Why growth isn't what it used to be
National debt is a pincer. Photo: James Davies
Following last week's RBA growth downgrade, there is much hand-wringing today in the media about why Australian economic growth is not what it used to be.
Some blame the high dollar. Some blame high wages and declining competitiveness. Some blame stodgy planning approvals that slow housing construction. All are partly right but miss the real point.
Whatever mix of monetary and fiscal policies Australia chooses, growth will be squeezed by the legacy of yesteryear’s offshore bank borrowing binge.
For instance, there’s no doubt that the high costs of the big, remote mining projects are labour-driven (it costs roughly triple to service an employee on these projects what it would in an established urban district).
For LNG this is a combination of poor planning, capitalist greed and labour gouging. On the other hand, the troubles of iron ore and coal were very much exacerbated when their prices plunged and the dollar did not.
On housing construction, certainly if planning were more liberalised we could respond to any new demand more quickly but would we have more growth? We would possibly have more houses but house prices would be lower. The whole point of liberal planning is that it is an escape valve for any increased housing demand.
That keeps speculation at bay as new demand can be met by supply expansion rather than spruiker claims of favourable conditions for house price appreciation. So it is likely that both income growth, spending and growth generally would be lower (but more sustainable on lower debt).
But the more important point is that the stock and structure of Australian national debt is a pincer in which growth by definition will suffer in the new normal. This argument was why two years ago MacroBusiness forecast poor growth rates for Australia in the long term.
On one half of the pincer, government does not have any choice but to aim for surpluses. This is because the federal budget guarantees Australian banks’ offshore debts, which funds much of the service sector’s growth.
This has been made abundantly clear by ratings agencies. Just last week when it issued its growth downgrades, the RBA released a new document showing that cheaper offshore debt issuance in the past six months has enabled banks to accelerate buy-backs of more expensive government guaranteed bonds:
All well and good. But it underlines the fact that ratings agencies have openly stated that the budget guarantee provides a 2-notch upgrade to bank ratings and federal spending must therefore be kept in good order. Agencies have recently given the government scope to miss the drive for surplus on the rationale that automatic stabilisers should be allowed to work on global weakness.
But as global growth recovers this year, this counter-cyclical dispensation will evaporate and we’ll face tougher choices about fiscal surpluses versus growth.
The other half of the pincer inhibits monetary policy. The lower interest rates get, the greater the likelihood that the banks will need to resume borrowing offshore to fund renewed credit expansion as deposit growth falters and credit demand climbs. Here is what the chart of offshore borrowing for Australian ADI’s looks like:
Note the distinct plateau since the GFC. Neither the Australian Prudential Regulatory Authority (APRA) nor ratings agencies want to see this chart resume its growth (because it increases Australia's risk to shocks) which means growth can only be internally funded. This is basically why credit availability is more difficult that it used to be.
In short, whatever mix of monetary and fiscal policies Australia chooses, growth will be squeezed by the legacy of yesteryear’s offshore bank borrowing binge.
The only way to grow out of this in the long run is via productivity gains and/or external demand. So far that has been gifted to us by China. But to keep growing as the mining boom ends we will need to be competitive at both the fundamental and currency levels.
Basically, Australia’s entire macroeconomic structure is geared towards a dated growth model of borrowing offshore to fund excessive and unearned income inflation. The astute might also observe that this set-up is entrenched also in both political parties.
The Labor Party is constrained by the union power that lives on wage inflation. The Liberal Party is constrained by surplus politics that lives on private debt inflation. So, to be most pointed, Australia's entire political economy stands in the way of better growth.