Australia's Economic Luck Is Running Out
(Bloomberg View) -- Australia’s record of 26 years without a recession flatters to deceive. The gaudy numbers mask serious flaws in the country’s economic model.
First and most obviously, the Australian economy is still far too dependent on “houses and holes.” During part of the typical business cycle, national income and prosperity are driven by exports of commodities -- primarily iron ore, liquefied natural gas and coal -- that come out of holes in the ground. At other times, low interest rates and easy credit boost house prices, propping up economic activity. These two forces have combined with one of the highest population growth rates in the developed world (around 1.5 percent annually, driven mostly by immigration) to prop up headline growth.
Yet a significant portion of housing activity is speculative. Going by measures such as price-to-rent or price-to-disposable income, Australia’s property market looks substantially overvalued.
Meanwhile, GDP per capita has been largely stagnant since 2008. Australia’s manufacturing industry, once a significant employer and an important part of the economy, has increasingly been hollowed out. The country’s cost structure is high. Improvements in productivity have, as elsewhere, been lackluster. Infrastructure is aging and unable to cope with the demands of a rising population, especially in major cities. Australia stands at 21st place in the 2017 Global Competitiveness Report. It ranks 15th in the World Bank’s ease of doing business list.
Attempts to diversify the economy have had mixed results. Tourism and service exports, mainly of education and health services, have expanded significantly. But they’re nowhere near replacing the revenues brought in by mineral exports.
Second, a debt bomb is growing Down Under. Australia’s total non-financial debt is over 250 percent of GDP, up around 50 percent since 2010. Household debt is currently over 120 percent of GDP, among the highest proportions in the world. The ratio of household debt to income has nearly quintupled since the 1980s, reaching an all-time high of 194 percent.
Stagnant real incomes have contributed to the problem, as have high home prices and the associated mortgage debt. Despite record-low interest rates, around 12 percent of income is now devoted to servicing all this debt. That’s a third more than in 1989-90, when interest rates neared 20 percent.
Government net debt borrowing, ostensibly low at around 20 percent of GDP, is higher than it looks. That figure ignores borrowing by state governments, which adds around 10 percent to government debt levels. It also ignores contingent liabilities, such as implicit government guarantees. These relate primarily to Australia’s large banking system, which accounts for over 200 percent of GDP. In 2008, the government was forced to guarantee bank deposits and borrowing to ensure liquidity. In addition, governments implicitly bear a portion of the risk of private-public partnerships used to finance essential infrastructure and services, which can’t be allowed to fail.
Public finances are deteriorating, since strong growth in the commodity sector no longer offsets weak domestic conditions. Budget deficits reflect an eroding tax base and an aging population, which is driving up health, aged care and retirement expenditures.
The high debt levels increase the risk of a banking crisis, which could be sparked by rising losses on real estate loans. Australia’s especially vulnerable because of its dependence on foreign capital; foreign net debt tops 50 percent of GDP, much of it borrowed by banks to cover the shortfall between loans and domestic deposits.
High debt levels also limit the government’s policy flexibility. Lower interest rates have proven ineffective in stimulating the economy, as over-indebted consumers are reluctant to spend more. At the same time, easy money has inflated the prices of homes and some financial assets, benefiting the rich and exacerbating inequality.
The central bank has to be wary of normalizing rates, given the impact higher rates could have on house prices and on financially stressed borrowers. Engineering a reduction in the value of the currency could affect the ability of Australia to borrow internationally and reduce demand for Aussie-denominated securities. Devaluation would also potentially increase inflation, putting pressure on interest rates.
Finally, Australia’s close political and defense ties to the U.S., and the widespread view that it is a European Christian nation, complicate its trading relationship to Asia. This is especially true of China, which absorbs over 30 percent of Australia’s exports.
Australian criticism of regional governments over human rights and capital punishment is seen as interference in domestic affairs. Asians deride Australia’s hypocrisy, pointing to the historical abuse of its indigenous population and recent treatment of asylum seekers. Australia’s “Whites Only” immigration policy ended only in the early 1970s. Recent decisions restricting foreign investment smack of latent xenophobia.
All these problems are exacerbated by political uncertainty and policy inertia. Australia has had six prime ministers in eight years. Support for the major parties has declined, even as a number of populist parties have gained. Ruling governments have needed to govern in complex coalitions. A hostile Senate has limited their capacity to legislate.
Instead of educating the country about the need for far-reaching reforms, the government seems to be casting about for new slogans -- “clever country,” “knowledge economy,” “ideas boom.” In fact, if it wants to remain a “Lucky Country,” Australia will have to change significantly -- and quickly.
This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.
Satyajit Das is a former banker whose latest book is "A Banquet of Consequences." He is also the author of "Extreme Money" and "Traders, Guns & Money."
To contact the editor responsible for this story: Nisid Hajari at nhajari@bloomberg.net.
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