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  • PD Jonson

Sunday Sanity Break, 7 October 2018 - the Coming Economic Crunch

And policies to protect the Australian economy.

The US dollar is roaring, Trump-like. The Aussie dollar is falling and may take a big tumble before long. This would not be catastrophic as the 'Aussie' (as our currency is denoted in international markets) has been fighting above its weight class for years. The answer, incidentally, is a tax on capital inflow but that is too radical for the current generation of policy makers.

Eventually, however, the Aussie will find a more appropriate level, at perhaps 60 % of the mighty US currency. That will help our exporters and inhibit importers provided costs and therefore inflation does not rise to remove the benefit of a lower 'real' exchange rate.

Higher US interest rates are helping produce the decline of the Aussie dollar and some folk expect a much lower Aussie exchange rate if the RBA continues to sit on its collective hands. (Easy work if you can get it!)

Mrs T asked me for a 5 year view today. This is hard work and my standard approach is to construct scenarios ('guesses' I hear you cry!) and apply odds on each scenario. My 50 % guess is as follows: A year or two of good growth both globally and in Australia with some rise in real wages, at last. Then the continued growth of credit and associated debt catches up with major countries, including Australia, and the resulting recession could be worse than during the GFC, especially for Australia as we are unlikely to have a mining boom to tide us over. Please refer to News + Views in Right hand column of Henry's home page.

My 30 % guess is this: After a couple of good years will come a really horrific crash, with widespread and damaging misery in developed nations, including Australia. I expect credit tightening in China that will slow China's growth but not cause it to experience negative growth. (A lot depends on how President Trump's trade war works out.) Developed nations have introduced 'reforms' in financial markets. These 'reforms' reduce risks of great financial disorder but do not eliminate them. Certainly not enough to make avoidance of a post-GFC meltdown a sure thing. One assumes US Fed currency swaps may be used again to bail out weaker developed nations, and Quantitative Easing will be used by major nations to reduce risks in their own financial backyards.

Cutting interest rates will be less effective in the next downturn because interest rates are likely to be still relatively low when (and if) my 30 % guess comes to pass. With far higher debt than present high levels, fiscal expansion will be limited, certainly less than during the GFC, and suffering of people on welfare or low paid jobs, and with higher paid people at great risk of retrenchment, the outlook for all but the super-rich will be grim. In Australia, the 'merely comfortable' cohort will greatly resent paying Minister Kelly's tax on their life savings, and (if Labor wins the next election) Bill Shorten's raft of new taxes and hikes in old taxes.

Of course my 20 % guess of continued American boom floating all the boats is possible. The trouble with this scenario is that it can prolong, but not eliminate, the next downturn. With far higher debt mountains by 2023, life will be grim for many people in the previously 'comfortable' class.

My 20 % guess is continued boom lead by a strongly resurgent USA and a triumphant President Trump. Then will come the inevitable big correction. As a rough rule, the longer a boom goes on and the higher go prices of assets the greater the subsequent bust. In this case, double all the nasty outcomes canvassed in the previous two paragraphs and, if you are a pessimist, add some. Australia's real rate of unemployment plus its real rate of underemployment is currently around 20 % of the real workforce. (Reference Economic Snippets for September.) In the previous deep recession in 1990-91 the official rate of unemployment reached 11 % and if anyone had been measuring the real rate it would have been around twice this figure. Add 10 -15 % of the workforce for those people who need more paid work to survive and there could easily be 35 % of the workforce unemployed or underemployed in the inevitable next big economic downturn.

Recently in a dinner conversation is a fine dining room (the good times continuing) a companion said of Henry's profession: 'You economists have predicted 13 of the past 3 recessions. You are professional pessimists'. This is a slight exaggeration, but has some relevance. The riposte, that I failed to deliver (mental processes being slowed by the fermented juice of the grape), was that forecasting a recession will head it off if policy people - Ministers like Scomo and JoFry and central bankers like Dr Lowe, take note and follow the advice of the best economists in the land.

Readers may think my scenarios each call for different policies, but at this time of uncertainty this is not the case. The overwhelming need is for policies to provide room to ameliorate the inevitable downturn that is coming. The aim should be to create room to help ease the pain of the downturn when it comes. There are four important policies, and also needed is a strategy to convince the public such policies are necessary.

* Policy 1. Create and grow a substantial budget surplus while the good times roll, as they are, and have been in Australia for several years.

* Policy 2. Raise cash interest rates at least to a 'normal' (=neutral) level at the same time as creating fiscal surpluses.

* Policy 3. Embark on a set of policy reforms to increase industrial productivity to strengthen the economy and to enable wage increases without adding to inflation.

* Policy 4. Use the results of the Royal Commission into financial matters to convince bankers to behave honestly with their customers and provide real competition in financial services.

Of course there are other sectors where competition and honesty would be useful and part of the response to the Royal Commission should be to encourage regulators to investigate and penalise companies who dishonestly gouge customers. There is a need for significant work in this area, work that should begin the day the final report of the current Royal Commission is delivered to the government. Until ethical corporate behaviour is again normalised, corporate regulators will need to be very tough on companies that break laws.

Such a program has to be sold, and this requires specialist skills in communication. What is needed is to assemble an elite group of economists and public figures to work up a plan of attack and provide material that explains why there is a real need for a set of policies best described as 'necessarily tough'. To give these policies some real heft, ministers and senior public officials should take cuts in their remuneration and 'extras', at least until the common people (known as 'the punters' in Canberra argot) accept that their pain is being shared. The prize of tough policies now will be a far less damaging economy when the inevitable next global crisis hits Australia.

Readers may say this is economic moonshine. In 1986 this writer took a similarly radical plan to Treasurer Keating. His initial response was to label the plan far worse than moonshine and to say rude things about the principal author. But time and discussion, and a very bad economic number, convinced Treasurer Keating to change economic policies, and his actions at least staved off the next recession. Lack of follow through, however, failed to prevent the very bad recession of 1990/91, but the 1986 Banana Republic policies almost certainly prevented it from being far worse.

It can be done, gentle readers, but action is needed now, and a lot of work will be required to convince our political and central banking leaders.


Here is major extract from David Kemp's first book in a series of five, called The Land of Dreams. It addresses Australia's culture and history with great flair and insight.

In bookshops shortly.

Fiona Prior had the rare privilege to celebrate a 100th birthday. She notes a few changes since her lovely friend was born. More here.

Sporting life

A relatively inexperienced men's cricket team leaves about now for the Middle East to play two tests against a strong Pakistan team. We wish the players well and look to our batters to cope with the opposition bowlers and our bowlers to bamboozle their batters.

The women's team beat New Zealand 3-zip and the final win included one of the best cricket catches I have seen.

This weekend has seen our of the great combacks of Australian Rugby. Down 31-3 at half time, the team, boosted by a set of new front row forwards, performed a near miracle to beat the Argentine team 45-34. Let us all hope this represents the long awaited resurrection of Aussie Rugby.

The next day the All Blacks scored two tries in the closing minutes to beat the South Efricans.

Image of the week - Banana Republic, as it could have been

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