Friday, September 28, 2012

2011-12: The year we saved big time, and went backwards

Australian households stashed away a record $70 billion during the past financial year, pouring extra funds into banks and term deposits, yet when the financial year ended they were $6 billion poorer than when they started.

The latest financial accounts from the Bureau of Statistics show per capita wealth slid 2 per cent over the year to June and 11 per cent over five years to June, all because of falling share prices.

The rout has since been reversed. Share prices have climbed 6 per cent since the start of July. But the uneven performance of the sharemarket has encouraged Australians to park more of their savings in cash and park more in the bank than ever before.

Households held a record $726.6 billion in cash and deposits at the end of June, accounting for 23.7 per cent of their financial assets - up from 21.9 per cent a year before.

“It’s a safe haven approach, a knee jerk reaction to uncertainty,” says Commonwealth Securities chief economist Craig James.

“It gets down to confidence. People know about what been happening in Europe, they know about the United States, and they know about China. So with deposit rates so high why wouldn't you be putting anything extra you had into term deposits?”

It’s not only households. The ABS figures show superannuation funds had 15.9 per cent of their assets stored in cash at deposits at the end of June - the highest proportion on record and roughly double the long-term average of 8.5 per cent...

Private non-financial companies had a near-record 45.4 per cent of their financial assets stored in cash and deposits, well above the long run average of 39 per cent.

Foreigners have been buying shares where Australians have not, lifting their ownership of the Australian share market to 47.2 per cent, the highest stake in 20 years. Foreign holdings of Australian government bonds eased back to 78.2 per cent from the record 79.8 per cent in March.

Per capita net financial wealth slipped from $65,044 to $63,675 over the financial year, despite increased saving. The figure excludes wealth held in the form of real estate
but is weighed down by loans secured against real estate.

“What’s encouraging for people who are paying off their own homes is that home prices went up in September, and that the share market has been climbing. Household wealth could pick up,” Mr James said.

“And time cures all ills. If we get some good news out of the United States and out of China and if people don’t focus so much on Europe and if the Australian economy continues to track along nicely people might start to feel wealthy again and put more of their money back to the share market.”

In today's Age

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Thursday, September 27, 2012

It's getting easier to find a job in NSW, harder in Victoria

Unemployed per vacancy

August 2012 (August 2011)

NSW 3.5 (4.1)
Victoria 4.5 (3)
Queensland 4 (3.2)
South Australia 4.2 (4.6)
Western Australia 1.4 (1.6)
Tasmania 6.7 (5.6)
Northern Territory 1.5 (1.4)
Australian Capital Territory 1.5 (1.3)

Australia 3.35 (3.2)

ABS 6354.0, 6202.0

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No skills, no clues. The states that mismanaged the Education Revolution


Building the Education Revolution


Cost per square $3500
Projects complained about 8%


Cost per square $3000
Projects complained about 4%

South Australia

Cost per square $2500
Projects complained about 1%

Western Australia

Cost per square $2000
Projects complained about 1%

The Lost Lessons of the BER Program, Centre for Policy Development. Building costs are adjusted for remoteness of location.

Were the Building the Education Revolution projects run badly? Only in states where governments that chose not to run them, according to new research published today that targets NSW and Victoria for special criticism.

The analysis by the left-leaning Centre for Policy Development finds the Labor governments in NSW and Victoria performed the worst on just about every measure when it came to handling the funds doled out during the 2008 financial crisis to build new school halls.

In contrast the Liberal government in Western Australia and the labor government in South Australia performed well.

Only 1 per cent of the projects in the smaller states received complaints compared to 8 per cent in NSW and 4 per cent in Victoria. The costs in the big states were $500 to $1500 per square metre higher.

The study says the big difference is that NSW and Victoria contracted out most of the management to big building firms. South Australia and Western Australia managed the projects themselves...

“Victoria and NSW divided up their state into large geographic areas and said to the contractors - it’s your responsibility to make sure these schools are built. The smaller states still had the functioning public works departments and did the work themselves,” said lead researcher Tim Roxburgh.

“Victoria really had no choice, the cutbacks in the Kennett era had stripped the place of engineers and architects. NSW did have the capacity to manage its program itself but didn’t bother.”

“It is not that governments need to build things from floor to roof, what they do need is enough expertise to interact skillfully with the private sector in order to achieve value for money. At some point someone in the public service needs to know something about the details of engineering.”

The study finds the similar pattern in Catholic schools which generally did well making use of in-house expertise. The exception was Sydney where a large area was contracted out and built expensively.

“What's really worrying is that this must happen all the time. We only know the Building the Education projects because records were made public. We don’t know about other projects in which NSW and Victoria are getting bad value for money because they have lost their expertise,” Mr Roxburgh said.

Published in today's Sydney Morning Herald

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Wednesday, September 26, 2012

Elderly Australians: We don't have those $100 bills...

Well, we might have some of them

Older Australians hoard thousands of dollars in cash to pay for their funerals, but they don’t do it to get the pension says Seniors Australia, which has labelled the suggestion seniors use cash to defraud the pension system "unfounded and offensive".

Former senior Reserve Bank official Peter Mair has written to the governor of the Bank suggesting elderly Australians are behind the the extraordinarily high number of $100 notes in circulation.

Reserve Bank figures show there are ten $100 notes in circulation for each Australian compared to only seven $20 notes.

“In broad terms the average value of notes held by New Zealanders is about one third of the $A2000 held by Australians,” Mr Mair writes to governor. “An obvious explanation - means-test free age-pensions in New Zealand - points to the benefits some pension recipients in Australia unfairly take by holding undeclared assets masquerading as $100 notes.”

Mr Mair says the government should consider removing $50 and $100 notes from circulation to make hoarding more difficult.

National Seniors Australia chief executive Michael O'Neill said there was “no doubt” some senior Australians kept large amounts of cash in their homes.

"I know people who have $6000 or $7000 or $8000 put aside for their funeral,” he told the Herald... “They still have that attachment to the folding stuff. And I think part of the attitude is wanting to have money there to pay for the funeral, so the family won’t have to worry.”

But he said he had never heard from any of his members about hoarding high-denomination notes in order to get access to the pension and the prized Commonwealth Health Care Card.

“There' is a view folk strongly have that they have been taxed all their lives and that it is simply unfair that they don’t have access to the card.”

“I don't dispute that people go to their accountants and try and accommodate access, in entirely legitimate ways which they are entitled to provided it is legal. But in terms of large volumes of cash being hidden under the mattress, I find it difficult to accept.”

Finance minister Penny Wong said she had not been looking under pensioners’ beds lately, but that people were “required to declare their assets and their income in order to access the pension”.

In the six months to December only 44 people aged over sixty were convicted of social security fraud out of a total of 826.

Mr Mair has told the Bank he believes it is conflicted in dealing with Australia’s unusually large supplies of currency by the $1.5 billion plus annual profit it makes issuing currency. He will raise the question at the financial system inquiry promised by the Coalition after the election.

In today's Canberra Times, Sydney Morning Herald and Age

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About those cuts, Ms Wong. Money is fungible

Finance minister Penny Wong says she’ll take an extra half a billion dollars from the public service without touching jobs, but experts don’t believe her.

Unveiling an instruction to agencies to give up an extra $550 million over four years on top of this year’s special 4 per cent efficiency dividend Senator Wong said it had to be done through non-staffing efficiencies.

“Labor targets efficiencies, the Coalition slashes jobs,” she said outside a public administration conference in Canberra.

The required savings include $30 million per year in air travel, $60 million in the use of consultants, $6 million by publishing documents online instead of in print, and $2 million by moving job advertisements online.

But the earlier 4 per cent efficiency dividend announced by Senator Wong in November already required the public service to cut things such as travel, advertising, printing and consultants before touching staff.

“The departmental budget is just one big budget, it's not as though there are separate paper clips or travel or whatever,” said Stephen Bartos, a former finance department deputy secretary.

“Public servants have already been cutting departmental expenses before cutting staff as required. They’ve already done it, they have met the new requirement. That means the extra cuts they now have to make to meet the new target could well involve jobs.”

“Unless the government is going to turn its back on the last 30 years of public sector devolution and have ministers now micromanage how departmental budgets operate, she cannot guarantee this move won’t cost jobs,” said Mr Bartos who is now an executive director of ACIL Tasman...

Former public service commissioner Andrew Podger now with the Australian National University said there was “no way” there could be another cut in departmental budgets without having an impact on public servants.

“It is wrong to imply you can cut public service spending without cutting the services provided,” said Professor Podger. “But all around the country that’s what everyone is saying.”

“The levels of cuts they are trying to make cannot be just efficiencies, they will have to reprioritise services to the public. There is nothing wrong with reprioritisating services so long as ministers stand up and take responsibility for it. That’s what we pay them for. Instead they are making the public service make the decisions about which services to cut and which to wind back.”

Senator Wong said the government had made it priorities clear. “This is a government which has increased its expenditure on education – almost doubled school funding – and I think that shows Labor priorities,” she said.

The defence department will not have to make the new cuts.

“We recognise defence has been asked - as have, frankly, all departments - to contribute to the fiscal objective,” Senator Wong said. “They are not being asked, like other agencies, to find the additional targeted efficiencies.”

Asked whether she thought the Coalition would be able to meet its aim of boosting defence spending by 3 per cent per year she said she looked forward to hearing it explain how.

The government will unveil extra cuts to get the budget back to surplus in the mid-year budget review due in November.

Published in today's Canberra Times, Sydney Morning Herald and Age

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Tuesday, September 25, 2012

MYEFO. Expect more cuts

It's usually the first week in November

A fresh collapse in company tax collections has increased pressure on Treasurer Wayne Swan to make cuts to preserve the budget surplus in the mid-year update due in November.

The final budget outcome for 2011-12 was a deficit of $43.7 billion, close to the May budget forecast of $44.4 billion.

But Mr Swan said the figure masked “a hefty fall of $876 million in company tax receipts”, due largely to lower corporate profits.

The drop means the government took in the best part of $1 billion less in company tax in May and June than it expected in May. Unless things pick up it suggests that each month will bring in much less company tax than budgeted for in May, destroying the paper-thin forecast surplus of $1.5 billion.

It suggests the profit-based minerals tax which began in July will also fall short of expectations.

“This will hit government revenues significantly, which makes it harder to deliver a budget surplus,” Mr Swan said. “It means we will have to find more savings. But we have a proven track record of finding responsible and measured savings which accord with Labor values - and we’ll do that again.”

“We've had big revenue writedowns and of course there are challenges to the revenues, but we will absolutely stick with our fiscal discipline.”

Finance Minister Penny Wong said Labor’s approach would be very different to that demonstrated by the Coalition in the Treasurer's home state of Queensland...

“There the Premier told the public service they had nothing to fear, and then promptly sacked 14,000 people. We don't resile from the fact you have to make difficult decisions, but we certainly take a very different approach to the one that's been demonstrated in the Coalition states and the one which Joe Hockey brags about being the one he wants to implement."

Shadow Treasurer Joe Hockey said the 2011-12 deficit was double the $27 billion forecast when that budget was delivered in May 2011. “They are patting themselves on the back because they got $44 billion. I mean this is a joke, this is a serious joke,’ he told reporters in Sydney.

Mr Hockey said the government had fudged the numbers by making the 2011-12 deficit look bigger in order to make a 2012-13 surplus look possible, but said the deception would become harder in the mid-year budget update.

“Sooner or later the rubber hits the roads when it comes to the numbers. And Labor has to account for its $120 billion of new spending promises on top of their four record deficits already,” he said.

Mr Swan would not be drawn on whether the mid-year review would be brought forward from early November, when it is traditionally delivered six months after the May budget.

“In the last three months of the year which is when it normally is,” he told a Canberra press conference, giving himself licence to deliver the update as soon as next week.

Asked whether the economy could withstand another bout of budget tightening in order deliver the surplus he said he would do what he always did - “put in place the appropriate settings for the time”.

In today's Age

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The grey economy. Might pensioners have those $100 notes?

Elderly Australians committing welfare fraud on a massive scale are behind the extraordinarily high number of $100 notes in circulation in Australia, according to a former senior Reserve Bank official.

The Herald revealed yesterday there are now ten green $100 notes in circulation for each Australian, far more than the more-commonly seen orange $20 notes.

One popular explanation is that they are used for illegal transactions as part of the cash economy, something former Reserve official, Peter Mair, rejects as a “furphy”.

But, in a letter to Reserve governor Glenn Stevens dated July 4, Mr Mair laid the blame squarely on elderly people wanting to get the pension and hiding their income in cash to ensure they qualify for the means-tested benefit.

“The Bank is basically facilitating a tax avoidance scheme by issuing high denomination notes,” he told the Herald. “They are not needed for day-to-day transaction purposes, or even as reasonable stores of value."

His best guess is the average pensioner couple holds up to $50,000 in undeclared $50 and $100 notes in order to get access to the pension.

Mr Mair added that when the green plastic $100 note replaced the grey paper note in 1996, the Martin Place headquarters of the Reserve Bank received regular visits from retirees wanting to withdraw large quantities of the new notes. He said the commercial banks had sent them to the Reserve Bank because they didn't have enough $100 notes on hand.

Mr Mair says the return for an Australian close to getting the pension who holds $10,000 in cash, rather than declaring it, is “enormous”...

“If putting it under the bed or in a cupboard means you qualify for the pensioner card you get discounted council rates, discounted car registration, discounted phone rental - in percentage terms the return is enormous,” he said.

Mr Mair is a former senior Reserve Bank manager responsible for the payments system. He assisted both the Campbell and Wallis inquiries into the financial system.
He used comparisons of the per capita holdings of large denomination currency in Australia and New Zealand to back his argument.

“In broad terms the average value of notes held by New Zealanders is about one third of the $A2000 held by Australians - almost all of which by value is in the $50 and $100 denominations,” he wrote in his letter to the Reserve Bank governor.

“An obvious explanation for the difference is means-test free age-pensions in New Zealand.”

His letter to the governor proposes phasing out the $100 and $50 denominations which he says technology has rendered unnecessary.

“Cards and the internet have delivered a body blow to high denomination bank notes, they are redundant,” he told the Herald/Age. “There is no longer any point in issuing them except to facilitate tax dodging.”

“The authorities would announce that from, say, June 2015 every $100 and $50 note could be redeemed but no new notes would be issued. After June 2017 every note could only be redeemed at an annual discount of 10 per cent. It would mean that after two years each $100 note could only be redeemed for $80, and so on.”

The letter acknowledges the proposal would be “contentious” and says it should not be done “in any way precipitously” but says as retail payments become progressively more electronic it will become inevitable.

“What would remain in circulation are coins and a modestly expanded issue of currency notes in the $10 and $20 denominations: there is every reason to expect that a national currency issue of this character would soon be adequate to meet the reasonable needs of a community ever more exclusively making substantial payments electronically,” the letter says.

Mr Mair would also strip the Reserve Bank of authority for issuing notes, handing it back to the Treasury which had it until 1911.

“Treasury already issues our coins. If it issued our notes as well it would be much more interested than the Bank in making sure people didn't hoard them to load up on the pension, because it pays the pension.”

In today's Canberra Times, Sydney Morning Herald and Age



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Monday, September 24, 2012

Why do we have so many $100 notes?

Cashless? Hardly. Australians are holding on to more of the stuff than ever before, and accumulating it at an increasing rate.

The latest Reserve Bank figures show our holdings of plastic notes grew an extraordinary 7 per cent in the year to June at a time when Australia’s population grew 1.4 per cent.

Australians now hold an average of seven $5 notes per person, up from five a decade ago, and five $10 notes, up from four. Our holdings of $20 notes are little changed at seven per person.

The explosive growth is in our holdings of $50 notes - up from 15 per person to 23 per person - and $100 notes, up from seven per person to ten.

So much do the big value notes dominate that the Reserve Bank says $50 and $100 notes account for 91 per cent of the value of notes in circulation and 65 per cent of the number of notes in tills, wallets and in storage.

Yet many Australians hardly ever see a $100 note and probably see an orange $20 note more often than often than the three-times as popular yellow $50.

One reason might be that many of the yellow notes are stored in automatic teller machines where they have replaced the orange $20 note as the main means of supplying cash. Another might be that many of the green $100 notes are stored in bundles in boxes or suitcases as means of facilitating the cash economy rather than put into wallets for use in legitimate transactions.

If so, the cash economy is growing at an alarming rate... Before the introduction of the goods and services tax in 2000 there were roughly half as many $100 notes per person as there are today. Backing the theory that the extra $100 notes are kept in bundles rather than put into wallets are Reserve Bank estimates that the average $20 note lasts twelve years before being damaged and replaced whereas the average $100 note is on track to last 70 years.

The $50 note is by far the most counterfeited, with almost 7000 fake notes detected in the year to June compared to only 600 fake $100 notes.

The annual report says the number of counterfeits dived in 2011-12 following the arrest in 2010 of several people allegedly connected to a well organised criminal operation in NSW.

Published in today's Canberra TimesSydney Morning Herald and Age

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Friday, September 21, 2012

Straight talk from the IMF about that surplus: we might have to postpone it

Who could it have been talking to?

The Treasurer and the International Monetary Fund are at odds over whether the budget should return to surplus this financial year.

The Fund has used its latest report on Australia to raise the prospect of abandoning the planned surplus saying the authorities had “scope to delay their planned return to surplus” should the economic outlook deteriorate sharply.

Treasurer Wayne Swan will tell a business breakfast in Sydney this morning he intends to return to surplus regardless, saying although the task “is made harder by a fall in commodity prices” a surplus is “still our best defence against the current global economic volatility and sends a clear message that we are committed to responsible fiscal policy”.

However the IMF believes Australia’s reputation is not at risk, describing its public debt as “modest” and saying it has “monetary and fiscal space” to respond to shocks.

It has upgraded its forecast for Australian growth this year from 3 to 3.25 per cent but warns “risks are tilted to the downside”.

“For example, a hard landing in China would reduce demand for Australian mineral exports, worsen terms of trade, reduce household income, and could trigger a fall in house prices,” it says.

The Fund paints a picture of an economy increasingly at the mercy of international markets saying “the increasing share of the mining sector in the economy implies Australia will be exposed more to volatile commodity prices, not only upward but also downward, as in recent months”.

While the floating dollar can help cushion the national economy it “offers little help” to regional economies and the industries that suffer the most at the hands of international markets.

The IMF says investment outside of Australia’s resources sector is likely to remain weak for some time and that the rest of the economy will soon face the challenge of absorbing mining industry workers made redundant as the boom comes off its peak.

Mr Swan will tell this morning’s breakfast he is an optimist about China.... He will say his talks there have convinced him much of its slowdown is deliberately engineered.

“We really just need to keep things in perspective,” he will say. “China is now 40 per cent larger than in 2008 so its growth rate can be 20 per cent lower for it to make the same contribution to global growth.”

“It’s like Usain Bolt easing off a bit at the end of the 100 meters because he’s 10 meters in front and has already smashed the world record.”

The Fund’s Asian head of mission Masahiko Takeda told reporters yesterday Australia had the ability to respond to both a deeper decline in Asian growth and a worsening European situation. ‘‘Australia has policy space to mobilise,’’ he said, noting that for the moment Australian policies struck a good balance between cutting debt and supporting growth.

Its monetary and capital markets chief Dr Cheng Hoon Lim said ‘stress tests’ showed Australia’s banking system could withstand a five per cent drop in economic growth and 35 per cent slide in house prices.

Mr Swan said the Fund had “lauded” Australia’s strong fundamentals and bright outlook. His speech this morning will concentrate on the United States saying the biggest threat is “the cranks and crazies that have taken over the Republican Party”.

In today's Sydney Morning Herald and Age

IMF Concluding Statement Australia


Thanks Craig [Meller] for that introduction.

AMP has certainly pulled together a great event working with Peter Maher and John Brogden from the Financial Services Council.

Today’s a good opportunity to just step back and have a chat about where the global economy is going and what that means for Australia.

I want to talk about Europe, the US, Asia then Australia in that order.

The way I see it, we’re now clearing some of the major hurdles in the global recovery but we have a long way to go and the finish line is still well-off in the distance.

We should take heart from a couple of the most encouraging weeks in the world economy for some time and that’s cause for cautious optimism.

On the flip side, the two biggest risks to the global outlook are Europe and the fiscal cliff in the United States.


In Europe, three events recently had the potential to tip the balance.

In a rare coup for the optimists among us, each fell the right way and together with developments in the US have helped support confidence.

Mario Draghi delivered a potential game-changer.

The ECB’s announcement of further measures to stabilise Spanish and Italian sovereign bond markets was essential.

We should acknowledge Draghi’s determination to do everything he can within his mandate to preserve the euro. Someone had to step up.

It was a necessary step, but certainly not sufficient.

For the first time in a long, long time the Europeans did something that made us think they’re capable of sorting this thing out.

Two other key events bought them further breathing space - the German Constitutional Court did not rule against the European Stability Mechanism and the Dutch people elected a pro-euro government.

We now need Europe’s political leaders to use this window of opportunity to take further decisive action to stabilise the path of Europe’s troubled economies.

More fundamentally, despite the steps taken in the last couple of weeks, it remains the case that the European project is only half-finished.

We admire Europe’s ambition in seeking to bind itself together so that it may never again tear itself apart through pan-European military conflict and political upheaval.

We don’t doubt the emotional commitment at the heart of the euro.

But Europe’s leaders must accept that the economic structure they sought to build lies incomplete.

A monetary union standing alone remains structurally unstable.

It must be reinforced by the strong foundations of a fiscal union, and the supporting pillars of a banking union and political union.

The answer – the only answer – lies in more Europe, not less.

Of course, this is a reform story that will span decades, not months.

It requires more political courage among Europe’s leaders than they’ve shown to date – to take difficult decisions in the long-term interest of their people.

That’s what leadership is about – forsaking the politically easy, populist road, in favour of the more challenging but more sustainable path towards prosperity for the future.

There’s been too little of this in Europe up to now.

Here in Australia, we have rich and proud history of leaders who have set aside their political interests to take decisions in the long-term national interest.

Whether it was floating the dollar, bringing down the tariff wall, abolishing centralised wage fixing, or introducing compulsory super.

Or in our case the carbon price, MRRT and more.

We’ve stumped up and pushed forward when the times called for it.

Europe has much of this nation building task still ahead of it.

As they bind their countries closer together, European policymakers must continue their efforts to support economic growth and job creation, and recapitalise their banking system.

They must do this while they implement a credible medium-term framework to reduce excessive sovereign debt levels and boost competitiveness through structural reform.

There is little doubt this will be a very long and painful adjustment with bouts of volatility in global financial markets along the way.


So Europe’s obviously the first key risk to the global outlook, but there’s another on the other side of the Atlantic.

In the United States, we are reminded again of the price paid by the community when hard decisions are delayed.

It’s been just over twelve months since the venomous partisan debate over the United States’ legislated borrowing limit and fiscal trajectory led to S&P stripping the US of its prized AAA-rating after 70 years.

Despite President Obama’s goodwill and strong efforts, the national interest was held hostage by the rise of the extreme right Tea-Party wing of the Republican Party.

The consequences were grave.

S&P said at the time that the downgrade reflected its view that:

“the effectiveness, stability, and predictability of American policymaking and political institutions have weakened at a time of ongoing fiscal and economic challenges”

S&P cited: “the difficulties in bridging the gulf between the political parties over fiscal policy”.

These are words of warning to politicians the world over.

There can be few things more alarming in public policy than a political movement which was genuinely prepared to see the US Government default on its obligations in order to score a political point.

Fast-forward to today, against the backdrop of a very close presidential campaign, and global investors are once again keenly focussed on political gridlock in the US.

As is well known, a ‘fiscal cliff’ looms early in the new year threatening to derail the still moderate recovery in the US.

The Congressional Budget Office estimates that currently legislated spending cuts and tax increases amount to a fiscal consolidation worth around 5.1 per cent of GDP in the 2013 calendar year.

This would tip the US economy back into recession – the CBO estimates the US would contract at an annual rate of 2.9 per cent in the first half of 2013.

To give you an idea of the counterfactual, the CBO estimates that if US lawmakers removed the scheduled contraction in full, the US economy would likely grow somewhere in the order of 4.4 per cent in 2013.

With the world watching, it is imperative that the US Congress resolve an agreement to support growth in the short term.

In a throw back to a year ago, global markets are nervously watching the positioning of hardline elements of the Republican Party for signs that they will dangerously block reasonable attempts at compromise.

Let’s be blunt and acknowledge the biggest threat to the world’s biggest economy are the cranks and crazies that have taken over the Republican Party.

Of course, Congress must outline a credible medium-term plan to assure markets that the US can put its budget back on a sustainable footing over time, building its fiscal strength to respond to future challenges.

Last week, Moody’s confirmed it would likely join S&P in downgrading the US from AAA if the US Congress does not outline a credible plan for reducing its debt levels over time.

But Moody’s observed that unless this was achieved without a “large, immediate fiscal shock – such as would occur if the so-called fiscal cliff actually materialized” its ratings outlook would likely remain negative.

Here in Australia, of course, the grass is so much greener.

Our net debt is around one-tenth the level of the major advanced economies as a percentage of GDP, and we’re coming back to surplus before every single one of these economies.

Getting the budget back into surplus is made harder by a fall in commodity prices, but it’s still our best defence against the current global economic volatility and sends a clear message that we are committed to responsible fiscal policy.

It gives the RBA maximum room to cut official interest rates – as it has with the equivalent of five rate cuts in the past year or so, supporting businesses and supporting households.

This recognises that monetary policy should play the primary role in managing demand in the current circumstances – consistent with its medium term inflation target.

So in the US as in Europe, we’ve seen political gridlock, excessive public debt, and no room to move on interest rates – leading the US central bank to respond with unconventional monetary policy.

The Fed last week delivered on market expectations for another round of quantitative easing – in fact surprising on the upside with an open-ended program and the promise of very low rates even longer into the recovery.

The numbers involved are staggering. Consider this.

Even before QE3 – as it’s known – the total nominal value of unconventional monetary policy undertaken by the Fed so far – at over US$2.5 trillion – is around 75 per cent greater than the size of the Australian economy in 2011-12.

Of course Ben Bernanke doesn’t think he can bridge the ‘fiscal cliff’ or that QE3 will be a panacea – but like Draghi he’s willing to do what it takes within his mandate because the politicians aren’t stepping up.

Just like Draghi, Bernanke has mounted a strong defence of his actions to defuse the ideologically-driven criticisms of the political class – in his case, ultra-hawkish section of the Republican Party.

It’s pretty clear why.

Many American businesses are sitting on the sidelines reluctant to invest or hire new workers against the backdrop of uncertainty created by the impending ‘fiscal cliff’ and risks flowing from Europe.

Bernanke seems rightly troubled by the very real destruction of skills flowing from unacceptably high levels of unemployment, particularly long-term unemployment.

I couldn’t have agreed with Bernanke more when he said recently at Jackson Hole that:

“The stagnation of the labor market in particular is a grave concern not only because of the enormous suffering and waste of human talent it entails, but also because persistently high levels of unemployment will wreak structural damage on our economy that could last for many years.”

This point is fundamental.

Human and economic outcomes are two sides of the same coin – our people are our most important resource, and our economy is there to enhance the prosperity of our people.

Of course, a self-sustaining recovery in the United States will take time - but I've got a lot of faith in the world’s largest economy.

It’s a dynamic and innovative economy with a spirit of entrepreneurship that’s unique among nations.

It’s a place that’s been built on ideas and hard work to make them a reality, and it will continue to be so in the years and decades to come.


But with the global economic outlook still uncertain, driven in particular by risks flowing from major advanced economies in the Northern Hemisphere, you wouldn’t want to be anywhere but here.

Let’s just have a think about why.

Despite continued global volatility and enormous structural change, the foundations of our economy are rock-solid.

There can be no clearer display of our strength and resilience than the incredible 21 consecutive years of growth that we have achieved, confirmed recently in the June quarter national accounts.

This means Australia has now achieved more straight years of economic growth to date than the G7 economies combined over this period.

Through the year to June, we also recorded above-trend growth of 3.7 per cent, faster than every major advanced economy.

Our economy is now 11 per cent bigger than at the end of 2007 – streets ahead of the major advanced economies.

Over the same period we’ve seen the US expand only modestly by 1.8 per cent, while France has contracted by 0.5 per cent, Japan by 1 per cent, the UK by 4.2 per cent and Italy by a massive 6.3 per cent.

Even the best performing G7 economy – Canada – has only been able to achieve growth of 4.4 per cent, well less than half that of Australia.


Let me turn now to the outlook for China.

There’s been a lot of talk recently about the pace of Chinese growth – with markets forensically examining each monthly data point for evidence that China is slowing too fast or not speeding up fast enough.

So I say this very clearly – I am an optimist about China.

Setting aside the limitations of monthly data, I can tell you I was just up there recently meeting with the leadership and I think there are very good reasons to be optimistic about China's prospects.

Yes, China’s growth has moderated, but this partly reflects a very deliberate move to more sustainable growth, together with the impact of ongoing weakness in Europe on Chinese exports.

Chinese policymakers have got substantial policy flexibility to respond and they’ve said this repeatedly in recent weeks.

And when it comes to China’s growth rate, we really just need to keep things in perspective; China is now 40 per cent larger than in 2008 so its growth rate can be 20 per cent lower – 8 per cent versus 10 per cent back then – for it to make the same contribution to global GDP growth.

It’s like Usain Bolt easing off a bit at the end of the 100 meters because he’s 10 meters in front and has already smashed the world record.


Yes, the recent moderation in China’s steel demand has contributed to the decline in commodity prices, and as we forecast in this year’s Budget, our terms of trade peaked in September quarter last year.

We also know there are other pressures, not assisted by such decisions as the Newman Government’s decision to jack up royalties which the industry loathes because they hit smaller players hardest.

But we also expect our terms of trade to remain at high levels over the medium term, underpinned by the long term growth story in our region.

And as RBA Assistant Governor Christopher Kent reminded us this week, we’re only part of the way through the current mining boom, which can be characterised as three overlapping phases.

A boom in prices, then investment, and then in exports.

And while we’ve passed the peak in prices, the second and third phases still have a way to run.

In the June quarter, business investment as a per cent of GDP reached its highest point in 40 years at 17.1 per cent, and we expect it to rise further over the next year or so.

That’s why I have to laugh when I read ideologues in our print media try and write about sovereign risk. It’s absurd.

We’ve got a half a trillion dollar pipeline in the mining sector alone, with more than $260 billion at advanced stage.

These are projects which are largely locked in already.

Just this week we had the RBA say that:

“given the large LNG and other mining investment projects already under way, the staff still expected there to be a substantial increase in resource investment over the next year or so.”

While the Bureau of Resources and Energy Economics said:

“High levels of mining investment are expected to continue for some time to come. Significant expansions to iron ore and coal production capacity are also underway, and will contribute to solid growth in resource export volumes over the foreseeable future”

So we’re sitting in the right part of the world at the right time, at the dawn of the Asian Century.

We’re witnessing a structural change in the global economy, with a massive shift of economic weight to our region.

Of course it’s much broader than just China – it’s countries like India, Indonesia, Vietnam, Thailand and Malaysia.

But the industrialisation and urbanisation of China is a long-term trend as powerful as any the global economy has ever seen.

And there is still a very long way to run.

Although it has already lifted many millions out of poverty, China’s GDP per capita today is still only one-fifth of the average of advanced economies.

By 2025, it is projected to still only reach around 50 per cent.

China still has enormous capacity for deepening its capital stock through investments in productive infrastructure.

Consider this: China and the US are roughly equal in land mass.

But China’s rail lines are still only just over one third the length of those in the US.

According to the Reserve Bank, there is also a long way left to run on China’s path towards urbanisation:

Over the next two decades, China’s urban population is expected to increase by 42 per cent, so that by 2030 around 7 in 10 Chinese will live in urban areas.

But by 2030, China still won’t have caught up to Australia with our urbanisation rate of nearly 90 per cent.

The peak steel requirement for Chinese residential construction is not expected to be reached until around 2023 – a decade from now.

All of this means, in the Reserve Bank’s view that:

“Australia is well placed to retain its position as the largest supplier of iron ore to China in the coming years, particularly given the relatively low cost of extraction of iron ore”

I’m really optimistic about the role that Australia can play in the global transformation I’ve been talking about, not just as passenger but as a driver of the Asian Century.

It’s not only about digging things up and shipping them off.

Across the Asia-Pacific, the ranks of the middle class are swelling at something like 110 million people a year. That’s a figure that should have ambitious Australian entrepreneurs champing at the bit.

By the end of the decade, there are will be more middle class consumers in Asia than in the rest of the world combined.

It won’t just be the biggest production zone in the world, it will be the biggest consumption zone too.

Just think of the enormous opportunities this will mean for Australian industry to get up the value chain and deliver the complex consumer durables and sophisticated services Asia’s middle class will demand.

So it’s not hard to understand why Australia is seen as one of the most attractive investment destinations in the world.

We are increasingly seen as safe haven for global investment – with solid growth, low unemployment, healthy consumption, record investment and contained inflation.

With our strong public finances, we are among a rapidly diminishing pool of AAA-rated sovereign investment opportunities.

We’ve got a AAA-rating from all three global rating agencies for the first time in our history – we’re one of only seven sovereigns to achieve this with a stable outlook.

In fact, just this week S&P strongly endorsed our responsible fiscal strategy by reaffirming Australia’s gold-plated AAA credit rating.

S&P confirmed the Government’s strong fiscal discipline, underpinned by low public debt, as well as our public policy stability and economic resilience amid ongoing global uncertainty.

With the world economy so uncertain, it’s no wonder our 10 year bond yields are currently at around 60 year lows.

Having the AAA credit rating from the three main agencies is a bit like having the Brownlow, the Norm Smith and the flag all in one season.

Another really important factor in all of this is our world-class financial system, built on our decisive action during the global financial crisis.

As well as our efforts to boost its strength since then through measures to build a deep and liquid corporate bond market, and allow the issuance of covered bonds.

We’re a capital hungry country – and international investors bring their money down here because they know we deploy their capital productively and for high returns.

But we take none of this for granted.

While our productivity levels are among the top dozen in the world, it’s well understood that we’ve experienced a decade-long structural decline in productivity growth.

That’s why we’re so focused on the Asian Century White Paper which we’ll be releasing shortly and which will marry up the domestic productivity agenda with all of the other pathways to ensuring we are the biggest beneficiaries of the Asian Century.

I look forward to talking with you about that paper, the global economy more generally, and all the associated issues in the months and years to come.


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Thursday, September 20, 2012

Here's 20 cents, don't spend it all at once. Why we should hang our heads in shame

From today..

Newstart up $2.90 per fortnight to $492.60

Pensions up $17.10 per fortnight to $772.60

Department of Families Community Services and Indigenous Affairs, maximum single rates.

Pensioners will find their wallets $17.10 per fortnight heavier from today, Australians on Newstart or Austudy will scarcely notice any difference.

The disparity in the latest round of half-yearly increases - $17.10 per fortnight for single pensioners and just $2.90 per fortnight for Australians on allowances - is one of the widest on record.

It has come about because pensions are increased every six months in line with average male earnings while Newstart and other benefits are increased only in line with the consumer price index, which in recent months has been looking sick.

The CPI climbed not at all in the December quarter, by just 0.1 per cent in the March quarter and by 0.5 per cent in the June quarter. When Reserve Bank governor Glenn Stevens told parliament in August inflation was its lowest “for some years,” he meant it as good news. But for Australians who rely on the CPI to keep pace with other Australians the good news is anything but good.

Especially so because their own cost of living is climbing faster than the index...

While the consumer price index climbed 0.5 per cent in the three months to June, the living costs of Australians on government benefits climbed 0.6 per cent, according to a separately-compiled Bureau of Statistics survey. Rents, which are particularly important in the budgets of Australians on allowances, have been climbing strongly.

The ABS figures show the living costs of Australians on allowances have been increasing faster than the living costs of Australians on the pension, yet the latest increases will add $1.22 per day to the single pension and just 20 cents per day to the Newstart.

“The gap between pensions and allowances has been growing for over thirty years, it has led to a situation where Newstart is now so low that it creates its own barriers to finding work,” said Greens Senator Rachel Siewert who earlier this year attempted to live for a week on $17.15 per day, her calculation of Newstart after rent.

From today Newstart and student allowances will climb to $35.18 per day while the pension climbs to $55.20 per day.

Roughly equal during the 1980s, the two payments have drifted apart as the different indexation methods have widened the gap each six months. The Rudd government’s 2009 decision to lift the pension by $32 a week while Newstart unchanged widened the gap further.

The Senate is inquiring into the gap and is due to report in November.

In today's Age

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Wednesday, September 19, 2012

Mining. Now we're forecasting the first downturn since the GFC


Official forecasts three months ago

Iron ore income up 7%
Coking coal income down 2%
Liquefied natural gas up 29%

Official forecasts today

Iron ore income down 16%
Coking coal income down 15%>
Liquefied natural gas up 23%

Bureau of Resources and Energy Economics, September quarter 2012-13 forecasts

The government’s official forecaster has taken the axe to its iron ore and coal outlook, predicting the first slide in mining income since the global financial crisis.

The Bureau of Resources and Energy Economics expects iron ore income to slide 16 per cent this financial year and coking coal income 15 per cent. Just three months ago it was expecting iron ore income to climb a further 7 per cent and coking coal income to slip only 2 per cent.

The turnaround comes as Rio Tinto warns it will find it “increasingly hard” to justify further investment in Australia apart from in the Pilbra and as resources minister Martin Ferguson says Australia is at risk of missing out on the next wave of global investment unless it gets costs under control.

The Reserve Bank signalled in board minutes released yesterday that it was prepared to cut interest rates at its next meeting if needed, drawing attention to a 35 per cent slide in iron ore spot prices since June and a 25 per cent slide in coking coal spot prices. It said both slides would be “reflected relatively quickly” in export prices as an increasing amount of our exports are being sold for spot prices or on short term contracts. Iron ore and coking coal are Australia’s first and second biggest exports.

Bureau of Resources and Energy Economics chief Quentin Grafton told a mining conference yesterday commodity prices had peaked and would no longer be driving national income growth.

‘‘That phase is behind us,” he said. “We are in the ‘let’s roll up our sleeves’ phase.’’

Treasurer Wayne Swan will this morning attempt to draw attention away from the resources slide, telling a Canberra conference he “never thought record-high prices would continue forever"...

He will say Australia will be in the “box seat” for Asia’s re-emergence as mining cools, enjoying a “broader suite” of services built on the expansion of Asia’s middle-class.

“There will be greater opportunities in everything from agriculture and food, to travel and tourism, to education, engineering, arts and architecture, to banking and financial services,” he will tell the conference.

“As well as things we haven’t dreamed up yet.”

The Bureau has sliced 10 per cent from its forecast of Australia’s mining and energy earnings, predicting a dip of 2 per cent this financial year instead of the previously forecast increase of 8 per cent.

Shadow treasurer Joe Hockey told his party yesterday the cuts would wipe $20 billion to $25 billion from the Commonwealth budget. He said a number of departments had been asked to change their accounting practices in ways that would be illegal if they were private companies. The government would bring forward its mid-year review. The government says the hit to revenue will be smaller and it is not planning to bring forward the review.

Rio Tinto’s Australian chief David Peever told the conference a double whammy of falling prices and rising costs made new investments in Australia increasingly tough to justify.

Nations that used to be considered too risky or dangerous, such as the Democratic Republic of Congo, Mongoloia and Mozambique, were now real options.

‘‘Let’s be very clear. Australia now has serious competitors across a number of commodities where we previously held the edge,’’ he said.

Resources minister Martin Ferguson said Australia risked missing out on the ‘‘second investment pipeline’’ of potential mining projects worth up to $230 billion unless it could cut its costs or become more productive.

"The job losses announced by Xstrata and BHP in Queensland provide early indication of the potential impacts of this squeeze on margins," he said.

The heavily indebted iron ore miner Fortescue was yesterday granted a $4.5 billion lifeline from lenders JP Morgan and Credit Suisse to allow it to reschedule its debts.

In today's BusinessDay, Sydney Morning Herald and Age

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Tuesday, September 18, 2012

Why the GST is failing, and why it's hard to fix

Me on ABC Adelaide 891 September 19, 2012

11 minutes, play or CLICK THEN CLICK AGAIN to download mp3

The GST takes in $50 billion per year


Lift the rate to 12.5%: An extra $12.5 billion

Lift the rate to 15%: An extra $25 billion

Tax fresh food: An extra $6 billion

Tax financial services: An extra $4 billion

Tax health spending: An extra $3 billion

Tax education: An extra $3 billion

Tax child care: An extra $600 million

Tax on-line imports: An extra $600 million

Commonwealth Treasury: 2012 Budget, 2011 Tax Expenditures Statement.

(Rounded figures)

Lifting the goods and services tax to 15 per cent would boost Australian state budgets by an extraordinary $25 billion per year - $8 billion of which would be kept by the O’Farrell government in NSW, but experts warn it would soon evaporate.

Fifteen per cent was the rate originally slated for the GST to be introduced by a John Hewson-led Coalition government should it have taken office in 1993. It is also the rate to which New Zealand has now lifted its GST after two decades at 12.5 per cent. It is dwarfed by GST rates of 20 per cent or more in most of Europe.

At 10 per cent, Australia’s GST earns the states $50 billion per year, double the $24 billion it earned when introduced in July 2000. But as a proportion of gross domestic product it has been slipping for years, something Treasury budget papers blame on increased household saving, and also a “steady decline in expenditure on items attracting GST as a share of total consumption”.

“We knew this was going to happen,” says Greg Smith, a former head of Treasury’s revenue group and a member of the Henry Tax Review. “It was clear people were moving their spending from goods to services - it was one of the arguments for a GST - but it was also clear they were moving spending to services outside the scope of the GST such as health and education."

Treasury calculations show the prices of health, education and rent - all excluded from the GST - have been increasing far faster than the prices of items covered by the GST, meaning a growing proportion of spending is GST exempt.
It is why NSW Premier Barry O'Farrell and Treasurer Mike Baird have called for a debate about lifting the GST, receiving backing from South Australia’s Treasurer Jack Snelling.

But experts warn lifting the rate to 12.5 or 15 per cent would only buy time, perhaps even accelerating the shift in spending away from items covered by the GST...

“The greater the GST rate the greater the incentive for fraud and for moving spending elsewhere,” says Neil Warren, professor of taxation at the University of UNSW. “To stop it you would need to tighten up on GST-free imports and consider extending the GST to food, education and health.”

Treasury calculations show extending the GST to presently exempt fresh food would raise an extra $6 billion per year (some of which would need to be spent compensating low income earners), extending it to education would raise a further $3 billion, and health another $3 billion.

But Professor Smith says the health and education savings are illusory.

“The states themselves are the biggest providers of health and education. Taxing their services in order to help fund their services would mean money in one door and out the other. It isn’t a net revenue gain.”

And much of the extra income would be earmarked as soon as it came in.

“The Commonwealth would want the states to cut insurance taxes and stamp duties. Those two alone would eat up the extra income. The Commonwealth would want to pin the states down to timetables for cutting the taxes, it wouldn’t just let them have the extra GST,” said Professor Warren.

In today's Sydney Morning Herald and Age

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Tuesday, September 11, 2012

Pension up $17.10 per fortnight, Newstart up $2.90

Surely not. But it's true.

And a national humiliation.

That may be why the government may have dishonestly fed Channel Seven misleading information for its TV news story Friday night.

This is contemptible, on several levels.

1. We entitled to have a government that tells the whole truth - including when it backgrounds journalists.

To compare Newstart (including in the calculation supplementary payments such as rent assistance) to the minimum wage (without including supplementary payments such as rent assistance) is dishonest.

2. It betrays guilt over what is happening to Newstart, which the government is apparently prepared to endure rather than put right.

3. To use a false comparison to further stigmatise already-stigmatised Newstart recipients adds insult to injury.

I do not know which staff member in Shorten or Macklin's office fed Channel Seven the false comparison.

He or she ought to have difficulty sleeping.

Maybe after the election he or she will get to try Newstart.

I've heard it's not that low.

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A warning at the Trans Pacific Partnership negotiations...

Don't end up like Australia, vulnerable to legal action from the likes of Philip Morris

Delegates attending trans-pacific free trade negotiations in the United States are being warned their countries could end up like Australia if they agree to allow corporations to sue governments in international courts.

Australia is fending off a challenge to its plain cigarette packets legislation from Philip Morris International under the terms of an obscure Hong Kong investment treaty even though Philip Morris has lost its case against Australia in the High Court.

“The Philip Morris company's persistence with the investor state dispute settlement case shows such procedures are a threat to democratically enacted legislation and national judicial decisions”, Australia’s Patricia Ranald told stakeholders forum at the negotiations in Leesburg, Virginia.

The United States is insisting on so-called investor state dispute settlement provisions in the Trans Pacific Partnership even though it does not have them in its existing free trade agreement with Australia and even though Australia has said it will not sign a deal that includes them.

The Trans Pacific Partnership will encompass Australia, Brunei, Canada, Chile, Malaysia, Mexico, New Zealand, Peru, Singapore, the United States and Vietnam, many of whom already have in their agreements with the United States clauses that allow corporations to sue governments in supra-national forums...

Philip Morris International moved the head office of its Australian subsidiary to Hong Kong shortly before it launched action against Australia under the terms of Hong Kong treaty in what Dr Ranald said was jurisdiction shopping.

“Philip Morris International described itself as a US-based company when it made a submission in 2010 to the US trade representative supporting an investor state dispute settlement process in the trans pacific partnership.”

“However, it claimed to be a Swiss-based company when it used an investor state dispute settlement process to sue the Uruguayan government for damages under a Uruguay-Swiss investment agreement when Uruguay introduced legislation restricting tobacco advertising.”

“Philip Morris can also claim to be a Hong Kong company because Philip Morris Asia, incorporated in Hong Kong, invested in Australia by becoming the sole shareholder of Philip Morris (Australia) after the Australian government announcement of its intention to legislate for plain packaging of tobacco.”

Speaking as convener of the Australian Fair Trade and Investment Network the Sydney University academic told the forum Australia’s problems showed none of the eleven nations negotiating the treaty should agree to provisions that would allow corporations to sue them extra-nationally.

Sean Donnelly from the US Council for International Business told the forum investor state dispute settlements procedures did no more than give international investors access to the rule of law.

He said business would like more protections, but believed what the US was proposing struct the right balance.

In today's BusinessDay

Investor State Disputes Settlement and the TPP - Patricia Ranald

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Saturday, September 08, 2012

Earth to Australia - the party's over, you've had time to prepare

Saturday feature

What if the Treasurer threw a party and no-one came?

This week Wayne Swan implored the nation to celebrate an unbroken 21 years of economic growth - “21 continuous premierships in the row” - more than every other leading nation combined.

But no-one was popping champagne. Fortescue Metals founder Andrew Forrest was losing personal wealth at the rate of $150 million per day. At the start of July the iron ore spot price was $US127 a tonne. By Friday it had slipped below $US87. Importantly all of that 30 per cent slide in the spot price of Australia's biggest single export happened after the turn of the new financial year - it happened after the period covered by the June quarter national accounts of which the Treasurer was so proud.

Rarely has an economic report card been so obsolete the moment it was released.

The near-vertical slide in the iron ore price has gouged 40 per cent from the Fortescue’s share price since the start of July, ripped a billion dollars from the worth of its chairman, put it on Fitch Ratings negative credit watch and forced it to shed 1000 staff and wind back expansion programs already underway. Macquarie Equities says if it stays that low BHP's earnings will fall by a third, Rio’s will halve. It might have to borrow to pay its dividend. Gina Rinehart was said to be the world’s richest woman back in May when the iron ore price was $US145. Unless it recovers from its present level south of $US90, next year she will cede to the title to someone else - most probably the US Wal-Mart heiress Christy Walton.

It’s easy to be beguiled by the drama of a collapse that might always be reversed. The Swiss investor Mark Faber (known as Dr Doom) identifies four mega bubbles in the last four decades, the biggest of which is the ten-fold increase in the price of iron ore. He is able to produce a frightening graph making this year’s collapse in the iron ore price look like the earlier collapses in the price of gold, the Nikkei and the Nasdaq.

The accepted wisdom had been that an extraordinary 18 million Chinese were pouring from the countryside into cities each year - the entire adult population of Australia. Housing them had required steel, which could only be made from iron ore. The wisdom is being questioned because China's growth is slowing, it has unsold homes and it is closing steel mills.

The prime minister’s advisor on Asia Ken Henry affects an air of unconcern... Asked this week whether the mining boom was over he reframed the question. “There are people who would call the boom that is presently underway boom number two, so maybe the question should be, is boom number two over,” he told a seminar at the Australian National University.

“I would suggest to you that if this really is the end of boom number two, we will see boom number three, and we will see boom number four and we will see boom number five and so on.”

“My view is the minerals development projects underway in Australia have a very long way to run. There will be periods of relative weakness, but I wouldn't be writing off the minerals development story just yet.”

But in the here and now the collapse in resource prices is a serious problem. Reserve Bank governor Glenn Stevens drew attention to it in the statement released Tuesday after the board meeting that decided to shift the Bank’s interest rate stance from neutral to an “easing bias”.

Iron ore has accounted for 22 per cent of our exports, coal another 16 per cent. Mining tax and royalties from iron ore and coal have been factored into budgets. Western Australia was this year expecting to raise 17 per cent of its revenue from iron ore royalties. The Commonwealth was planning to raise $3 billion per year from a new minerals resource rent tax applying only to iron ore and coal.

Bank of America-Merrill Lynch chief economist Saul Eslake says coal and iron ore matter because they have been two of the major drivers of the economy. “Households have been cautious about their spending, most parts of the economy have been shrinking,” he says.

What’s galling to someone concerned about economic management is that they are coming off the boil at exactly the time the government has switched from pumping money into the economy to taking money out.

In the two months before the end of the financial year it showered households with $2.85 billion carbon tax and schoolkids bonus payments, insulating Australians from the downturn in national income. Local councils received their government payments early.

Department store spending climbed 1.2 and 3.7 per cent in May and June, then dived 10.2 per cent in July - its biggest slide in seven years.

The new financial year has begun with the resources downturn worsening and the government turning the money tap off. Everything has to be cut back in order to achieve the promised 2012-13 surplus.

And it probably have to be cut back more in the budget review due in November. Asked Wednesday what he would do if the iron ore price didn’t recover Swan said it would make his budget task harder and that he would cut harder.

“We are absolutely committed to delivering a surplus in 2012-13,” he said. “The government has a proven track record of delivering savings and we remain able and willing to do it again.”

Former Reserve Bank Board member Warwick McKibbin says cutting harder when economic activity is turning down is almost a definition of economic stupidity.

“It’s going to actually mean a much bigger slowdown in the economy. Any unit fall in the terms of trade is going to have a much bigger impact because of the feedback from fiscal policy.”

“What puzzles me is that Swan understood this. He was a Keynesian in 2008-09. In fact he claims he saved all those jobs by doing what he did. Why wouldn't he be arguing the thing same now, when the terms of trade are falling again?”

McKibbin says Swan should have abandoned his rigid commitment to a 2012-13 surplus as soon as it became clear the global financial crisis hadn’t ended.

“He had a perfect opportunity after the European crisis emerged to scale back his promise on the surplus and say: circumstances have changed, this is how we are going to deal with them. Instead he has held on and held on to the point where he is so locked in to a surplus that his credibility will be damaged unless he can deliver one.”

The Treasurer’s determination to return the budget to surplus no matter what will be made more painful by his earlier decisions to fund permanent increases in spending from vulnerable and uncertain mining and carbon tax proceeds.

The centrepiece of the this year’s May budget - the “spreading the benefits of the boom” family payments will cost around $1 billion per year, each and every year in perpetuity. The boom might end but the payments will continue for ever. The permanent cost to government of the superannuation increases was “funded” the same way. Pensions and other benefits have also been increased permanently to compensate for a carbon tax whose revenue will be uncertain and looks like undershooting earlier estimates.

And then there’s the National Disability Insurance Scheme and the dental scheme and the Gonski schools reforms. If the government knows how it will fund these on an ongoing basis, it hasn’t yet told us.

Treasury Secretary Martin Parkinson last month told a business audience Australia would soon be unable to meet demands for new government spending from the taxes it had.

“As Australian incomes have continued to rise over past decades, so too has community demand for the government provision of what economists call 'superior goods', including aged care, health, disability, education and social welfare. These pressures will only be exacerbated in coming decades as the population ages,” he said.

“At the same time, the taxation base is weaker than we had imagined in the mid-2000s. With hindsight, it is apparent that part of revenue collections then reflected a temporary bubble in the economy. The takeout message is that the days of large surpluses being delivered by buoyant tax receipts are behind us.”

McKibbin, an internationally-recognised economic modeller, thinks a public recognition of the problem is one of the reasons the public is reluctant to spend.

“In our models this effect is quite big. In the United States I think it’s one of the reasons no-one is spending, particularly corporations even though they've got money on their balance sheets. They don't know what taxes are going to have to rise to fix the fiscal position. They know someone is going to have to pay, so they save a bit more.”

“You talk to a taxi driver in Australia, or go to a pub. You’ll find people asking who’s going to pay for all this stuff now the boom is over. It is weighing on consumption and it is weighing on investment.”

Eslake agrees Swan has placed himself in an awful budget position. But he says it could give him the steel to make important savings.

“You know the saying, never waste a crisis? Well there is all sorts of middle-class welfare the government should be cutting -- superannuation concessions, negative gearing, family trusts and so on. Quite often desirable reforms take place only when a government is prepared to use a crisis to seize the day.”

And he says unless the resources downturn is really severe, the Reserve Bank might be able to handle it without support from the budget.

“If Wayne Swan’s need for a surplus prompts the Reserve Bank to ease monetary policy by more than it otherwise would, then there is probably no harm done.”

“The serious harm would be if they insisted on keeping the the budget in surplus in the face of an earthquake like 2008.”

“Bear in mind one of Australia's strengths is that we are one of only a handful of countries with a triple-A rating, and given that these days the costs of not having a triple-A rating are higher than they used to be, that's not something to be lightly thrown aside. So it depends on the circumstance - if we've got a Lehmann's style shock, a hard landing in China, then my view would be that not only should we let the budget go into deficit but that we should do some stimulus as well, and if that costs us the triple-A rating so be it.”

“But in other circumstances that fall well short of that, which is where I think we are at the moment, if you can cobble together a mix of policy changes that includes cutting government spending that is clearly wasteful or misdirected in order to preserve a surplus while also having bigger cuts in interest rates than you otherwise might, and ideally if that also led to a bigger fall in the dollar than otherwise would have occurred, then that's probably a sensible compromise to make.”

The high dollar is bedevilling economic management.

Normally when resource prices climb the dollar climbs to spread some of the benefits (via lower import prices) and move labour and capital away from competing trade exposed industries (by making them less competitive).

When resource prices slide the opposite is supposed to happen. The lower dollar is supposed to spread the pain via higher import prices and make previously uncompetitive trade exposed industries competitive again.

That’s the theory. This time the Aussie has stayed resolutely high in defiance of convention. Since July 1 the iron ore price has slid from $US127 a tonne to less than $US87. The Aussie remains about where it was on July 1, at a touch about 102 US cents (although in the meantime it had climbed as high as 105 US cents). Not only is Australia being denied the government spending shock absorber, it is also being denied the exchange rate shock absorber.

It’s been happening because foreigners love our high interest rates and out triple-A credit rating. McKibbin is among those urging the Reserve Bank to buy foreign assets with Australian dollars in order to nudge the Aussie down, although there were signs emerging this week that it might not need to bother.

Foreign buying of Australian government bonds fell to its lowest point in three years in the June quarter. The proportion held by foreigners slipped from 79 to 77.5 per cent. Although the iron ore slide itself hasn’t hurt the dollar, if foreigners start to believe it will hurt the dollar they could desert it en masse, leaving little holding it up.

Macquarie Group’s Brian Redican says it could be the Aussie’s “Wile E. Coyote moment”.

“What we are referring to here is the well-known cartoon character who, when he’s chasing the Road Runner, frequently runs off the edge of a cliff,” he wrote to clients.

“Initially at least, he doesn’t fall. His legs are still running as if he is on land and he remains suspended in mid air. But then he looks down, and realises that there is nothing supporting him, and it is only then that he succumbs to the forces of gravity and plunges towards the valley floor.”

On Thursday AMP Capital chief economist Shane Oliver spoke of an 80 US cent dollar. He said if needed it would fall to 60 US cents.

In today's Sydney Morning Herald and Age

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