should be distributed and would pick no winners when it came to government support. It would recommend a carbon tax in order to cut emissions of carbon, not in order to give a leg-up to a particular technology.

The Treasurer Peter Costello said recently that in his view nuclear power was not presently commercial. “"I don't think it will be in three years; will it be 10 years? Maybe, possibly not. But it will, in my view, become commercial, and when it becomes commercial, someone will build it."

On Tuesday we will find out whether Ziggy Switkowski takes the same approach.


Wednesday, November 15, 2006

Peter on ABC Radio tonight

I will be Tony Delroy's guest on Nightlife on ABC local radio throughout the nation at 11.05pm tonight, Wednesday.

We will talk about the impact of the rate rise. And the High Court WorkChoices decision.

The death of Competitive Federalism

So you think the WorkChoices decision is bad news for workers? Think again.

What it does do is put beyond doubt the Commonwealth’s power to make laws regulating the behavior of corporations.

(And not only their behaviour regarding workers. Legal expert Dr Graeme Orr from Griffith University told me last night there would now be no legal impediment to the Commonwealth directing electricity corporations to source a certain proportion of their power from nuclear sources, or specifying what prices they could charge.)

State governments already had that power. But they were hamstrung about using it. If a state Industrial Relations Minister introduced a law that businesses didn’t like, they threaten to move interstate.

‘Competitive federalism’ has kept Australia’s state governments business-friendly, often more business-friendly than they would like. When in 1995 the Queensland government halved the rate of stamp duty on all Stock Exchange transactions, every other state fell into line.

There is no such competitive constraint on the Commonwealth Government. Until yesterday uncertainty about the meaning of the constitution imposed some sort of legal restraint.

That constraint has been lifted for this and all future Commonwealth governments.


Thursday, November 09, 2006

The Tax Commissioner a household name?

Well he isn't now.

Bet you don't know the name.

It is over the fold, and in this story for tomorrow's Canberra Times about how he is about to attempt to get a higher profile.

Australia’s Taxation Commissioner is set to become more of a household name.

The last Reserve Bank Governor Ian Macfarlane boosted his public profile enormously by agreeing to give public evidence twice yearly before a parliamentary committee outlining his views about the state of the economy.

The former Governor has since had several book offers and is to deliver this year’s Boyer Lectures on ABC Radio National. (The first goes to air this Sunday at 5.00pm.)
Michael D'Ascenzo has been the Tax Commissioner since the beginning of this year and is little known outside of the Tax Office.

Giving evidence to the Taxation Inquiry being undertaken by the Joint Parliamentary Committee of Public Accounts and Audit yesterday Mr D'Ascenzo said he wanted to be more open about what the Tax Office was doing.

The Committee’s Chairman, Victorian Liberal Tony Smith suggested that he might like to try the system developed by the Reserve Bank Governor.

Michael D'Ascenzo agreed and will report to the committee and take questions twice a year, with the sort of formality that has done wonders for the profile of his opposite number in the Bank.

Although surprised by the suggestion (he had no notice of it) Mr D'Ascenzo said it would be “a good opportunity to engage with the Parliament in the care and management of the community's tax system, and reflects an open and accountable tax administration."

Tony Smith says the hearings will most likely take place each March and September before and after the end of each tax year.

Want work? Head to Canberra

The ACT is a workers paradise - and how, according to today's jobs numbers.

My story for tomorrow's Canberra Times is below the fold.

Australia’s jobs boom appears to have stalled. The number of Australians in jobs turned down last month for the first time in almost a year.

But according to the latest employment figures from the Bureau of Statistics there remains one exceptionally bright spot – the ACT.

The Bureau’s survey suggests that the number of people employed Australia-wide fell 32,100 in October, but in the ACT another 900 workers gained jobs edging the Territory’s unemployment rate closer to zero.

The unemployment rate in the ACT is now just 2.6 per cent – the lowest since figures began to be kept in their present form, and the lowest in the nation.

By contrast NSW is reporting an unemployment rate of 5.1 per cent, Victoria 4.8, and South Australia 4.6 per cent.

Only the resource-rich states of Western Australia, Queensland and the Northern Territory approach the ACT with unemployment rates of between 3 and 4 per cent.

Nationwide the unemployment rate is 4.6 per cent.

The raw numbers suggest that almost everyone in the ACT who wants a job now has one. There are 262,500 adults in the ACT. Only 5,200 of them were looking for work last month.

Because at any point in time there will always be some people out of work as they move between jobs the figures suggest that in practical terms unemployment in the ACT may already be close to zero.

The Chief Minister yesterday welcomed the news saying “What we have in the ACT today is virtually full employment. This is an unequivocal sign of the strength and confidence in the ACT economy.”

The Prime Minister said he wasn’t concerned by the national decline in the number of Australians in jobs. “What you have seen this month is a fall in the number of people in work. Given the furious pace at which people have got jobs, some kind of correction of this kind is to be expected,” Mr Howard said.

The Treasurer Peter Costello said that Peter Costello said that the labour force figures were apt to “bounce around” from month to month, but that what was important was that “we have now had unemployment under 5 per cent for six months”.

The unemployment rate in the ACT has been below 5 per cent since 2001. It has been below 3 per cent since June, and the figures suggest that the ACT’s tight labour market is pushing female employment to the limit of what is achievable.

Traditionally women are less likely to be employed than men. They spend more time away from the workforce caring for children.

But in the ACT women now make up 49 per cent of those employed – a proportion which on the face of it cannot get much higher.

When figures began to be kept in their present form back three decades ago the proportion was 35 per cent. Even as recently as 1990 women had only 41 per cent of the jobs.

In that regard at least, the ACT is leading the nation.

Wednesday, November 08, 2006

Why Australia's Reserve Bank jumped

In tomorrow's Canberra Times.

What have we done to deserve yet another rate rise, the third this year?

The correct answer came, perhaps unwittingly, from a real estate agent I heard interviewed on Canberra radio yesterday.

He said that every time interest rates go up the buyers vanish for about a month and then return just as eager as they were before.

That is the phenomenon that has forced the Reserve Bank to pile on interest rate increase after interest rate increase.

The Bank has found that typically spending and borrowing are hit hard in the month after it hikes rates, but then the impact eases, although some impact continues to be felt for about a year.

What the Reserve Bank wants us to wind back our spending more permanently. Each time it has pushed up rates in an attempt to get that to happen, our spending has bounced back up. It is hoping that a series of successive rate rises will do the trick for good.

The Bank says in yesterday’s statement that just recently it has noticed encouraging “tentative signs of moderation in the demand for credit”, presumably as a result of its two recent rate hikes in May and August. But it notes that that nevertheless “the overall pace of credit growth remains strong”.

If spending and credit growth continue to remain strong a month or so after this latest increase the Bank will push up rates once again.

If necessary it will keep putting up rates until we get the message and wind back our spending and borrowing way that lasts.

If on the other hand this latest rate rise builds on the effect of earlier ones and does change our behavior in a lasting way it will most probably be the final rate hike for quite a while.

The Prime Minister said yesterday that he didn’t like rate hikes any more than did any borrower.

The Reserve Bank is less squeamish. It believes that the biggest contribution it can make toward ensuring that our record run of economic prosperity lasts is to stop our spending running ahead of what can be bought and pushing up prices.

If some of us need to get our fingers burnt in order to ensure that happens, the
Reserve Bank believes that is a price worth paying.

The Secretary to the Australian Treasury Dr Ken Henry took part in the Reserve Bank’s Melbourne Cup Day decision as a member of its Board. His Executive Director (Macroeconomic) Dr Martin Parkinson told a business audience in Sydney yesterday that the decision was needed because “you want to be very careful about letting the inflation genie out of the bottle”.

That’s the Reserve Bank’s fear - that if inflation drifted beyond its target zone it wouldn’t come back until there was a recession. And it doesn’t want one.

Tuesday, November 07, 2006

We need less efficiency

For Water.

Explained in tomorrow's Canberra Times.

The Prime Minister has called for a “warts and all” examination of Australian water management.

He’ll find some of those warts peculiar.

Such as his own government’s program, launched last week, under which it undertakes to buy water rights from farmers along the Murray Darling Basin who save water as a result of “efficiencies”.

At the heart of the scheme is the notion that efficiencies will benefit the Murray Darling Basin.

It is a notion that is almost completely false, in the view of Australia’s leading expert in the economics of water management, Professor Mike Young, a former CSIRO Chief Research Scientist who is now Professor of Water Economics and Management at the University of Adelaide.

He says if, as is likely, the increased efficiency is the result of farmers making do with less water so that less runs off their farms, considered alone their actions would harm the Murray Darling Basin rather than help it. They would be putting less water back in.

“What we actually need less efficient farmers,” he explains.

There are a number of caveats. One is that to the extent that farmers increase their water efficiency by reducing water loss through evaporation or transpiration they actually will be helping the Murray Darling.

But if the efficiencies involve other ways of configuring their property to use less water they won’t be helping it at all.

He says most of the times we think we are ‘using’ water we are actually not taking it out of the system at all.

“For example in the city of Canberra you might think that you are freeing up flows of water into the Murrumbidgee and after that the Murray by taking shorter showers or using a low-flow shower head, but you are not. The water will flow into the Murrumbidgee anyway whether or not it flows through your house along the way,” he says.

The Water Through Efficiency tender program unveiled last week will be funded from the $200 million that the Australian Government has made available to recover water for the Murray. But Professor Young says there are doubts about whether the it will recover any net water.

“What we need is a system of water accounts, recognizing both debts and credits in the same way as do financial accounts. Only then will we get an idea of net rather than gross flows and understand what is going on,” he said.

The Commonwealth and the States committed themselves to setting up a national system of water accounts two years ago as part of the National Water Initiative. The Prime Minister and Premiers yesterday undertook to speed up that initiative.

Professor Young says there are few international precedents for a nationwide system of water accounts and it will be hard to get the accounts right. But he says it will be better to set up the accounts “and be approximately right than to be totally wrong.”

Why rates need to go up to stay low

From tomorrow's Canberra times:.

The Prime Minister has called for understanding ahead of what is expected to be Australia’s eighth consecutive interest rate hike.

It is thought the Reserve Bank will lift its so-called cash rate target by 0.25 per cent today to 6.25 per cent, pushing the standard bank variable mortgage rate up to 8.05 per cent.

But most new customers of banks don’t pay that standard rate. The Reserve Bank says the actual rate paid by new borrowers is typically 0.6 per cent less, a rate of 7.45 per cent after this morning’s expected hike. And some mortgage providers charge even less. Homepath, owned by the Commonwealth Bank is expected to charge only 7.21 per cent after this morning’s hike.

Nevertheless the repayment burden on a typical mortgage has climbed to an all time and will climb further. Reserve Bank figures show that the proportion of household disposable income eaten up by mortgage interest payments is now half as high again as it was in the late 1980’s when interest rates peaked at 17 per cent under Prime Minister Bob Hawke.

Prime Minister John Howard said yesterday that if the Bank puts up interest rates as expected today “I will say that I never like to see rates go up, but sometimes in the name of good longer term economic management it is necessary, especially when the economy is running very strongly, it is necessary for the central bank to act rather than sit on its hands. I would say to everybody that if the bank were to sit on its hands and do nothing then the pain of adjustment later on would be much greater.”

Opinion in the Bank firmed in favour of a rate rise a fortnight ago with the release of figures showing the headline rate of inflation stuck at around 4 per cent. The Bank’s target is 2 – 3 per cent. Its recently appointed Governor Glenn Stevens said in his first speech in the job last month that that he saw his main task as being to “see off the higher inflation of the past year or so”.

In September his predecessor Ian Macfarlane described the process of setting rates as an amalgam of an art and a science. “If you read a lot of academic treatises on economic policy, you would think that we have a big econometric model, and that we turn the handle on that, and that determined what we did. That is certainly not the case, I don’t really place very much credence at all on economic models, but it is based on an awful lot of empirical evidence and experience and analysis of previous business cycles and economic theory and common sense, and skepticism,” he told ABC Radio.

Mr Macfarlane said the question he asked himself when deciding whether or to not to adjust rates was: “When I look back in two years time, what could be the biggest mistake that I can identify being made now”. He said he tried to act to avoid that mistake.

The mistake that Reserve Bank officials are worried about making at the moment is allowing inflation to become entrenched at a level too high to bring down easily later. With employment and the use of infrastructure at generational highs there is a risk that unchecked, inflation will stay beyond the Bank’s target band and climb.

Glenn Stephens said in his previous role as Deputy Governor earlier this year that “thoughtful people understand that the way to keep inflation and interest rates low on average is to be prepared to put rates up modestly, but promptly, when inflation pressures start to increase.”

The members of the Reserve Bank Board met in the boardroom above Sydney’s Martin Place at 9.30am yesterday and considered a four to five page overview of the economy sent to them by the Bank’s management at the end of last week. Among those present were the Secretary to the Treasury Ken Henry, the ANU econometrician and climate change specialist Warwick McKibbin, the former head of Woolworths Roger Corbett, and the Chairman of Telstra Donald McGauchie.

The Bank’s previous Governor Ian Macfarlane has said that in his decade in the job the Board never rejected one of his recommendations. The announcement is expected at 9.30am.

It will bring Australian general level of interest rates back to where it was at the start of the decade before the series of interest rate cuts that began in 2001. But paying off a mortgage will be much more difficult than it was then because the size of a typical mortgage has grown much bigger.

When reminded yesterday that he had delivered his 2004 election policy speech from a lectern emblazoned with a sign that read ‘Keeping Rates Low’ Mr Howard said “even if rates go up tomorrow by a 0.25 per cent, they will still be low. They will be for housing somewhere in the order of 7.75 per cent, compared with a peak of 17 per cent under Mr Keating. So that sign will still be correct."

Government Split on Water Trading

The Australian government will enter this morning’s crisis summit on water in the Murray Darling Basin divided over the question of buying out struggling irrigators.

The government last week opened a tender for a limited purchase of water entitlements along the Murray Darling Basin, conditional on the water becoming available from extra efficiencies.

At the insistence of the Agriculture Minister Peter McGauran the tender was not opened to farmers wanting to sell entitlements in order to close or wind back their operations.

On the weekend the Prime Minister’s Secretary for Water Malcolm Turnbull signaled his support for more complete trading. He said it was “important that we allow water to trade and that farmers make their own choices and their own judgments.”

The Finance Minister Nick Minchin yesterday also lent support for complete water trading. He told the Senate: “The basic principle is that water users themselves are best placed to determine the most efficient use of water. If water rights can flow to the most efficient uses and if the price signals exist to encourage water efficiency then users themselves can make the tough decisions about how to allocate the available water fairly"...

But ahead of the water summit Peter McGauran said yesterday he would not be a party to any government offer to buy rural water licenses. He said he was concerned that if the Government was a buyer, it would squeeze out other buyers who might want to keep farms running.

"Governments have such deep pockets, they will inevitably win every auction and neighbors and other potential purchasers can’t compete. It is not a problem of willing sellers. It is a problem of willing buyers being swamped by the financial might of governments," he said.

The Prime Minister yesterday declined to take a stand on the issue. “I do not think it is time to announce a water policy at a doorstop. I think we have a good water policy, it is the National Water Initiative, and if that is fully implemented it will make an enormous contribution to solving the problem,” he said.

The National Water Initiative commits Australian governments to introduce water trading but is silent on the question of government buybacks.

The Wentworth Group of Concerned Scientists yesterday lent support to the idea of a national buyback. In a position paper released ahead of the summit it said that a government offer to buy back water entitlements would be simple to administer. “It worked for the Coles Myer share buyback and it can work just as well for an environmental water buyback. The entire prospectus need only be a few pages long and in plain English,” it said.

The Queensland Government will attend this morning’s summit offering to work with the Commonwealth to buy out Australia’s largest privately-owned irrigation operation, the giant Cubbie Station cotton property near the start of the Darling river. The network of dams on the estate holding water diverted from entering the Darling are said to be able to hold 500 megalitres of water, more than Sydney Harbour.

Queensland Deputy Premier Anna Bligh who will be attending the meeting on behalf of the Premier Peter Beattie said her state would come to the table if the federal government wanted to buy the property.

Cubbie’s Station’s joint managing director John Grabbe said last night that the property would not be for sale at any price. "The property is not for sale, so there won't be any purchase of Cubbie Station. As far as we are concerned that is the end of the issue," he told ABC Radio. He said Cubbie used only 0.28 of one per cent of the Murray's flow.

Prime Minister Howard will today present the Premiers of NSW, Victoria, South Australia and the Deputy Premier of Queensland with a stark update on the health of the Murray Darling Rivers. Whereas normally the flow into the rivers climbs thoughout the year to peak in September, so far this year the flow has flatlined with no increase at all.

“We have had a failed winter and a failed spring. Until now there was always a possibility that seasons could return to normal. That is no longer the case,” the Agriculture Minister Peter McGauran said yesterday.

“Normal average rainfall next year will not solve our problems overnight. The water storages are so depleted you would require the worst flood in 100 years to return irrigators to the sense of security they had been enjoying until now, he said.”

This morning’s crisis summit will be brief. The Prime Minister said yesterday it will be over in time for the Melbourne Cup.

“It will be over by lunchtime. It will be over, I have taken care, to ensure in sufficient time for [the Victorian Premier] Mr Bracks to return to Melbourne . It will be over in adequate time for people to view in an uninterrupted fashion, this great Australian festival,” he said.


Friday, November 03, 2006

Saturday Forum: Stern's Greenhouse

The most appropriate Australian political response to this week’s Stern Report on Climate Change came from the Leader of the Greens, Bob Brown. He suggested a Cabinet of National Unity of the kind formed during World War II. He quoted from Stern: “Our actions now and over the coming decades could create risks of major disruption to economic and social activity on a scale similar to those associated with the great wars and the economic depression of the first half of the 20th Century.”

In reality the problem dealt with by Stern is bigger than those facing the world at the time of the wars. It is truly global, intergenerational, and effectively irreversible.

And if you are to believe Sir Nicholas Stern himself, he was unprepared for it. He confessed to an audience in Oxford earlier this year that when he was asked to examine climate change in July 2005 he “had an idea what the greenhouse effect was, but wasn’t really sure.”

In some ways his initial ignorance has been his greatest strength... He examined the problem with no preconceptions. And he examined it as an economist. Most people who have inquired into climate change have done so as scientists. They have had the tools to examine what the problem is, but not to model its broader social consequences or to propose practical ways in which they might be averted.

As Sir Nicholas explained while writing his report, the great strength of economists is that they understand incentives. “And they contribute a great deal more to the world than those people who don’t know about incentives and they think about institutions to support those incentives,” he said.

Originally an academic, Stern learnt about applying the tools of economics to practical problems as the Chief Economist for the European Bank for Reconstruction and Development in the 1990’s and then the World Bank. At the Bank from 2000 to 2003 under the Australian James Wolfensohn, Stern was asked to model the human and financial effects of catastrophes including AIDS, famine and wars. His advice had to be practical. It would be acted on. And he was asked to provide it free of ideological constraints.

He had to do so again in 2004 when as head of the UK Government Economic Service he run the research program for the Commission for Africa which reported to the leaders of the G8 industrial nations. His recommendations took ideas from free-marketeers (he recommended that the G-8 nations end their export subsidies) and from the anti-globalisation movement (he recommended that the leaders write off billions of dollars of bad debts).

But he says the invitation to examine global warming for the British Treasury forced him to stretch the tools of economic analysis to and beyond their limits. “We are talking about areas which are potentially right outside the area of human experience, not just modern human experience, human experience period,” he said.

Along the way he has had to ditch several standard tenets of economics. One is that it is possible to measure the damage that something will do by adding up the amount of money that people will pay to avoid it.

His report says that makes no sense when dealing with a phenomenon that will affect both the world’s richest and poorest citizens. As his report puts it: “a very poor person may not be ‘willing-to-pay’ very much money to insure her life, whereas a rich person may be prepared to pay a very large sum. Can it be right to conclude that a poor person’s life or health is therefore less valuable?” Stern decided to value all lives equally.

And from this decision came one even more radical. Stern decided to value the lives of future citizens equally with those of today. In most types of cost-benefit analysis the future is valued less highly than the present. This is because people prefer to enjoy things now rather than later. A dollar in the future isn’t as valuable.

But Stern says he can find no justification for valuing the lives of future generations less than those of people alive today. He said there might be a justification for doing that when comparing outcomes that can be reversed, or are fairly similar. But where one course of action would devastate a future generation and the other would not the welfare of that generation should be weighed equally alongside that of todays.

Stern finds that if no action is taken to limit global warming within the next few years, after a century or so the annual cost will exceed 5 per cent of global income, most of it borne by the world’s poorest people.

By contrast he finds that the cost of taking action now will amount to 1 per cent of annual global income.

The actions he suggests go beyond those advocated by either Australia’s Government or Opposition.

The Government wants to pour billions of dollars into research into developing new technologies, something Stern regards as vital, but according to a Canberra energy consultant Dr Hugh Saddler, it is less keen to fund the commercialisation of that technology. He says that developing technologies is only the first step. “Ensuring that they can survive commercially is more important,” he says.

The Labor Party has promised to introduce a system of carbon trading, something Stern regards as essential, but it has not specified the way in which the system would work. Stern has come down in favour of a method that would deeply damage the economics of Australia’s coal-fired power stations.

In theory, carbon trading could reduce greenhouse gas emissions even if the permits were handed out to the existing polluters for free, as has happened in the European scheme.

But Stern finds all sorts of problems with handing out permits for free to those industries that are at present the dirtiest polluters. One is that ahead of the scheme being introduced there might be a race to install the dirty technologies that will earn the most permits, and there could also be an incentive to keep dirty plants operating until the scheme comes in. Another is that the free allocation of permits imposes no immediate cost on existing polluters but imposes a significant cost on new (probably cleaner) competitors that might want to enter the industry.

Stern wants governments to auction pollution permits (although he says he can see a case for issuing some permits for free as a transitional measure). It is a measure that will hit existing polluters hard, forcing them to pay the full costs of the damage their operations are causing much sooner. He sees this as an advantage, bringing “management attention to the importance of making efficient decisions that fully account for the cost of carbon”.

Hardest hit would be Australia’s dirtiest power stations, most of them in Victoria burning relatively wet brown coal. Power stations burning black coal would also be hit. Hugh Saddler of Energy Strategies says that it isn’t really possible to add carbon filters to Australia’s presently designed coal fired power stations. The carbon dioxide emissions are too diluted. He says the next generation of “capture-ready” power stations will have that capacity meaning that coal may well play a big part in providing Australia’s energy needs well into the future.

Australia’s coal mining industry is unlikely to be particularly damaged by an Australian decision to require emission permits. Most of the coal mined in Australia is exported. Demand for it will be determined by the carbon-pricing decisions of the countries in which it is burnt, irrespective of what happens in Australia.

On the other hand Australia’s gas industry may well be hit. Although natural gas is a very clean burning fuel by the time it is piped to homes and factories or sent overseas, that is because it has most of its carbon removed at the site where it is mined. The gas mining centers of Moomba in South Australia and the North West Shelf in Western Australia are among Australia’s biggest carbon emitters.

In a study prepared for Australia’s state and territory in August the Allen Consulting Group found that the electricity industry itself would suffer as a result of carbon pricing. Each household could find itself paying an extra two to four dollars a week for electricity and so would cut back on electricity use.

The industries advantaged by carbon pricing were found to be include wind, biogass, and biomass electricity production, as well as electricity plants fired by gas. The exact identity of the winners would depend on the price set for a tonne of carbon and technological developments.

The study prepared for Australia’s states and territories examined a price of $12 per tonne of carbon emitted, climbing over time to around $30 per tonne.

At the other end of the scale is a study prepared by the Australian Bureau of Agricultural and Resource Economics for the CSIRO and a consortium of Australian companies including Rio Tinto, BHP-Billiton, and Woodside Petroleum. It models the effect of carbon tax of around $600 a tonne, which it finds would decimate the Australian economy, cutting GDP by 10 per cent, real wages by 20 per cent, and doubling petrol prices.

The Stern Report takes uses numbers closer to those used by Australia’s states than ABARE finding that the damage done by each tonne of carbon is about $A110 but it can be avoided for a cost of about $A32 a tonne.

The $A32 price nominated by Stern appears to be too low to make nuclear power economic, and also too low to guarantee the success of wind power.

And could be the problem recognised by the government this week and now facing the Opposition. Charging for carbon emissions is policy with identifiable losers, and without easily identifiable winners.

The Treasury Secretary Ken Henry said this week that in an economy like Australia’s running at or near full capacity, for just about every loser there is a winner.

“Almost every day I hear somebody arguing that some activity should be accorded a special taxpayer-funded hand-out, either because it will ‘create’ some impressive number of new jobs or because, if it doesn’t receive taxpayer-funded support, an equally impressive number of jobs will be ‘destroyed’,” he said.

His message is that if any industry, presumably including any polluting industry, is forced to close by a change in circumstances, it will not cost the Australian economy jobs, or even necessarily harm GDP. Another industry will emerge to replace it.

It is a message that time has proved true when it comes to cuts in tariffs. Yes, Australia’s clothing and manufacturing industries have been hurt, but new ones have arrived to replace them.

It required courage for Australia’s policy makers to stand up to the old industries who were saying that Australia would suffer if they suffered. The Hawke government had that courage when it began winding back Australia’s industry protection in the 1980’s. Australia is better off today as a result.

Our leader’s responses to the Stern report will indicate whether they have that same courage.


The impressive Doctor Henry

At the Melbourne Institute Economic and Social Outlook conference last night the head of the Treasury Ken Henry delived yet another typically impressive speech.

My favourite is one of his first as Secretary to the Treasury, delivered in 2001, focusing on the environment, Ken's first curiosity about economics and his father.

Dedicated to my father John Henry, timber worker

It'll bring a tear to your eye.

Last nights was entitled Managing Prosperity. Much of it dealt with what we still have to do, for the first Australains who have been left behind.

This is how I described it in the Canberra Times:

The head of Australia’s Treasury has nominated indigenous deprivation as one of Australia’s most important remaining economic challenges.

Delivering an address entitled “Managing Prosperity” to a conference organized by the Melbourne Institute and the Australian newspaper last night Dr Ken Henry said Australia would not have managed prosperity well until it corrected for past mistakes, some stretching back for generations.

He said that Australia’s overall standard of living had climbed to the point where it was higher than that of every G7 country other than the United States. But he said that measure masked the “severe capability deprivation suffered by most indigenous Australians”.

Australia’s top economic bureaucrat told the audience of business leaders that he feared the solutions needed might be “simply too confronting to command wide-spread community support.”

“Most Australians know there is something wrong because they see images of substance abuse and domestic violence in indigenous communities,” said Dr Henry.

“But that is about all they see. And it might be all they want to see; for the most part preferring the mental image of the indigenous community as a sheltered workshop for the permanently handicapped".....

Dr Henry said indigenous communities were in fact a part of mainstream Australia, but one with a dramatically lower life expectancy — 17 years less than the Australian average, dramatically lower rates of schooling and employment, and substantially higher rates of imprisonment.

“Indigenous disadvantage diminishes all of Australia, not only the dysfunctional and disintegrating communities in which it is most apparent. Its persistence has not been for want of policy action. Yet it has to be admitted that decades of policy action have failed.”

The Treasury Secretary praised the indigenous development initiatives undertaken by mining companies such as Argyle Diamonds in Australia’s West. He said those initiatives created real jobs because they brought into employment Australians who would otherwise face a life of welfare dependency.

He said by contrast “…almost every day I hear somebody arguing that some activity should be accorded a special taxpayer-funded hand-out, either because it will ‘create’ some impressive number of new jobs or because, if it doesn’t receive taxpayer-funded support, an equally impressive number of jobs will be ‘destroyed’.”

Doctor Henry said that in an economy approaching full employment most so-called job creation measures only shifted jobs around. But he said measures that gave jobs to indigenous Australians or to others who would otherwise be out of the workforce could create real jobs.

The Treasury Secretary said there were grounds for hope. He said when he attended Chatham High School at Taree on the NSW mid north coast three decades ago the aboriginal student population was only three-tenths of one per cent. He said he was invited back to speak at the school last month and discovered that 17 per cent of the students were indigenous.

He said he was surprised to discover on a visit to Cape York last year that the main concern of aboriginal community leaders was the amount of red tape they had to work through in order to deal with competing government programmes and agencies. “Compliance with red tape was absorbing all of the administrative capacity of the community,” he said.

Dr Henry nominated reducing the red tape burden on indigenous communities as a national reform priority.