Against a sovereign wealth fund
AS AUSTRALIA'S mining boom runs apace, a number of leading commentators have advocated the establishment of a sovereign wealth fund to invest the benefits of the boom offshore.
Prominent among these is Professor Warwick McKibbin - until recently a member of the Reserve Bank Board - who argues that such a fund would reduce excess demand in the economy.
Journalist Paul Cleary has also come out in favour in his just-published book, Too Much Luck.
Part of the argument for the fund is that the mining boom has caused an imbalance in our economy. The huge volumes of exports have brought a significant rise in the value of the Australian dollar, reaching a peak of $US1.10 in July this year and now standing at about $US1.04. (Compare these figures with the low of US47.75c in April 2001, or even the low of US81.29c in June 2010.)
The problem with booming mining exports and the subsequent very high exchange rates is that they make other trade-exposed industries less competitive. American tourists find Australia more expensive when the Australian dollar is on a high, while Australian tourists enjoy cheap overseas holidays. Similarly, manufacturers face tough competition, both at home and abroad, as cheap imports flood the country and Australian exports are seen as expensive overseas.
This damage has long been observed and given many titles, best known in Australia in the 1970s as the Gregory effect, named after Professor Bob Gregory.
The danger is that we will wipe out much of our industry, putting all our eggs in the mining industry basket. Should this bust we will be in a very messy situation.
But is a sovereign wealth fund the way to overcome the problems?
Let's assume that we had established such a fund a few years back, say pre-2008. Where might we have invested our sovereign wealth? Perhaps we'd have gone for the good old Celtic Tiger, Ireland. No surer a bet than that, the fund managers might say. There it is roaring along in the new and rising information technology industries.
Or what about Uncle Sam? Can't go wrong there. They've got good strong financial institutions like Lehman Brothers or Bear Stearns; or these terrific new financial products, collateral debt obligations, which guarantee security because they pool residential mortgage obligations from a number of sources and slice them up and reconfigure them, guaranteeing security. And if you have any doubts, look, they've all got AAA credit rating from Moody's and Standard and Poor's. No risk there.
You can see where I'm coming from here. As we now know, investment in many euro or US dollar ventures would have turned out to be very bad deals indeed.
And there are other points to be made too. For virtually the whole of Australia's white settlement history, this country has been capital poor. First we sought investment from Britain, then the United States and then all comers. So why now that we have a potential surplus of investment funds would we choose to invest them overseas?
Perhaps you might think we'd get a guaranteed better return if, for example, we didn't go for a Celtic tiger or a collateralised debt obligation, but instead went for the ''safe'' bet of investment in China or India. Unfortunately there's no sure thing.
The Government is right to impose a Minerals Resource Rent Tax on the booming sector and it is a pity that a tougher version is not now in place. And it's equally clear that the funds should be invested in Australia.
The country is crying out for infrastructure development. The major cities of Sydney, Melbourne and Brisbane desperately need improved mass transit systems. While the Building the Education Revolution stimulus project has been criticised for being more expensive than it could have been, we now have school facilities to show for the money. Similarly, funds spend on a dual carriageway for the Pacific Highway will produce bypasses and bridges that will be here to stay.
If the Government requires a marquee project, the very fast Brisbane, Sydney, Canberra, Melbourne rail line is a project to inspire. Even if such a project offered lower economic returns than a similar investment in China, at the end of the day we would still have a railway line to show for our money. With the steel industry suffering as it is from the high dollar, it could benefit significantly from the supply of the rail lines.
There is another point to be made against the establishment of a sovereign wealth fund. Who is to determine when and why it should be raided?
Much of the boasts of surpluses in recent years have come from the selling-off of assets previously owned by the Australian people as a whole - electricity generators, airlines, banks, and of course Telstra.
In some cases there may be long-term efficiency benefits from the sales, but the most immediate result is to boost the coffers of the government of the day.
There would be nothing to stop an unscrupulous government in the future raiding a sovereign wealth fund and selling up the assets to buy votes by generously boosting payments on one service or another. It doesn't matter what you put in the legislation creating the fund, any government of the future which controls both houses can amend or repeal any legislation.
So let's see the hoped-for surplus invested in long-term infrastructure, education, research and development in Australia.