Friday, July 25, 2008

Saturday Forum: Taking stock

Are we in a boom, or a recession, or what?

You could be forgiven for not recognising your own country.

On one hand we are continually being told that we are on the edge of recession.

Two of the recent headlines have warned us of a “recession mentality” and “fears of recession”.

And they’re just the ones in The Canberra Times.

The National Australia Bank says interest rates will have to be cut five times in the next year in order to avoid a recession; TD Securities says up to seven times.

On the other hand we are we are being told we are being showered with money. Rio Tinto has just scored a near doubling of its iron-ore prices. Our income from coking coal is expected to jump 123 per cent; our income from natural gas 67 per cent.

So much of foreign money is sloshing around that it is pushing up our prices on a scale not seen since the start of the 1990s. On Wednesday we heard that inflation had touched 4.5 per cent – way beyond the Reserve Bank’s 2 to 3 per cent target band.

Both the ANZ and Access Economics say interest rates may have to rise next year in order to rein it in.

So who’s right? Which country are we in?..

The first thing to say is that the talk of a recession is overblown. The ACT illustrates this well.

On the figures we are closer than any other state or territory to recession. Our State Final Demand actually fell in the three months to March and may have fallen again in the months to June. Everyone else’s is climbing. Our spending in our shops has stalled. Neither our house prices nor our rents are rising.

And yet it doesn’t feel like a recession to those of us who live here. We may be being more careful about our spending than we were before mortgage rates and petrol prices bit, but we aren’t on the street. In fact Canberra is the only city in which there are more job vacancies than people able to fill them.

And there’s another reason why a recession is most unlikely. Australia has better tools to avoid one than just about any other developed nation.

The Reserve Bank’s so-called “cash rate” which it can cut to boost the economy is about the highest there is. At 7.25 per cent our Reserve Bank has room to cut the rate again and in order to avoid a recession. The US, with a Fed Funds Rate of 2.00 per cent, can’t do it as much. Japan, whose rate is 0.5 per cent, can do even less.

It’s the same with government spending. Our budget surpluses parked in vehicles such as the Building Australia Fund are frighteningly large.

Should a recession look likely our government is in a position to deliver tax cuts and spending programs big enough to stop it before it starts.

Of course, no nation is recession-proof. We have avoided one since the start of the 1990’s – our longest run ever. Eventually our luck and skill will run out.

But our decision-makers are more skilled than they were. Among the Reserve Bank officials who misread things at the end of the 1980’s and helped push Australia into recession was the present Reserve Bank Governor, Glenn Stevens.

The Macquarie Bank’s Rory Robertson, a colleague of Glenn Stevens’ back then, tells how in the second half of 1989 a gaggle of them would huddle around the sole news-screen each time the employment figures came out and marvel at the on-going strength of the economy only to learn later that it had been heading south and that employment hadn’t caught up.

They won’t make that mistake again.

The Reserve Bank has made it clear that it is prepared to cut rates well before employment turns down this time, even while inflation is still high. It understands the importance of avoiding a recession and it knows what to do.

It has done it before. In 2001 it was worried about a recession and cut rates repeatedly in order to make sure it didn’t happen. The US and much of the rest of the world were not so fortunate. Australia skipped the global turn-of-the-century recession.

So are we headed to the other extreme, an uncontrollable boom as the inflation and commodity price figures suggest?

The latest news is that that pressure is easing.

Only Norway has enjoyed the boom in export prices that Australia has. Over the past four years we have enjoyed a 40 per cent jump in our terms of trade - a measure of the price we receive for exports compared to the price we pay for imports.

Our trade balance is set to turn positive for the first time in years.

The Budget papers forecast an extra jump in our terms of trade of 20 per cent in this year alone.

But just recently commodity export prices have been slipping. The Commonwealth Bank’s measure has slid 11 per cent so far this month. The more-widely quoted Baltic Dry Freight index has fallen 24 per cent in two months.

Demand for Australia’s iron ore, coal, gas and so on is easing.

Much of the developed word is in something close to a recession. Most of the big nations will struggle to report an economic growth rate too far above 1 per cent this year. Even China’s growth is slowing.

The key question for Australia is whether China will continue to shower our mining companies with wealth regardless.

China will if it is now growing under its own steam, producing goods for its own Chinese workers as much as it does for export. It won’t if it its growth is still dependent on the United States.

The answer will give us a clue as to which country we’re going to be living in in the years ahead – one heading dangerously up or worryingly down.

Or perhaps we’ll muddle through the middle. Our Reserve Bank will be doing everything it can to make sure that we do.