Wednesday, August 05, 2009

Belshaw’s World: Corrugations, pot holes and the Australian economy

Note to readers: This post appeared as a column in the Armidale Express on Wednesday 29 July 2009. I am repeating the columns here with a lag because the Express columns are not on line. You can see all the columns by clicking here.

I have mentioned Gordon Smith’s great photo bog (http://las.new-england.net.au/) before. It really is a delight, especially for someone interested in Armidale or the Tablelands.

Gordon is presently running daily photos taken on his outback trip. At the time of writing, his most recent photo was simply called corrugations. It shows an outback road marked by corrugations across the road.

When I learned to drive, many of the roads around Armidale were dirt. I quickly learned that the only way to overcome the vehicle shudder created by corrugations was to drive faster.

This worked well so long as there were no pot holes. Pot holes required slower driving. Any road combining corrugations with pot holes guaranteed a bad trip.

I actually like dirt roads, although I don’t miss the clinging clouds of dust that used to rise on the more heavily travelled roads, nor do I miss the stones thrown up. Still, you actually have to dive on dirt roads.

My family, modern people that they are, regards my liking of dirt roads as strange. Give them a modern highway any time!

The Australian economy is a bit like all this just at present. The immediate stimulus packages have helped us maintain a degree of economic speed, thus minimising the impact of the corrugations, but can we avoid the coming pot holes?

Back in early February in Access Economics feeds the herd instinct, I suggested that Australia’s best known economic consultancy had got things wrong and that, worse, its very negative prognostications on Australia’s economic outlook were feeding a negative herd instinct.

I wrote the column against a background of analysis that I had done looking at the underlying economic data. I simply could not make Access’s forecasts stack up with that analysis.

Well, Access did get it wrong. The Australian economy has done far better than they allowed, far closer to my then conclusions.

Access now admits that their forecasts were incorrect. However, Access’s Chris Richardson is still expressing certain cautions about the future. In this case, I agree that we do need to be cautious.

Well, what are the potential pot holes?

The first is China.

It is not clear to me that the present stimulus driven Chinese growth is sustainable. The huge expansion in money supply and official bank lending has fed what appear to be asset bubbles in real estate and now on the stock exchange. There is a risk that China will, like Japan in the 1990s, hit a stagnation wall as the bubbles unwind. This would be bad news for all of us.

The second linked potential pot hole is the Australian balance of trade on goods and services. After a long period of deficit, this went positive last year just when the country needed it most. Talk about good fortune!

The balance of trade is now back in the red.

To a degree this was inevitable since the maintenance of economic activity of itself implied continuing imports at a time exports were going to come under some pressure because of the global downturn. Should pressure on exports become too great, and we do depend here to a considerable degree on China, then our balance of trade could move from support to pot hole.

The third potential pot hole is inflation.

The headlines on Australia’s most recent inflation numbers screamed the lowest inflation rate for years. However, if you drop down to the detail, things look a little different.

The things that went down included financial services and insurance and fuel. The big increases, all above the Reserve Bank's target inflation band, were education, health, housing, food and alcohol and tobaccos. What can we say about this?

Well, transportation is strongly influenced by fuel costs, so if fuel prices rise as the global economy starts to rise again, we can expect this item to rise. Insurance and financial services costs are strongly influenced by interest rates, and will rise with interest rates.

On the other side of the ledger, the majority of high rise items are in non-import competing sectors and will rise as the Australian economy starts to expand. Rents are already rising. In addition, there are built-in upward factors in education and health.

So increased inflation is a real risk, and with it comes increased interest rates.

In saying all this, I have not joined the negative crowd. I just think that we need to manage carefully at personal, business and national levels.

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