Australia gets the economic jitters

Despite impressive economic growth and low unemployment, many Australians are worried about crashing commodity prices, an overreliance on China and a property bubble that looks set to burst – but are they being overly pessimistic, asks  MIKE JAKEMAN in Sydney

WHAT WOULD Minister for Finance Michael Noonan give for an economy enjoying its 21st year of consecutive growth, with an unemployment rate of 5 per cent and a fiscal account hurtling back into balance?

How about US treasury secretary Tim Geithner? What would he do for a monetary policy environment that would permit interest rate cuts of hundreds of basis points to stimulate demand?

This ideal, unattainable in the US and Europe, is a reality in Australia, where this week federal treasurer Wayne Swan was able to describe the economy as “simply outstanding”.

Yet to speak to Australians would give the impression that Swan was horribly out of touch – a lone bull in a bear market. On a recent trip to Sydney and Melbourne, I heard nothing about Australia’s growth outperforming that of every other developed nation, but a lot about crashing commodity prices, a soaring Australian dollar, an overreliance on China, a property bubble set to burst and job losses in manufacturing.

Is one of the globe’s most solid economies teetering on the edge of a cliff or are Australians uncomfortable with being world- beaters? Has the lucky country become the anxious one?

What is incontrovertible is that while the economy has been growing quickly – at 3.7 per cent year on year in the 12 months to June, compared with an annual average of 2.6 per cent in 2007- 2011 – the growth has been uneven.

A planned focus on the mining sector has seen the extractive industries expand by 4.9 per cent in the past year, but the manufacturing sector shrink by 3.1 per cent.

The policy response from the centre-left Labor Party government to the weak secondary sector has been tepid. Retaining its union support has necessitated some piecemeal support for struggling car manufacturers, but deep down the government acknowledges that Australia no longer enjoys comparative advantage in producing vehicles and consumer durables.

Its move towards mining was unsentimental and economically sound.

This, however, has not helped to quell the anxious mood. As mining requires lots of capital and relatively few workers, while manufacturing needs little capital but lots of labour, the media has been able to run daily stories on redundant car-plant employees but very few about big hires in the Pilbara.

This has created the impression that the economy is too reliant on the mining sector and, by extension, on those countries that buy its commodity exports.

It also explains why every moderation in Chinese growth is interpreted as a sign of impending doom in Sydney.

For all the distress that the two-speed economy has caused non-mining industries, the government has been able to defend its economic policies by pointing to the rapid rate of income growth, generated by high commodity prices.

However, the Reserve Bank of Australia’s index of commodity prices has been in decline for a year, as a result of weak economic conditions around the world.

In response, large mining firms have cancelled several proposed projects, such as BHP Billiton’s US$30 billion (€23 billion) extension to its Olympic Dam copper and uranium mine, leading resources minister Martin Ferguson to declare the resources boom over.

The sight of the mining sector – the industry for which others have been making way – starting to struggle has only clouded consumer sentiment further.

There are reasons though to believe that Ferguson is wrong. The RBA’s index is falling, but only from record highs. It remains 20 per cent above the average level in 2008-09. Any discussion of the tumbling global price of iron ore has to be understood in this context.

In addition, the value of the resources projects currently under construction in Australia is about A$250 billion (€201 billion), equivalent to almost 20 per cent of GDP. Far from being over, the final, most productive stage of the resources boom is yet to begin.

Economic growth since 2010 has been driven by mining investment, where projects have demanded huge amounts of capital equipment during their construction phases.

In the next few years, investment-led growth will be gradually superseded by export- led growth as more of these projects come on stream.

This means that greater export volumes will offer a cushion against any further fall in export prices. As for prices themselves, the Economist Intelligence Unit forecasts that coal prices will rise in each of the next four years, to reach an all-time high of more than US$120 (€92) a tonne in 2016.

Likewise, prices for iron ore will be higher in 2016 than in 2011, not to mention natural gas, an in-demand clean energy source that constitutes more than 60 per cent of value of resources projects currently under construction. Decade-long gas supply agreements have already been signed with South Korea, India, Japan and China.

And if Ferguson is right? If the current weak global economic environment were to persist, triggering a continued decline in commodity prices, income growth would slow, company profits would weaken, the government’s fiscal position would deteriorate and its ability to stimulate the economy would be compromised.

Even in this scenario, though, current Australian anxiety is not necessarily justified. The coal-fired appreciation of the Australian dollar – which has seen the local currency sit above parity with the US dollar for two years – would go into reverse, strengthening the sectors that have been struggling in the shadow of the mining sector. This is the benefit of a freely floating currency: it can act as a method of self-correction.

Perhaps most telling for Australian consumers, who have demonstrated a bird-like appetite for taking on new debt since the global financial crisis, is that even that most staid of institutions, the central bank, felt compelled to issue a rallying cry earlier this year.

The governor of the Reserve Bank of Australia, Glenn Stevens, said that what Australia needed more than anything else was confidence, “confidence in our capacity to respond to changed circumstances, to respond to new opportunities and to produce goods and services which meet market demands”.

At present, putting a spring back into the step of consumers appears a stiffer task for the authorities than generating rapid economic growth. And what would Michael Noonan give for a problem like that?

Mike Jakeman is the Economist Intelligence Unit’s Australia analyst

PROPERTY MARKET DOWN UNDER: A TALE OF HIGH MORTGAGE DEBT AND FALLING PRICES

LAST WEEK saw a series of reports which suggest Australia's economy is in robust good health.

The week began with the economy celebrating its 21st year of consecutive growth. Then the unemployment rate fell to 5.1 per cent (down from 5.2), the interest rate remained steady at 3.5 per cent and it was announced that GDP grew by 0.6 per cent in the June quarter, and 3.7 per cent for the year.

It is figures such as these which have made Australia's property market one of the most expensive in the world.

But some storm clouds are gathering and Australia could be in for a bumpy ride. The price of iron ore has been in free fall for two months – going from US$135 (€104) a tonne in July to below US$90 – which has led to billions of dollars of mining investment being shelved.

Steve Keen, a professor in economics and finance at the University of Western Sydney, is one of the many who say Australia's property prices are also about to drop further, after falls of 5 per cent last year.

"Overall, the price is definitely not going to be sustained. There is no way that we're going to see house prices taking off again, because to have them really take off what you require is accelerating levels of mortgage debt and you're not going to get that to the level that it happened at before because mortgage debt is now higher than it's ever been in the country's history," he told The Irish Times.

Keen says that more properties will start to be put up for sale as people realise there is not going to be much or any capital gain in hanging on in the market.

"Generally speaking, the trend is going to be downwards. At best they'll go sideways and then fall, or up a bit and then fall, but it won't be straight down, it will fluctuate," he said.

Gerard McCarthy, a Corkman who works as a real estate agent in Sydney, sees it differently. "When I first started selling property 12 years ago, people were telling me the property market was going to crash, " he said.

"But there is still a housing shortage here, unlike back home where they seem to have more houses than people at the moment. With that scenario it is just purely supply and demand."

McCarthy says Australian buyers are being more careful with their money. "I did an auction a month ago where we had 108 inspections on the property, we gave out 19 contracts and eight people registered to bid on the day. What that's saying to me is that there are still plenty of buyers around, but they are a bit more cautious. We are not seeing such buoyant bidding at auction.

"I definitely think prices are holding. They are not increasing, but they are holding their own. The stock market is so volatile that people will look to invest in property again," he said.

John Ryan, from Co Wexford, owned property in both Ireland and England before moving to Australia in 2000. Having been fortunate to buy at the right time, he almost doubled what he paid for those properties before heading Down Under, but it was no preparation for the Australian market.

"The experience was frightening initially because the relative price of property was so expensive compared to everything else. It was nerve-wracking," he said.

"The flip-side of that experience was that when you went into the bank, the amount they would let you borrow was extraordinarily high as well. It was about twice what I could potentially have borrowed in London from just walking in off the street. I didn't even have permanent residency then, but they were willing to give me about six times my salary. I said to them that I couldn't afford to repay six times my salary, but they said, 'Don't worry, that's the way we calculate it here. It's just different in this market'."

Samantha Jinks, from Co Limerick, has had mixed success with property since moving to Sydney in 1999. In that time she has seen a house she bought in the inner west of the city go up significantly in value, but a property she owns at home has lost about 50 per cent of its value.

"I'm in negative equity in Ireland. I got my mortgage just pre-boom," she said.

"Sydney property prices haven't gone up significantly in the last couple of years. It was before that that it went up.

"But another property I bought in northern New South Wales has lost just over half its value. That's in negative equity as well. When the financial crash happened, a lot of people's holiday homes went up for sale and the market in holiday homes just went downhill."

Australian interest rates are higher than in most of the rest of the world. The plus side of that is there is plenty of room to cut if the housing market, as looks increasingly likely, starts to slow.