Wednesday, December 31, 2008

Looking forward, looking back

Each year Ross Gittins writes an article that is never published in any of the newspapers for which he writes.

He calls it Australia's Outlook for Politics and Government. I call it "Looking forward, looking back".

It is when the Sydney Morning Herald's economics editor takes off his economics cap (although not entirely) and shares his perspective on politics in the year that's been and the year that's ahead.

He presents it at the annual Australian Business Economists forecasting conference, and then emails it to his friends.

Last year's was good, and prescient. Here's this years:

According to the conventional wisdom, in his first year of office Kevin Rudd has had the huge misfortune of being hit by a global recession that’s likely to drag our economy down, disrupt his many plans and possibly see him thrown out of office after just one term. But that’s not the way I see it. I think he’s had the great good fortune of having the world economy let him off the hook and greatly improve his chances of being re-elected. He and his ministers must be privately delighted...

Don’t blame me, it’s the GFC

As I observed in my talk a year ago, this was not a good election to win. Federal governments usually lose office only after they’ve presided over a recession, but John Howard got tossed out before any recession. As he left office, however, the economy was in its 17th year of expansion and close to full capacity, with the headline inflation rate heading for 5 per cent and the Reserve Bank stepping ever heavier on the interest-rate brakes so as to engineer a period of below-trend growth and rising unemployment. So the chances of a recession during the Rudd Government’s first term were high. It would then have had to convince the electorate this was due to the negligence of its predecessors, not any mismanagement of its own. Coming after Peter Costello had spent 11 years reinforcing the public’s natural suspicion that Labor isn’t good at running economies, this would have been a tall order. Post-war history says no federal government has ever been turfed out after one term, but this time last year I thought Mr Rudd’s chance of being the first was quite high.

All this Labor understood full well even before it won the election. That’s why it set about from the very start criticising its predecessor’s economic management and dramatising the extent to which inflation was blowing out. As we know from the national accounts, tight monetary policy caused the economy to slow to stalling speed in the September quarter without much help from the rest of the world. But that’s not the way the public sees it, nor is it the way the Government is encouraging us to see it. The global financial crisis that followed the collapse of Lehman Brothers on September 15 was so scary it’s now burnt into the public’s brain and the obvious cause of all the nastiness that’s to follow. So, as long as the Rudd Government keeps reinforcing that rewriting of history, it’s off the hook. Don’t blame me, it’s the GFC.

All past Australian recessions have occurred as a result of a combination of domestic imbalances and world recession. This one will be no exception. But politicians from the Whitlam government on have always had trouble shifting the blame to overseas factors beyond their control. The punters almost always think local. But that’s what different this time. If Mr Rudd can portray himself as just the guy cleaning up the mess after an international conflagration, and doing so with reasonable competence, his chances of re-election are, paradoxically, much enhanced.

Rudd as an economic manager and reformer

Last year I speculated on what Mr Rudd would be like as an economic manager, but this year we’ve got a lot more evidence to work with. I think the key to understanding him is his boast that he’s not ideological. It’s true, he’s not - which means he doesn’t have deeply held convictions about how the world works and how it should work. The closest he comes is that he’s a great believer in ‘process’. By training and by instinct he’s a bureaucrat. Governments’ job is to run the country and to do so in an orderly, considered, usually consultative way. That makes him a bureaucratic fixer. A leader’s job is to work his way through a list of all the things that are going wrong and need to be put right. Lacking strong views about how the world should work he doesn’t have priorities in any genuine sense, he has a to-do list. The fact that he’s a control freak also militates against him having genuine priorities.

Mr Rudd keeps saying he’s an economic conservative. I think that’s true. It’s mainly something you say to protect yourself in a Costello-created world obsessed by budget surpluses, but I doubt it will inhibit him all that much in allowing the automatic stabilisers to work and in applying an appropriate degree of fiscal stimulus on the top. When even the most respectable economists are calling on you to spend money, few politicians resist. On a deeper level, I think Mr Rudd is pretty conservative - in all things. He has no great desire to change the world in radical ways. He has no ideology driving him in such a direction and, in any case, radical change would annoy a lot of people and possibly cost him votes. You might think his resolve to do something about climate change doesn’t fit with this but, in fact, the great promise of an emissions trading scheme is that it’s the way to tackle the problem with least disruption to the status quo.

What being an economic conservative definitely doesn’t equate to is being an economic rationalist. Rationalists are ideological and want radical change. Mr Rudd is pro-business, not pro-market. He knows Labor can’t occupy government without the at least tacit support of big business and people otherwise inclined to vote Liberal. Having no strong commitment to smaller government or means-tested welfare, he has no burning desire reduce middle-class welfare. Being of bureaucratic inclination he is, almost by definition, an interventionist. If you want a label for him, Michelle Grattan has found the best: he’s a pragmatic interventionist.

I don’t want to shock you, but Mr Rudd is so lacking in ideology he sees economic rationalists not as people arguing propositions that are either right or wrong, but as just another interest group needing to be squared away somehow. You can see that perfectly in his car plan: the rationalists got continued falls in tariffs; the industry policy advocates got massive government spending. What’s your problem? Similarly, with climate change the rationalists get emissions trading and the environmentalists get renewable energy targets.

One of the most disappointing things about the Rudd Government is its obsession with dominating the 24-hour news cycle and its insatiable need for ‘announceables’. Utterly contrary to Mr Rudd’s commitment to good process, this is a preoccupation that wastes the time of its bureaucratic advisers, perpetually distracts the attention of ministers and gives spin doctors primacy over policy wonks. It makes me think we’re getting an antipodean version of Tony Blair and New Labour - superficially intelligent and committed to sensible, middle-of-the-road policy but, actually, preoccupied with re-election and, ultimately, disappointing and disillusioning.

Mr Rudd is a timid leader, one anxious to avoid offending many voters and lacking the courage of his convictions - manly because he doesn’t have many. The Government seems far more worried by what the Opposition will say about things than it needs to be. So Malcolm Turnbull will carry on about a budget deficit - so what? Labor is so obsessed by its unjustified reputation as a bad economic manager that it fails to see all the advantages of incumbency it possesses. Governments monopolise the microphone. When it comes to budgets, what the Treasurer says drowns out what anyone else says (including yours truly).

Rudd Government’s first year

Mr Rudd’s first year had some high spots - the ratification of Kyoto, the apology to the Stolen Generation - and quite a few low ones, such as all the nonsense about petrol and grocery price watches. The $6.2 billion car plan and Mr Rudd’s statements about not wanting to be the leader of a country that doesn’t make things was disappointing. It’s noteworthy that the global financial crisis was used to help justify the car plan, a sign that we can expect more exercises in the New Protectionism, all in the name of protecting jobs. How can protecting jobs be bad?

Labor’s first budget purported to involve a significant tightening of fiscal policy so as to reduce the pressure on monetary policy and interest rates, but didn’t. We were told to expect tough spending cuts but they were few and far between, with their place taken by increases in the taxes on alcopops, luxury cars and petrol condensate. With storm clouds gathering internationally, the Government took a punt that a tightening of fiscal policy wouldn’t be needed and its bet paid off. Even so, a once-in-a-government chance to spring clean government spending with political impunity was lost. We were told the Government hadn’t had enough time to properly review spending programs and that a proper review would be implemented in next year’s budget, but I’ll believe that when I see it.

Despite the lone campaign being conducted by an Australian newspaper, Labor’s replacement of Work Choices with its own Fair Work was almost completely consistent with its election commitment. It was a reasonably even-handed exercise, to which the main employer groups took little exception, unless you believe that fairness is an irrelevant consideration in industrial relations and that efforts to stamp out collective bargaining are in the best interests of all sides. Remember that Work Choices had already been heavily modified by John Howard with his late insertion of a ‘fairness test’. As an example of Labor’s moderation, note that the guidelines devised for the Fair Pay Commission’s setting of minimum wages were little changed when handed over to Fair Work Australia.

Mr Rudd and his ministers have put much effort into achieving productivity improvement through co-operative federalism and revitalisation of the COAG process. About 90 special purpose payments have been reduced to five broad categories and ‘national partnership payments’ introduced as an incentive for the states to achieve certain targets. But progress has been slow and how much actual improvement is achieved remains to be seen.

Generally speaking the Government did well with its ‘decisive’ response to the global financial crisis in late September and October. Its one significant error was that, when it finally produced details of its guarantee of bank deposits, it didn’t pull back sufficiently so as to reduce flow-on problems for other institutions.

Policy prospects for 2009

Next week the Government will publish its white paper on its Carbon Pollution Reduction Scheme, including its target for reduction in emissions by 2020. I fear we’ll see a demonstration of Mr Rudd’s lack of courage and lack of conviction. We’ll be off to a very slow start - with a reduction of maybe only 10 per cent by 2020 and a fixed or tightly capped carbon price - plus a lot more concessions to polluters than are warranted.

Next year’s budget will be an important one, no doubt with a lot more fiscal stimulus. We know it will contain increased payments to single pensioners combined with, we must hope, reform of the interface between tax and transfers. We know Ken Henry’s root and branch tax review has also been called on for advice about superannuation arrangements - though not about the tax-free status of payments to the over-60s. The budget will incorporate already-announced spending on infrastructure projects. Note that spending from the nation-building funds will add to the budget deficit but not to the borrowing requirement. The budget will contain the second round of tax cuts promised in the election campaign - which, though already included in the forward estimates, will add to the fiscal stimulus. The thing to note here, however, is that as they stand, those cuts deliver little to low and middle income-earners, and so will have to be supplemented by additional cuts that aren’t in the forward estimates.

Speaking of the tax review, it’s supposed to report late next year, but I have a feeling it won’t figure largely in the government’s pre-election figuring, except to the extent that, as with transfer payments and with super, it’s called on for special advice on a specific issue. Next year will be some sort of moment of truth for the Rudd Government as the many inquiries it has commissioned report and recommend action. The Government has been running a line that says: terribly sorry, we assumed we’d have a big budget surplus to play with, but now the GFC has robbed us of that we’ll have to be much more selective in what we can agree to. I find this a curious argument. If we were still running big surpluses that would mean we were still close to full capacity and so the Government shouldn’t be spending big. On the other hand, in my experience periods of recession and deficit are times when governments spend freely and become less discriminating, not more. So perhaps this line is the Government’s way of belatedly admitting that, in commissioning so many inquiries, it bit off a lot more than it could chew.

My summary judgement on the Rudd Government’s performance to date: good but far from great.

Observations on monetary policy

Towards the end of the monetary policy tightening cycle that ran for six years, the Reserve Bank developed a clear and simple modus operandi in which it waited for the quarterly CPI release, revised its inflation forecast on the basis of the new information and then adjusted the stance of policy if necessary at the board meeting about two weeks later. It aligned its quarterly statements on monetary policy so they followed the board meeting after the CPI release and they preceded its six monthly appearances before the parliamentary committee. This simple MO had many advantages for the Reserve, but also for the markets. Particularly because the Reserve moved in steps of 25 basis points, predicting the size and timing of rate rises became child’s play.

But in these comments last year I observed that this MO would not be suitable in times when you needed to move fast, nor during an easing cycle. I noted that this MO would last only as long as it suited the Reserve. Well, that’s one thing I got right. As soon as the Reserve began its easing cycle in September the old, predictable way of doing things disappeared. When you’re cutting interest rates there’s never any political resistance - from the government or the lobby groups - so you don’t have to worry about carrying the public with you. And, just as the old saying says the dollar goes up by the stairs and down by the lift, so you need to ease a lot faster than you tightened. I think this is because the effect of rate rises isn’t linear. When business and consumers are in an optimistic mood, you can keep tightening time after time and not have much effect on demand. But then one day you give it one more turn and suddenly the mood switches to pessimism and caution. The economy begins slowing rapidly and you need to cut quickly to avoid a hard landing.

When the world is hit by a global financial crisis of almost unprecedented scariness, and when it becomes clear that almost all the major economies are already in recession, then the need to achieve a rapid change in the stance of policy is clear. When interest rates are a long way from neutral - in either direction - you probably shouldn’t stay there for long, and you need to act quickly if you discover the stance is no longer appropriate. On this occasion, the Reserve moved the stance from quite restrictive to clearly expansionary in just three moves spread over two months. In that time it cut the cash rate by a remarkable 40 per cent.

In the process, however, the Reserve’s signalling to the market went awry and a lot of market participants and business economists were caught out. So let’s try to explain what happened. We now know that, at both the October and November board meetings, the rate cut that was recommended in the board papers was increased at the meeting itself. Some people have wondered whether surprising the market by cutting more than expected was a ploy intended to increase the favourable impact of the move. It wasn’t. The explanation was simply that, in the short period between the recommendation and the meeting, more worrying information arrived to cause the governor to decide that an even greater cut was warranted. Monetary policy has always been set in the governor’s gut.

Some people were led astray by a speech Ric Battellino gave in which he observed that the big inflation task could limit the Reserve’s room for manoeuvre on monetary policy. This hardly seemed to fit with the move less than a week later to cut by 75 points. So how was it explained? Well, Ric is an independent thinker, he has strong and non-conformist views which, as a member of the board in his own right, he’s not afraid to express. There’s no danger of group think while Ric’s around. He expressed his view but, in the end, it didn’t prevail.

It’s clear Glenn Stevens regards the threat to our economy from the global recession as very great and decided to get rates down to the right level as quickly as possible. But while the Reserve does not see it as its job to provide the markets and business economists with an everlasting one-way bet, it also knows that if it goes on surprising people it will lose some goodwill. I think we’ll find that, when the minutes of the December meeting are published, the cut of 100 points was what had been recommended in the board papers.

Remember, too, that in response to the market’s urging, the Reserve puts out a lot more material than it used to - a statement after every board meeting, even when there’s no change; minutes of board meetings, and Mr Stevens giving a lot more speeches than Ian Macfarlane did. But the more material the Reserve puts out, the greater the scope for misunderstandings.

Looking to next year, there are a few things we can say. I’m sure the board will meet in January if that proves necessary, but the normal gap until early February provides a welcome opportunity for the Reserve to sit back and take stock. It has made a very large change in a short time, taking the cash rate down to its previous low. To some extent it’s got ahead of the data, relying heavily on ‘liaison’ (regular and systematic consultations with key firms and industry groups), anecdote and intuition. It has assumed that what’s been happening abroad will have a big effect on us, but it will now need to see the hard data confirming this.

The world recession looks like being significantly more severe than we’ve experienced before. If so, there’s little doubt we’ll be pushed into recession as well. It’s already apparent that our economy is softer than was forecast as recently as the November SoMP. We now know the first quarter has made a contribution of just 0.1 per cent to the forecast of GDP growth over the year to June 09 of 1.5 per cent. Similarly, the first quarter has made a contribution of minus 0.3 per cent to a forecast for non-farm growth of 1 per cent.

So it’s clear that, even though the cash rate is already as far from normal/neutral on the downside as we’ve seen, the Reserve has further to go next year. But if you thought it likely on present indications to go no further than the low 3s, just one more cut of 100 points would see it done. This suggests the Reserve will soon have to level out, making smaller cuts of 50 points or even 25.

The Reserve will respond to developments as they occur. But there are two things to remember about next year. First, the cuts to date have had an expectation of more bad news to come factored in. So when the expected bad news actually arrives, you need to respond only to the extent that it’s worse than you originally allowed for. That is, you have to avoid double counting. Second, because the Reserve has acted with such alacrity, we’re reaching a point where things continue getting worse, but it doesn’t respond because it’s already done all it considers appropriate. This is an inevitable consequence of the pre-emptive approach to monetary policy, but that won’t make the appearance of inaction any easier to accept by the public - and maybe even some business economists.


Saturday, December 27, 2008

You're a champion! Let's check that score

First, attempt the quiz.

Answers below the fold.

45: You bloody cheat

40-44: Genius

35-40: Smarty pants

25-34: Not bad

15-24: That eggnog really got to you

10-14: You barely deserve to vote

10 or less: Vote? What’s that?

The answers...

(1) (c) (2) South Australian Greens senator Sarah Hanson-Young, born December 23, 1981 (3) (c) (4) Wilson Tuckey, Don Randall, Dennis Jensen and Luke Simpkins – all from WA – Victorian Sophie Mirabella and Alby Schultz from NSW (5) (a) and (c) (6) (d): Afghanistan, Belgium, China, East Timor, Indonesia, Iraq, Japan, Kuwait, Malaysia, New Zealand, Niue, Papua New Guinea, Peru, Romania, Singapore, Solomon Islands, South Korea, UAE, United Kingdom, United States (7) Graham Perrett (Labor, Moreton, Queensland). The Twelfth Fish was published by Vulgar Books (8) 299 days. November 29, 2007 until September 16 (9) (d) (10) (a) Senator Louise Pratt (ALP) (b) Senator Michaelia Cash (Lib) (c) Scott Ludlam (Greens) (d) Steve Irons (Lib, Swan) (e) Luke Simpkins (Lib, Cowan) (f) Gary Gray (ALP, Brand) (g) Melissa Parke (ALP, Fremantle) (11) (a) global financial crisis (b) Intergovernmental Panel on Climate Change (c) Rules of Engagement (d) Carbon Pollution Reduction Scheme (12) Julia Irwin (Fowler, NSW) (13) Toyota Prius (14) 25 times in his 28-year career, including two seven-day suspensions in the 1980s, once for three days (that was on November 12), 11 for a full day and 11 for an hour (15) (b) (16) $190,891 (17) (g) (18) He took pictures of a disturbed man threatening to self-immolate outside Parliament House and offered them for sale to newspaper photographers for $1000 (19) (a) (20) (c) (21) (c) (22) Gary Gray (23) (a) Kevin Rudd (b) Peter Costello (c) Bronwyn Bishop (d) Lindsay Tanner (e) Simon Crean (f) Martin Ferguson (g) Christopher Pyne (h) Alan Eggleston


Friday, December 26, 2008

SUMMER QUIZ: Are you game?

Need a Boxing Day hangover cure do you? You ignored that warning about Aunt Joan’s eggnog?

The West Australian's wity and well-rounded federal political editor ANDREW PROBYN has a way of distracting your alcohol-addled grey matter from the throbs and excesses of Christmas Day.

Find a quiet corner, away from the dreadful relatives and attempt the 2008 Pollie Pub Quiz, which looks at some of the highlights and lowlights of the political year that was.

(1) What is the name of Peter Costello’s memoirs?

(a) Coulda, Shoulda, Woulda
(b) John Howard: My Part in His Downfall
(c) The Costello Memoirs
(d) Hubris in Surplus
(e) I Did It His Way...

2) Who is the youngest federal politician?

(3) What is the missing word from this wonderful example of Rudd-talk, taken from his speech to the Brookings Institution, Washington DC, on March 31: “A complementarity that could be developed further in the direction of some form of . . . . . synthesis”

(a) organic
(b) photo
(c) conceptual
(d) pseudo intellectual
(e) evolutionary

(4) Six Liberal MPs, including four West Australians, absented themselves from the House of Representatives vote during the historic February 13 apology to the Stolen Generations. Who were they? (ONE POINT EACH)

(5) Julie Bishop has twice been caught plagiarising since her elevation to shadow treasurer in September. What/who were the TWO sources from whom/which she pilfered:

(a) NZ businessman Roger Kerr (b) Dietrich Bonhoeffer (c) Wall Street Journal (d) Green Left Weekly (ONE POINT EACH)

(6) How many countries has Kevin Rudd visited in the past 12 months?

(a) 14 (b) 16 (c) 18 (d) 20

(7) Which federal MP released a sexually-charged novel this year called The Twelfth Fish, which contains the following line:

“The din from the party mocked me as Karen attacked my surly worm with gusto. It was as if she was professionally slighted by my medical predicament.”

(8) How many days was Brendan Nelson Opposition Leader? (you get a point if you are within 10 days)

(9) To what or whom was Kevin Rudd referring when he said it was the “greatest moral challenge of our time”?

(a) Brian Burke (b) men’s hair loss (c) terrorism (d) climate change

(10) Name the WA federal parliamentarians whose maiden speeches this year contained the following: (ONE POINT EACH)

(a) “I look forward to a time when we will have removed at a federal level all discrimination on the grounds of gender identity and sexuality, to a time when my partner is not denied a passport because his gender is not recognised under our laws”

(b) “What is currently missing in the tidal energy option is the necessary start-up support at a national level—support which will be repaid many times over once tidal power is producing competitive energy”

(c) “I grew up in the back of a van which was somewhere different every day … so my earliest childhood memories, after distant impressions of New Zealand, are of Indian back roads, London snow and African railways”

(d) “At the tender age of six months I was removed from my family, placed in a babies’ home and made a ward of the state in Victoria until I reached the age of 18”

(e) “Parents or carers who provide their children with examples of crime, drug addiction or illicit drug use clearly demonstrate that they are poor role models. I believe in intervention where necessary and the removal of children where necessary”

(f) “We sailed from Southampton, England, on the ship Fairsea. I was eight years old. Our destination was Adelaide. We were a family of £10 Poms, part of the migration that filled the steel mills, the manufacturing plants and factories”

(g) “I am from Kosovo and Gaza and Beirut and New York. These are the places where I worked for the United Nations”

(11) Kevin Rudd is the master of acronyms, but how good are you? What do the following Ruddonyms mean:

(a) GFC (b) IPCC (c) RoE (d) CPRS

(12) Which pro-Palestine Labor MP boycotted Kevin Rudd’s parliamentary motion commemorating the 60th anniversary of the foundation of Israel in March?

(13) What sort of car does Therese Rein drive?

(14) How many times has Wilson “Ironbar” Tuckey been ejected from Parliament since 1980?

(15) What did Labor MP Belinda Neal reportedly tell staff at Gosford’s Iguana’s nightclub in June?

(a) I told you I didn’t want chips with that (b) Don’t you know who I am? (c) I said a Vodka Cruiser you dumb @#$#!

(16) Former Governor-General Michael Jeffery was secretly granted a waiver on his superannuation tax, worth how much?

(17) What has Kevin Rudd NOT declared war on?

(a) drugs (b) inflation (c) unemployment (d) whaling (e) climate change (f) binge drinking (g) waffly diplo-babble

(18) What did obscure Queensland Labor MP James Bidgood do to earn a “counselling” sesson from the Prime Minister’s office earlier this month?

(19) What was it that George Bush allegedly didn’t know in the conversation he had with Kevin Rudd?

(a) What the G20 was (b) The spelling of potato (c) What Dick Cheney was up to (d) Where John Howard was

(20) What gesture did Julie Bishop make at Julia Gillard in Parliament?

(a) bird (b) moon (c) cat’s claw (d) two finger salute

(21) To whom was Tony Abbott referring when he said in August: “We miss him. We love him.”

(a) John Howard (b) Sir Oswald Ernald Mosley (c) Peter Costello (d) Dr Daniel Mannix

(22) Which federal Labor MP has an anagrammatic first name and surname?

(23) The following anagrams are which current federal politicians?

(a) dive drunk (b) elect per stool (c) born by posh win (d) nasty inner lad (e) romance sin (f) Agnes from Turin (g) pinch Tory herpes (h) elongate glans


Thursday, December 25, 2008

What's it all cost?

$US21,080 at latest count.

But its worth it.

Below the fold are some previous thoughts:

So, you’re dreading Christmas.

I am too.

Not the day itself, but the agonizing hunt for presents in the weeks leading up to it.

I am prepared to spend a lot – most working Australians plan to spend around $830 according to the financial group AXA – but I don’t know on what.

My fear is that unless I buy extremely well, I will spend maybe $50 on something that is worth much less than $50 to the person who receives it.

Economists have a name for this concept: a
deadweight loss. Small government advocates are always evoking it. The government collects from you say $20,000 a year, and spends it on your education, health and so on. But because the government doesn’t know what you need as well as you do, you won’t get as much value from the $20,000 as you would have had you spent it yourself.

Some estimates put the deadweight loss of taxation as high as 20 per cent. That means that for each dollar of our money the government spends for us, we only get 80c worth of value.

Over Australia's entire economy the annual lost value the deadweight loss might be $70billion.

But what about Christmas? How much value might be lost to us each Christmas because we swap inappropriate presents instead of swapping cash?

It's the sort of question only an economist would ask. Economist Joel Waldfogel, from Yale University, asked it first 13 years ago in a seminal paper entitled
The Deadweight Loss of Christmas.

He asked university students to estimate both the amounts paid for the gifts they had received and the amounts that those gifts were actually worth to them. He found that at least 10 per cent of the value of the gifts was destroyed in the giving.

In a later,
more sophisticated study, he put the figure at between 10 and 18 per cent of value lost as much as $9billion throughout the United States each Christmas. If you doubt Professor Waldfogel about the inefficiency of present giving, consider present recycling.

A survey conducted by American Express found that 28 per cent of us rebirth some of the presents we receive as gifts for other people. And then there are returns. The US Journal of Consumer Research has concluded that 16 per cent of all gifts bought by men are returned to shops by the recipients; 10 per cent of all gifts bought by women. (Women are better at choosing the right gifts than men).

So given the anguish gift buying causes people like me, and given that from a financial point of view the process is pretty much the same as tearing up $100 notes, why on earth do we still do it?

Two British economists Todd Kaplan and Bradley Ruffle have set out to answer the question in a paper just published in the Journal of Economic Literature entitled:
Here's something you never asked for, didn't know existed, and can't easily obtain: A search model of gift giving.

Their theory, summed up by the title, is that there are situations in which the gift giver will know more about the desires of the person receiving the gift than they do themselves. I am sure you know the feeling; it is often a wife or a husband. As well, the gift giver might have knowledge about the latest products or how to obtain things that the recipient doesn't have. I remember well the day my dad gave my aged grandfather a modern shaver for Christmas.

Grandpa hadn't known that they existed, and he didn't normally approve of Christmas, but he was thrilled.

I bought my wife an iPod (about my one success in the field of gift-giving) and she loved it because the whole idea was new she hadn't really been aware of it.

Present giving is extremely common when we come back from overseas. We've been able to obtain something exotic that the person receiving the gift couldn't get at home.

So important do Kaplan and Ruffle think this phenomenon is that they say it might just cancel out the deadweight loss identified by Waldfogel. They say that: "just maybe, on average, gift giving may make people better off than in its absence".

But other things are important as well. Many of us don't like spending on ourselves.

A few years back,
Ran Kivetz and Itamar Simonson from Columbia and Stanford universities, offered 6000 Americans the chance to take part in a lottery. They were given a choice of what to accept as a prize in the unlikely event that they won either cash or a luxury prize of lesser value. One lottery offered the choice of either $55 in cash or a premium bottle of red wine (retail value $50). Another offered the choice of either $85 in cash or a one-hour facial (maximum retail value $80).

Financially there is no question as what's best the cash. You could spend the cash winnings on a bottle of wine or a facial and have money left over. And yet about a quarter of the Americans tested went for the luxury prize. Asked why, they said things like: "If I chose the cash, I would probably spend it on something I need rather than something I would really enjoy" and "This way I will have to pamper myself and not spend the money on something like groceries".

Perhaps that's why we continue to give presents notwithstanding what may be their economic inefficiency. We like to be pampered, and usually we're too stingy to do it ourselves. I know exactly the double CD I want for Christmas, and I have dropped a fairly unsubtle hint about it. Normally I'd be reluctant to spend the money, but at a time of indulgence, what the heck?

And the look of pleasure on my wife's face at the look of surprise and pleasure on mine will make it all worthwhile.

Monday, December 22, 2008

The best book about journalism - ever

That's how Phillip Knightley described
A crooked sixpence now actually available, 47 years after it was pulped.

I have actually held it, but never been able to read it. The legendary journalist Murray Sayle put his only copy into my hand in the little village he lived in out of Tokyo in the year 2000.

"This is my novel about journalism," he told me, or something to that effect. "But it is the only copy I have." And with that he took it back, perhaps wisely, given my prediliction for mislaying things.

It was pulped because the real-life equivalent of one of the minor characters in it threatened to sue for libel. The surviving copies become collectors items.

Five decades on that person has died, and the book is back in print. Apparently better than The Front Page on which many movies have been based, it itself was going to be a movie, but the libel threat killed that.

This article in the Sydney Morning Herald explains the history.

I've ordered my copy from Amazon UK - but they seem to have only 9 other copies left.

But other outlets seem to be selling copies online - type in Crooked Sixpence and Murray Sayle into Google and you'll probably find them.

Below the fold is a real treat - an extract.

But first some words about Murray. Genius would be a fair description, also: a total intellectual completely without bullshit, a tireless investigator with a keen eye, and an artist with the pen.

Murray Sayle is a genrous mentor and a great friend. And he has happened to be in just about all the right places at the right times - Ern MalleyVietnam, Bloody Sunday, Ché Guevara, `Philby', the shooting down of KL007 in 1983, Japan as it came to terms with its past, etc.

An editor of the Sydney University student newspaper before heading overseas, he never lost his Australianess. On returning home he was last year was awarded an honourary doctorate by Sydney University, 64 years after leaving the university without graduating.

The piece of writing he is most proud of is Did the Bomb End the war?, in The New Yorker, July 31, 1995.  It makes a persuasive case that it did not.

Anyway, here's the treat. And consider buying the book....

‘Tell me about [your branch of journalism],’ said the girl. ‘I’m fascinated.’

‘I don’t believe that either,’ said O’Toole. ‘But you asked for it. You have to understand that newspapers are all, more or less, in two distinct kinds of business.

There’s the intelligence side. You know, meat will be dearer tomorrow, the president of Peru just shot himself, bond-holders beware. That sort of thing’s supposed to be true. The other side’s the one the money’s in.’

‘That’s what you’re in.’

‘Right. It’s called human interest, and it’s really a branch of show business. Non-stop vaudeville, changed every day, and always leave them laughing. If you can write revue sketches and begging letters and you can clean up dirty jokes, you’ve got what it takes. The only difficult part about it is to get members of the public to take part in your productions.’

‘This is the side that doesn’t have to be true.’

‘Not in the pedestrian, literal sense, no. But it has to be true within a set of conventions called “a nose for news”. All women under fifty-five are attractive. All Frenchmen are hair dressers. Every time an aeroplane crashes someone had a dream warning them not to go, a broken doll was found in the wreckage, and priests gave absolution to the dying. That’s what people want to read, so that’s what I write. It’s of no importance that the mill-girl doesn’t exist, except that it saves me the trouble of convincing some deluded little girl that the things that have to happen to her really did happen. It also saves my employer some money.’

‘You really despise it, under your big tough act, don’t you, James?’

‘You may be right about my act,’ said O’Toole. ‘But you’re quite wrong about my attitude. Most of the time, I love it. It’s got the warm friendliness of clean, uncompromising dis honesty. None of your barrow-boys polishing up the apples on the front of the stall. Mind you, I’ve got to admit that everyone I ever knew who was in a dirty racket said exactly the same thing: what I like about this game is it’s good, clean dirt.’

‘But it’s such a waste of ability.’

‘Oh, I don’t know. We’re entertaining people, too, and T S Eliot would use exactly the same line of defence for his racket. It can be a very congenial atmosphere to work in. The one thing you don’t have to be is sincere.’

‘Except with the public.’

‘I forgot them. Around the office there are one or two people you have to keep a straight face with, of course, but everyone else knows the whole thing is balls. And they know you know it, too, and so on.’

‘But it must be terribly unsatisfying, isn’t it?’

‘You have to remember we’ve all got something wrong with us,’ said O’Toole. ‘Booze, wrong class, hungry for power, can’t do anything else. There’s always a psychological club-foot or a nasty secret somewhere.’

‘What’s wrong with you, for instance?’

‘Oh, I’m lazy. I need some bastard cracking the whip over me before I can write a line and then some other bastard telling me what great stuff it is as I go along. I like the sensation of power, phoney as the power is. Also, I’m an honest man.’

‘Making up stories about mill-girls?’

‘I’m too honest for business, let’s put it that way. I don’t have to convince myself people like their milk watered.’

‘Couldn’t you be just ordinary old-fashioned honest without all these excuses?’

‘You’re making me uneasy,’ said O’Toole. ‘Tell me some more about yourself, if the subject hasn’t become irrelevant by now.’

I can't wait to read my copy.

Sunday, December 21, 2008

"Never in the history of Australian public finance has so much been given...

...without public policy purpose, by so many, to so few."

That's Professor Professor Ross Garnaut, on the Rudd government's decision to 'build on' the excellent ideas in his climate change review.

He is referring to the government's decision to donate $3.9 billion in unconditional payments to electricity generators in relation to 'compensate' them for the emissions trading scheme.

(Garnaut and I have spoken about this before. They will pocket the compensation and pass on the higher costs that result from the emissions trading scheme anyway. That's what they have done overseas. Rudd actually had economists working with him on this. He must have decided not to listen to them.)

Garnaut is furious too at the Government's decision to issue free carbon permits to industries exposed to international competition, such as steel, chemicals and paper and pulp. He writes that this is an act of protectionism that threatened to provoke other countries to follow suit and likens the danger to the notorious US protectionism that deepened the Great Depression of the 1930s.

And he says the Government shouldn't have limited Australia to a maximum emissions cut of 15 per cent by 2020. It should have kept 25 per cent "on the table".

As he puts it: "Australia cannot play a strongly positive role in encouraging the global community towards the best possible outcomes if it has ruled out in advance its own participation in strong outcomes."

That's how it's described in an exclusive story by Peter Hartcher on the front page of Saturday's SMH. 

Garnaut's own words, damning of the decisions made by the man who trumpeted his appointment, are here and here and here.

Saturday, December 20, 2008

When is punting on the economy "utterly irresponsible"?

When it is done through Centrebet, according to Australia's Treasurer.

The bookmaker is taking bets on whether Australia will enter a recession during 2009.

You can bet here, and see the latest prices, which suggest Centrebet expects a recession. If you disagree, by all means punt. At the price they are offering you stand to make a fortune off them.

Justin Wolfers, an expert in prediction markets, reckons Swan is being a bit harsh on Centrebet.

"In recent months, there have been millions of dollars bet in options markets, as traders seek a big payday in the event that the economy heads south — and this hasn’t raised an eyebrow...

The contrast between the Treasurer’s response to financial trades and bookies’ bets provides a nice example of how people respond differently, depending on how a bet is framed. One is modern finance, while the other is a
repugnant market. Both, of course, are simply state-contingent contracts."

One of Wolfers' commenters asks:

"What's the difference between a bet and a call option? Whether the guy making it wears a tie and whether the bookie sits in a corner office?"

It reminds me of Tim Harford's BBC radio documentary on repugnant markets, which begins with him making a phone call to the Ladbrokes betting agency:

"EMPLOYEE: How can I help you?

HARFORD: Yeah, I wanted to place a bet that I, Tim Harford, was going to die in the next year. Could you give me odds on that?


HARFORD: Can I take a bet on my own death?

EMPLOYEE: Erm, I’m not too sure. Just hold the line a moment please. Thank you. (Music)

HARFORD: Should we let our feelings of repugnance get in the way of the market?

EMPLOYEE: Hello, Mr Harford?


EMPLOYEE: Hello, sorry to keep you waiting there. Okay. No, basically we don’t bet on deaths because it’s a negative bet, you see.

HARFORD: There’s a lesson in that. If you want to take a bet with a stranger that you’re going to die, don’t call a bookmaker – call a life insurance company."

Thursday, December 18, 2008

Household wealth collapses - 25% and counting

AUSTRALIAN households have lost one quarter of their wealth since the global financial crisis began late last year, with the latest official count putting the carnage at a total $700 billion.

And the estimate, from the Bureau of Statistics, is conservative because it only covers wealth lost up until the end of September. Since then the S&P 200 Australian share price index has fallen a further 30 per cent.

In September last year, the average Australian had a net worth of $58,200, not including houses. By September this year it had fallen to $43,000, undoing three years of accumulation.

As the value of shares held by households slid, the amount put into banks soared, meaning that for the first time in five years more Australian wealth was held in notes, coins and bank deposits than in the sharemarket.

Separate Reserve Bank figures released yesterday showed Australians winding back their use of credit cards, with a drop in both the number of cash advances and the number of credit card-funded purchases over the past year...

The rush to shift money out of market-based investments and into interest-bearing deposits has led to a significant strengthening of the balance sheets of Australia's banks.

In the three months to September, a $4.4 billion increase in Australian banks' bad loans and impaired assets was easily offset by an increase of $141.7 billion in total assets.

"Australia continues to have one of the strongest banking systems in the globe," said CommSec economist Craig James. "Its consumers are becoming increasingly conservative."

The Chamber of Commerce and Industry, responding to fresh signs of a slumping economy, yesterday called on the Reserve Bank board to cut short its January holiday and hold an emergency meeting in the new year to cut rates earlier than planned.

The chamber's survey of industrial trends shows deteriorating employment and investment plans and increased difficulty in obtaining finance.

Business confidence fell to its lowest level since the 1990 recession. "We believe there is enough information available which points to the need for further interest rate reductions," said the chamber's Greg Evans.

Westpac, co-sponsor of the survey, disagreed. But its chief economist, Bill Evans, confessed to being shaken by the findings of the December survey.

"The last survey in September was relatively reassuring that businesses were not anticipating a repeat of previous recessions, but that's changed with the December survey," he said. "Conditions are deteriorating rapidly. What will happen will be determined by the interaction of the Government's stimulus packages, of which there will be more, and the negative effects of contracting wealth, falling confidence and tightening credit. The signs are not encouraging."

Budget data released yesterday suggests the Government has room to deliver further stimulus packages. The fiscal surplus remained high at $25 billion in the year to October, ahead of the $23 billion to next June forecast in the May budget.

Data also released yesterday showed Melbourne's outer-western suburbs had the city's worst unemployment rate of 5.2per cent. The most employed region was southern Melbourne, with a jobless rate of just 2 per cent.

Who'd take on Centrebet?

Australian punters are backing the economy with an overwhelming majority putting money on the proposition that Australia will escape recession.

As Treasurer Wayne Swan branded Centrebet "utterly irresponsible" for operating the market, the agency revealed that all but 1 of the of the 25 punters who have placed bets believe that Australia will avoid a recession next year.

"And one of those bets is big - someone's put around $900 on Australia escaping recession. Others have put up $400, $200, and others, $50 and $5," said Centrebet spokesman Neil Evans.

"But only one person so far has wagered that Australia will enter a recession, and that was a bet of $5."

It might be because of the odds Centrebet is offering...

The agency opened the market on Tuesday promising to pay only $1.12 per dollar waged that there would be a recession, and a far more generous $5.50 for each dollar successfully waged that there would not be.

"We had to take an unemotional and professional approach in setting the opening price. Without being a monumental doomsayer we think there's a much bigger chance that Australia will go into recession than avoid it."

Early betting has shifted the odds. The Alice Springs-based bookmaker was last night offering to pay a higher $1.20 for successful bets that Australia would fall into recession and a more modest $4.20 to punters who believed it would not.

Asked whether he agreed with Centrebet, the Treasurer replied that he did not and added that, "that sort of talk is utterly irresponsible".

"We are doing everything we possibly can to strengthen our economy and to protect jobs. That sort of speculation, I think, is utterly irresponsible," he said

The Melbourne Institute's leading index slid further yesterday to annual growth rate of just 0.6 per cent, implying that Australia will skate very close to recession. Earlier the US Fed slashed its funds rate to close to zero, adopting a formal target of somewhere between zero and 0.25 percentage points, the lowest level on record, promising to "employ all available tools" to restart growth.

China reported a massive slump in its imports, turning what had been an annual increase of 17 per cent into an annual slide of almost 18 per cent.

"After posting positive double digit growth rates over the entire year, the latest reading is beyond comprehension," said CommSec economist Savanth Sebastian. "This does not bode well for the global economy."

The Department of Employment and Workplace Relations reported that skilled job vacancies slumped by seasonally-adjusted 15.9 per cent in December, their biggest slide since the early 1990s recession.

Centrebet spokesman Neil Evans said the market on whether there would be a recession had been approved by the Northern Territory Racing and Gaming Authority, as had its markets on Reserve Bank decisions.

If the Treasurer wanted to ask Centrebet to stop, it would listen to what he had to say.

"We don't have a complete head-in-the-sand attitude. If Mr Swan wan'ts to discuss anything, we will discuss it with him for sure," he said.

Wednesday, December 17, 2008

Great new reading from the Treasury

I spent a terribly enjoyable hour in the sun in the Parliament House courtyard reading these, really.

The macroeconomic implications of financial deleveraging by Will Devlin and Huw McKay:

How does it happen, and why does it always seem so much more severe than it needs to be?

Household saving in Australia, by Susie Thorne and Jill Cropp:

Why did it fall, and (more interestingly) why has it been climbing these last few years?

Harnessing the demand side: Australian consumer policy, by Stephen Hally-Burton, Siddharth Shirodkar, Simon Winckler and Simon Writer:

A terribly useful guide through the development of consumer policy in Australia.

Did you know that four thousand years ago the Babylonian ruler Hammurabi decreed that, "If the mistress of a beer-shop has not received corn as the price of beer or has demanded silver on an excessive scale, and has made the measure of beer less than the measure of corn, that beer-seller shall be prosecuted and drowned."

So began consumer law.

These are in the Treasury's Quarterly Economic Roundup - a most excellent publication.

The truth about Rudd's carbon pollution target

Below, Tim Colebatch in today's Age looks at the numbers more diligently than anyone else will own up to doing.

He opens with Rudd's key quote from Monday:

"AUSTRALIA'S medium-term targets for reducing carbon pollution compare favourably with those of … the European Union.

"The EU's 20 per cent target announced over the weekend is equal to a 24 per cent reduction in emissions for each European from 1990 to 2020. Our 5 per cent unconditional target is equal to a 27 per cent reduction in carbon pollution for each Australian from 2000 to 2020 — and a 34 per cent reduction for each Australian from 1990.

"This is because Europe's population is not projected to grow between 1990 and 2020. By contrast, Australia's population is projected to grow by 45 per cent. If the Europeans were to adopt the same per capita effort as Australia is proposing, their cuts would be around 30 per cent by 2020."

Prime Minister Kevin Rudd, Monday

It's the Rudd Government's favourite line against critics of its 5 per cent target for emissions cuts: in per capita terms, we're doing more than Europe is. The PM, Penny Wong and Wayne Swan use it every time.

But there are two things wrong with it. The smaller error is that their numbers are wrong — all of them!

The larger error is that they tell only a small part of the story, and the part they don't tell matters more.

First, the numbers. On the Bureau of Statistics' median estimate, Australia's population is on track to grow by 48 per cent between 1990 and 2020, not 45 — from 17.1 million back then to 25.3 million.

But Europe's population growth has also accelerated as migrants flood in...

Last year it added almost as many people as Australia has in the past decade. Its population is already 6 per cent bigger than in 1990. Eurostat projects 9 per cent growth by 2020, but that now looks conservative.

Europe's target in fact implies a cut in per capita emissions of 27 per cent or more.

That's still less than Australia. But PM, you know something? Australians now emit 2½ times as much greenhouse gas per capita as Europeans. So it's much easier to cut some of our fat.

In 2006, United Nations figures show, Australians emitted 26.1 tonnes per head of carbon dioxide, methane, nitrous oxides, etc. Europeans emitted 10.4 million tonnes each — two tonnes for every five we emit.

If both achieve their lower 2020 targets, we will still emit almost twice as much gas per head as Europeans: 16.1 tonnes compared with 8.8 tonnes.

And if we kept on at that rate, by 2050 our emissions per head would be 10.6 tonnes — back where Europe was in 2005.

Take off that halo, PM: it doesn't fit.

What'll be big in 2009?

CommSec's Craig James presents his list:

"Each year we attempt to identify the Big Issues for the coming year. There is no doubt that the US-originated global financial crisis was the issue of 2008. But what will dominate in 2009?

CommSec identified recession as being one of the Big Issues for 2008. Unfortunately we were right and recession will again be a dominant issue for at least the first half of 2009. However CommSec believes that economic recovery will take over as the principal focus over the second half of 2009. Other key themes in 2009 are likely to include infrastructure spending, rising unemployment, monetary policy and emissions trading. As always, China will never be too far from investor thoughts over 2009"...

The Big Issues Of The Past Year

At the beginning of 2008 the US sub-prime crisis was occupying attention on financial markets. But no one predicted just how aggressively it would overwhelm financial markets over the year, dragging down otherwise healthy economies and producing recessions in many parts of the globe.

The tragedy is that the sub-prime crisis – which became the Global Financial Crisis – again reflected failures by authorities in the world’s largest economy – the United States – causing global economies to weaken and drying up sharemarket wealth.

The key economic and financial issues of 2008 have all flowed from the Global Financial Crisis. Namely, recessions in major economies (barring Australia), massive falls on global sharemarkets, interest rates hitting record lows and a sharp appreciation of the US dollar against major currencies.

The scale of the falls on global sharemarkets is highlighted by the fact that the Australian sharemarket is on track to record its largest calendar year decline. The 45 per cent slide for the All Ordinaries compares with a 33.9 per cent fall in 1930.

One of the only positives to have come out from the crisis is that inflation rates have dramatically eased. Reduced demand by consumers and businesses for goods has translated to less demand for raw materials or commodities, notably oil. And slower consumer spending has meant more discounting by businesses.

The most remarkable aspect of the Global Financial Crisis has been the speed which it has enveloped the globe. In July, commodity prices were at record highs with oil almost US$150 a barrel, central banks were fretting about rising inflation, labour markets across the globe were tight and there were fears of overheating in China.

But five months later, oil is nearer US$45 a barrel, deflationary fears have replaced concerns about high inflation, labour markets have weakened and there are worries about a ‘growth recession’ emerging in China.

The reaction highlights the power of globalisation as well as the role that fear can play in shaping financial markets and economies. Fear caused banks to stop lending to one another. And fear caused investors to stop buying shares, opting for the relative safety of cash-based investments.

Consumers responded to sharp falls on global sharemarkets by scaling back spending on discretionary purchases. And the same cautious attitude was expressed by businesses in hiring and investment plans. Central banks were forced to aggressively cut interest rates while governments unveiled major stimulus packages.

Remarkably it took just 74 days for the Australian dollar to slide from US98 cents to US62 cents. The speed of the decline reflected similar sharp falls on commodity markets as large fund managers and hedge funds took the view that the five year commodity boom was over. At the same time, US businesses withdrew investments from all parts of the globe, buoying the greenback and, in turn, causing major currencies to slump.

The Big Issues for 2009

What will be the issue of the year?

As always, this is the most contentious question and invariably one that most analysts get wrong. And that’s because there is always something that comes from left field and ends up becoming the dominant influence. Last year we listed a raft of issues that we thought would dominate in 2008 like recession, labour shortages and climate change. In the end we opted for climate change, believing that there was a sufficient groundswell of community support to force action by major global economies. However a combination of international inaction and the growing Global Financial Crisis saw climate change issues pushed to the background.

While the sub-prime crisis was a key threat to the US economy in late 2007, at the same time commodity prices were still marching higher, driven by the strength of economies in Asia – especially China and India. The perception was that the sub-prime issue was containable with no one envisaging a scenario that US investment banks would fail or would have to be rescued. If anyone suggested that all US investment banks would cease to exist by end year they would have been quickly wrapped up in a tight white suit.

Looking ahead to 2009, we would be reticent about identifying one issue that will dominate over the year. Rather we think recession will be the dominating issue early in 2009, giving way to economic recovery over the second half of the year. A key influence will be confidence. While central banks have slashed interest rates and governments are pumping money into economies, no one can make consumers spend or businesses invest or hire workers.

In the US, past recessions have tended to end around 2-3 months before employment turns positive. So we would expect that the current recession will end around mid 2009, putting it on par with the 1973-75 downturn that lasted 16 months.

In Australia, we still believe that recession will be avoided but it will be a close run thing. Still, a raft of stimulus factors such as lower petrol prices, falling interest rates, increased Government spending and the expanded first home owners grant will all be working to lift activity over the coming year.


Increased spending on economic and social infrastructure is emerging as a key theme for 2009. In Australia, the Federal Government will unveil the priority list of infrastructure projects for the Government’s $24 billion Building Australia Fund in early 2009. Projects like expansion of port facilities and enhancement of rail networks will be important to ensure Australia meets China’s demand for resources in coming years. But at the same time, Australia’s growing population is stretching demands on social infrastructure such as schools and hospitals. The average age of the Government’s capital stock has risen from around 17 years to almost 23 years.

In the US, infrastructure spending has also been identified by President-elect Obama as a priority issue in 2009. Not only is there an urgent need to upgrade the country’s ageing infrastructure but the projects will be important in dragging the economy out of recession and kick starting growth. The American Society of Engineers estimated a year ago that it would take US$1.6 billion spent over five years to improve US roads, dams and bridges.

And in other countries like China, again infrastructure will be a priority area in 2009. On November 9, the Chinese Government announced a 4 trillion Yuan stimulus package ($870 billion) focused in “10 key areas such as low-income housing, rural infrastructure, water, electricity, transportation, the environment, technological innovation and rebuilding from several disasters, most notably the May 12 earthquake.”

President Obama

It may appear odd to represent US President-elect Barack Obama on the list of big economic issues for 2009. But when it comes to identifying key influences on economic activity, the incoming President’s role will be vital. Not only is President-elect Obama in the process of devising an economic stimulus plan, but he is seen as a major catalyst in boosting confidence levels.

The assumption of power by President Obama could prove similar to the influence the second Gulf War had in sparking revival on the sharemarket. Back in March 2003 the 4½ year sharemarket bull run commenced when allied forces embarked on the second Gulf War. Uncertainty about whether conflict would occur had earlier constrained investor buying. Investors took a more positive view on US economic conditions when the war began on the assumption that the conflict would prove relatively brief conflict – an assumption that proved correct.

President Obama is likely to be viewed as a catalyst for change and a break with the past, potentially boosting investor as well as consumer and business confidence.


Disinflation refers to slowing rates of inflation, while deflation refers to falling prices. A period of weaker economic growth is likely to lead to one of these factors holding sway, the $64 question is which one. Given that a deflationary environment tends to be associated with weak economic growth or contracting activity, disinflation is clearly preferable.

Interestingly deflation was a concern in the US in 2002 and 2003 when the economy was emerging from recession but the concern receded from view with stronger economic growth in 2004. Inflation was a concern for the US central bank as it was for other central banks through most of 2008 as oil prices soared. But again the concern has shifted to deflation as economic growth slowed in the second half of 2008.

The reflationary policies of major global economies are expected to be successful in ensuring consumer prices continue to grow over 2009, but at a more slower, more sustainable pace than in 2008.

Rising unemployment

If there is one factor to fear in 2009 it is rising unemployment. Job losses translate to slower spending and reduced business income, in turn feeding back into further job losses (“vicious circle”). In the current US recession so far, unemployment has risen from lows of 4.4 per cent to 6.7 per cent. In the previous recession in 2001, unemployment rose from 3.8 per cent to 6.3 per cent.

While US unemployment has generally risen by 2.5-3 percentage points in past recessions, in the 1979-82 experience the jobless rate rose from 5.6 per cent to 10.8 per cent. Still that experience was associated with the peak of baby boomers hitting the job market whereas 2008/09 is characterised by an historically lower share of younger workers.

In Australia, the unemployment rate has only risen modestly so far from a 33-year low of 3.9 per cent in February 2008 to 4.4 per cent in November. Just like the US, the share of young people in the working age population is low – hitting record lows in June. At the same time, migrant workers remain in demand to meet skill shortages.

Overall CommSec expects Australia’s unemployment rate to rise to around 5.25 per cent over 2009. However the risk is that businesses make knee-jerk decisions to trim staff numbers – a development that could spark a mild version of the “vicious circle” noted above. But a sharp rise in the jobless rate is not contemplated.

Monetary policy

Across the globe, official central bank interest rates are at historically-low levels. As a result, questions are being raised about the future effectiveness of monetary policy. However the US is following the same route that Japan took in 2001 in applying “quantitative easing” – effectively buying securities from financial institutions in exchange for cash. The US Federal Reserve chairman Ben Bernanke has also outlined a raft of other measures that could be used to expand liquidity such as offering fixed-term loans to banks at zero interest rates.

While other central banks have much further to go before approaching zero policy rates, clearly there will much discussion and thought applied to alternative monetary policy tools during 2009. In Australia, the cash rate stands at 4.25 per cent and CommSec expects the Reserve Bank to cut rates another 50 basis points (half a percent) to 3.75 per cent in February.

It won’t just be monetary policy tools in the spotlight over 2009 but also monetary policy frameworks. Most central banks use inflation as a guide for monetary policy actions but some policymakers believe that prices of assets like shares and houses should play a greater role in decision-making. For instance if house prices are booming as a result of strong demand, but inflation is still entrenched at lower levels, are central banks right to do nothing?

Other issues to watch in 2009

The Federal Government has recently released its emissions trading White Paper with a proposed implementation date on July 2010. So while the discussion/debate on climate change policies has begun, clearly the issue will feature prominently in 2009. Investors will need to assess the impact on individual companies and industry sectors. Businesses will need to determine the impact on their costs and whether any strategic response is necessary. Consumers won’t have to worry too much about carbon trading over 2009, especially as the Government is planning significant compensation. Still, the issue will generate plenty of debate with the uncertainty potentially affecting confidence levels.

The speed and the extent of contagion flowing from the Global Financial Crisis surprised all and sundry in 2008. However while 2008 was notable for the crisis, 2009 will be notable for the post-mortem. Regulators, governments, central banks and financial institutions will need to work out what went wrong and how it can be prevented from recurring. As is common with previous financial crises, attention will centre on the adequacy of financial regulation. G20 countries have to report by March 31 2009 on a raft of issues associated with financial regulation. Greater international co-operation is essential to prevent a repeat of the current crisis.

The chief risk is that regulators over-compensate by tightening regulation significantly, although we do acknowledge there is a need for greater transparency in some areas, especially in terms of operation of hedge funds.

No doubt the debate on short selling will continue sell into 2009. The proponents of short selling still have not convincingly argued why the practice should be maintained. And as a result, regulators will remain poised to ban the practice. There are too many risks of manipulation associated with the practice as many Australian companies can attest.

China will continue to occupy a prominent position on radar screens in 2009. Over 2008, it was the ascent of China that dominated in the first half of the year with its solid expansion driving commodity prices to record highs. However post-Olympics it has been the global-induced slowdown in China that has raised concern, especially as it has been a fundamental driver of global growth in recent years.

We expect that recent efforts to stimulate the Chinese economy will be successful in 2009. The key factor complicating analysis at present is that economic data has been deflated by the factory shutdown at the time of the Olympics, suggesting that the Chinese economy is weaker than it otherwise is. Substantially firmer readings for key variables like production and fixed asset investment will be sighted around mid 2009.

China remains on course to pass the United States as the largest economy over the next 5-10 years, especially with growth in the US likely to hold near 1-2 per cent over 2008 and 2009.

"All available tools" - Fed cuts its Funds Rate near zero

The Fed's Statement.


The cut in the federal funds rate pushes it to its lowest level on records dating to July 1954, and the central bank said it would likely keep it at "exceptionally low levels for some time."


The most remarkable thing is that the Fed is now one of the largest and most important commercial banks of all time. This morning’s statement said that early next year the Fed will begin extending “credit to households and small businesses”. It is also “evaluating the benefits” of buying long term Treasury securities”.

Adam Carr of Australia's IPAC Securities:

"The Fed cut the funds target to a range of 0 to 0.25% this morning, from a fixed target of 1%. On the surface the adoption of a range sounds very exciting, but in reality with the actual Fed rate at 0.0625% it’s kind of meaningless in practical terms. The Fed is merely recognising reality, given the fed rate has been undershooting the target for some time now - it didn’t matter what the magnitude of the cut was."

Adam Carr is right.

Here is a chart of the "Fed Funds Rate" target overlayed with the actual rates reached in the market:

HT: Minyaville

The Fed had lost control anyway.

RBA reserved all summer

AUSTRALIA'S Reserve Bank has declared 'time-out' after four consecutive months of interest rate cuts saying it needs "a period of assessment.. over summer".

The news, in the minutes of its latest board meeting, came as the United States Federal Reserve prepared to cut its funds rate to close to zero early this morning Australian time. (6.15 am AEDT)

Australia's cash rate stands at 4.25 per cent after a series of rate cuts since September which have sliced $570 off the monthly cost of repaying a $300,000 mortgage.

In signaling that they would take a break for summer the board members noted that they didn't normally meet in January and that they expected little new information that month.

During what the board referred to as a "two month break" it said members would be able to assess the effects of the 3.00 percentage point cut to date "combined with the spending measures announced buy the government and the large depreciation oof the Australian dollar."

"Clearly the Reserve Bank board wants the summer off," said ANZ economist Warren Hogan...

"The market is now expecting little in January although it is still pricing in a further cut of 1.00 points by February".

The US Fed was expected to cut its funds rate from 1.00 percentage point to somewhere between 0.50 and zero points this morning in a last ditch effort to soften the US recession.

Australian Treasury research released today concludes that the US economy will almost certainly contract during the coming year and that the worldwide downturn will be worse than in 2001 and possibly worse than in 1991.

The betting agency CentreBet has began taking bets on whether Australia will enter a recession and is finding that the weight of money says yes. It will pay out only $1.12 to a punter who bets $1.00 that Australia will enter a recession in the year ahead, compared to a generous $5.50 to a punter prepared to say it will not.

The Reserve Bank board minutes report that household wealth has collapsed 11 per cent in the past year and that retail spending has weakened since the last official figures. Its liason meetings with retailers suggest that conditions are much weaker in NSW than in the rest of Australia.

The bank says employment indicators are weakening sharply. "The number of jobs advertised on the internet and in newspapers is falling and business surveys indicate lower hiring intentions. Members acknowledge that these data suggested unemployment was likely to rise in the period ahead," the minutes report.

Inflation is falling rapdily with the headline rate now expected to return to 2.5 per cent - the middle of the Bank's target band - by June.

Opposition Treasury spokesman Julie Bishop used the Bank's report to call on the gtovernment to prepare updated economic forecasts.

"The Government is operating in the dark about Australian jobs, it is introducing major economic changes yet it has not done the analysis or the modelling to show what the impact will be," she said.

Tuesday, December 16, 2008

How aggressive?

The Reserve Bank is far more agressive in cutting rates than in the past according to the blue line on this graph just sent to me from the Commonwealth Bank:


White Paper verdicts

Tim Colebatch:

"AFTER all that, we are more or less back where we started. The Rudd model for tackling climate change now looks remarkably similar to the Howard model from 2007. By the time the Coalition has forced further changes in the Senate — as it will — the scheme could end up almost identical to John Howard's."

Peter Hartcher:

"It's such a retreat from Rudd's campaign rhetoric on climate change as the "great moral challenge of our generation" that the Liberal Party's pollster, Mark Textor, quipped yesterday "it's like Sydney house prices - coming down every day."

I'll add more later. Suggestions welcome.

Reserve Bank prepares for "summer holiday"

From today's Board Minutes (apologies Cliff):

"Members also took account of the fact that a Board meeting was not typically scheduled in January, given that local markets tended to be relatively thin over the summer break and statistical and survey data, as well as liaison information, were less timely. Overall, members judged that the two-month break between meetings was one consideration in favour of a substantial reduction in interest rates at this meeting."

But gloom isn't taking a holiday...

Australia's export outlook has dramatically worsened with the official forecaster now predicting only a fraction of the growth it expected 3 months ago. The news came as the Treasurer lifted the supply of government bonds in order to quell concern about the working of interest rate markets and amid talk of a "borrowing strike" by consumers.

The Bureau of Agricultural and Resource Economics reported that resource exports, which it had expected to climb 53 per cent this financial year should now climb by a lower 37 per cent. It warned of "downside risks" to the forecast.

The Bureau now expects iron ore export earnings to grow by 52 per cent, down from a previously forecast 91 per cent, a drop of $8 billion.

Income from exporting liquefied natural gas should now climb by 15 per cent instead of 50 per cent. Exports of copper and alumina, previously expected to grow, are now likely to slide.

"The main adverse effect of the global financial crisis has been the sharply lower world prices for minerals and energy commodities,” said Executive Director Phillip Glyde.

The Bureau expects China's economy to continue to grow strongly next year at 8 per cent, down from 10 per cent. But it says if that does not happen it sees a "considerable downside risk".

While farm prices were not as sensitive to the global crisis as resource prices, they are likely to be hit instead by improved crop yields. The Bureau has wound back its forecast for farm earnings growth from 9 per cent to 7 per cent.

Treasurer Wayne Swan late yesterday directed the Treasury's Office of Financial Management to issue a further $5 billion of government bonds and signaled further releases "as necessary over coming months to maintain the liquidity and efficiency of the market".

Australian government bonds are the benchmark used to set interest rates and have been in short supply. In May the government injected $5 billion into the market, taking the total to $55 billion. The new issue will take the total to $60 billion.

All of this borrowing is offset by government investment elsewhere, much of it lending to state and territory governments.

Australian consumers cut borrowing in October, taking out 2.1 per cent less in personal loans. By contrast, new borrowing for housing climbed 2.4 per cent. Both have fallen sharply over the past year.

"Borrowers are on an extended strike," said ComSec economist Savanth Sebastian. "New lending commitments have fallen in seven out of the last eight months are are down more than 20 per cent in the last year.

New business loans fell 3 per cent in October, to be down 24 per cent over the year. But offsetting this was was an increase in the use of previously granted lines of credit. Usage of commercial revolving credit limits hit 62.3 per cent – a 12 year high.