Wednesday, February 23, 2011

The barely spoken fear - our boom won't end

What if Australia's longest boom lasts the rest of our lives? It is a prospect Treasury is only beginning to openly canvass because the implications are enormous and frightening.

Many of us have grown up with a recession a decade. We are entitled to believe the boom and bust cycle didn't end with the last recession in 1991 because we almost had another one in the 2001 tech wreck and almost had one more during the 2008 global financial crisis.

But we have now spent close to 20 years without recession and this month Treasury chief economist David Gruen talked of another 15.

Actually, that's what he was reported to have said. Skills Australia had asked him to speak about trends over only the next 15 years. What he did say was that China and India should continue their strong catch-up growth for "at least a few more decades, and certainly for the next 15 years".

Mindful of the 15-year time frame set for his address he said Australia was set to enjoy strong growth in demand for its resources, particularly iron ore and coal, "for at least the next 15 years".

But "at least a few more decades" is his central scenario... It could mean that a cohort of presently young Australians, perhaps even a generation, spend their entire working lives without recession.

So what's not to like? What could possibly be unsettling about happy ever after?

Part of the answer is that happy ever after will be different to what we are used to, and part is that getting there will impose strains on our political system it shows no sign of being able to handle.

Gruen gave a hint of the different world in his Skills Australia speech. He and Reserve Bank governor Glenn Stevens will expand on it today at a conference on the implications of the resources boom at Melbourne's Victoria University.

It will come about because India and China are growing rapidly in a way which is firing demand for Australian commodities. Taken together those two nations account for more than one-third of the world's population.

Gruen says even though each has been growing for decades, each is still "at the early stages" of its economic development. China's and India's living standards are still lower relative to the top OECD nations than was Japan's in the early 1950s before its four decades of explosive growth.

What drives demand for aluminum, steel and coal is urbanisation. Gruen's graphs show China's and India's urban population share (and also Thailand and Malaysia's) set to soar well into the second half of this century. By 2050 China would house more than 70 per cent of its population in cities, up from 50 per cent. India would house more than 50 per cent, up from 30 per cent.

Necessarily this will keep at record heights or more likely push up further the price of those commodities, even as other suppliers get in on the act.

For Australia this means continuing high buying power (the five-year moving average of our terms of trade is already much higher than it has been at any time in the past 140 years) and a continuing high dollar (it is currently about 35 per cent above its long-term average since the float).

And that means that "traded" goods and services, those that compete with imports or attempt to export, will be squeezed without an end in sight - unless they are exporting the products of our mines.

Untraded services will do just fine. We are not going to import hair cuts, and nor are we going to import nursing home workers (at least not officially, for a while). Because mining and mining-related construction are not big employers most of the new jobs created will be in untraded services.

But not in manufacturing, not even in information technology. Non-mining firms trying to compete overseas or facing overseas competitors boosted by a perennially high Australian dollar will struggle to survive or go under.

As each one approaches the edge there will be pressure to offer support in order to shore up jobs, as Australia did for Kodak before it closed its doors, as Australia did for Mitsubishi before it closed its doors.

Treasury boss Ken Henry told a Senate hearing in November there might be a case for acceding to such pressure, if it was thought the high terms of trade would be temporary.

But it would probably be permanent.

"I think it would be sensible on this occasion to contemplate the prospect that there has been a structural change in our terms of trade, not a short-lived change, and that that change will have to be associated with a change in the structure of the Australian economy," he told the Senators.

"If that is the case, again without talking about a particular policy option, policy would do better to focus on what could be done to support the change in a way that does least damage to people’s lives."

"That might mean, for example, avoiding the temptation to offer support to a particular
business which, with these terms of trade, does not really have a long-term future but to focus instead on programs that would support the transition of workers from that business to other businesses which do have a long term future with the sorts of terms of trade that we are confronting."

It's just about Treasury's deepest fear - that as a business struggling under the weight of changed circumstances asks for help to stay in business, the government will grant it, rather than offering to help its workers get out of the business.

Agreeing to few such small requests early would start an avalanche as more and more firms find it hard to survive the continuing high dollar and ask for the same treatment.

It would not only cost an ever growing portion of tax revenue, it would also be pointless, offering false hope.

With Australia's longest boom about to really get going, it believes we are at a critical juncture.

It would like our leaders to show steel they have yet to demonstrate they have.

Published in today's SMH and Age

The longest boom

Governor Stevens this morning. Let's act as if the boom won't last:

The Resources Boom - 23 February 2011

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