Australia's economy: lucky country, unlucky leadership

The great enemy of the truth is very often not the lie – deliberate, contrived and dishonest – but the myth – persistent, persuasive, and unrealistic.

John F. Kennedy

Perhaps our strongest political myth is the notion that our prosperity results from the Coalition Government’s sound economic management. In the Newspoll response to the question “which one of the [political parties] do you think would best handle the economy”, 54 percent of respondents nominate the Coalition, while only 22 percent nominate Labor.

Some basic economic indicators – inflation, unemployment and growth in GDP – have been very positive over the last eleven years. But is this due to sound policies, and do these indicators tell the whole story?

On the first question, there are three significant factors for which the present government can claim no credit:

• the delayed effects of the economic reforms of the Hawke/Keating administration, including reductions in tariff and related protection, financial market deregulation, and a general opening of the economy to domestic and global competition;
• the timing of the business cycle, the government having been elected during a cyclical upswing;
• the growth of China, resulting in demand for Australian raw materials and providing a source of low-cost imports, thus keeping household inflation in check.

In fact, the Howard Government has done little on economic reform. Its only real achievements have been to restructure the indirect tax system and to increase the Reserve Bank’s independence. It also cites its industrial relations changes as 'reform', but the most likely effect of the changes, in lowering real wages, will be to reduce labour productivity.

These modest reforms have been more than offset by some damaging economic policies, the worst of which was the change in capital gains taxation, which has encouraged speculation and short-term profit-taking at the expense of long-term productive investment, and which has contributed to high housing price inflation. Other shortcomings include a failure to use strong public revenues (which naturally rise during a positive business cycle) to invest in education, physical infrastructure and environmental restoration. Instead of being invested in our future prosperity these revenues have been frittered away on tax cuts, middle class welfare, and extraordinary generosity to wealthy retirees.

In short, much of our prosperity is an illusion – a result of spending down our inherited assets and borrowing against the future.

This leads us to the second question on the coverage of these key statistics. Unsurprisingly, governments only quote the indicators that stack up in their favour. Not-so-positive indicators include:

• a chronic current account deficit – even when we enjoy high demand for our mineral commodities we are running a huge trade and services deficit with the rest of the world;
• rising household debt – our 'prosperity' is being financed on the never-never, but it’s an inexorable law of economics that we cannot keep spending more than we are earning indefinitely;
• high interest rates – our rates are high in comparison with other countries, and in real terms (the difference between interest rates and inflation) they are not much lower than they were in the 1980s. High interest rates contribute to a high exchange rate, to the detriment of our agricultural and manufacturing industries;
• inflation – the consumer price index has been kept low by reducing tariffs and low-cost Chinese imports, masking high rises in other prices, but these benign effects will soon be exhausted. And, for technical reasons, our inflation measures do not really reflect our extraordinary housing price inflation;
• economic growth – but didn’t we say GDP growth has been high? GDP figures omit some important costs. It doesn’t measure the depletion of our mineral, water, soil and forest resources. (Keynes and others who developed the systems of national accounts never intended them to be used as measures of prosperity.);
• productivity – after the boost of information technology, labour productivity is no longer growing, particularly when measured per hour worked. (If we measure productivity per worker we may be measuring the effect of longer hours, which means we are working harder, not smarter.);
• distribution – average incomes have risen, but the distribution of income and wealth has widened. At the top end many are prospering from the efforts of others, and at the bottom end people are kept out of grinding poverty only through social security payments. The practice of using welfare to compensate for the incapacity of our economy to provide well-paid employment is unsustainable in the long run. Also, the experience of economic unfairness is corrosive; the realization that others benefit disproportionately from one’s effort destroys incentives to work, to innovate and to take risks.

In many respects our economy today is similar to our economy of the 1960s and early 1970s, when we similarly enjoyed low inflation, high low unemployment and high economic growth. We were too busy enjoying our prosperity to listen to Donald Horne’s warning that the luck of the 'lucky country' may run out, or to the warnings of the Industries Assistance Commission, which pointed out that our economy was structurally weak. That is, our economy had not modernised, and lacked the resilience to cope with possible external shocks. Those external shocks came in the early seventies, as the Bretton Woods exchange-rate arrangements fell apart and as the first oil price rise occurred. We suffered a severe and long-lasting downturn.

The failure of the government to address the weaknesses in our economic structure is leaving us vulnerable to external shocks, as we were in the 1960s. There is complacency and smugness in government ranks – they believe their own myth. Like Lord Angelo, the deputy to the Duke of Vienna in Measure for Measure, our Treasurer Peter Costello is 'most ignorant of what he’s most assured', even when the head of his own department is warning about the consequences of sloppy economic management. Another recent warning has come from The Economist (31 March 2007), in its article 'The Australian Economy: The Lucky Country may not be so for much longer', pointing out the weaknesses in our economic structure, which is more akin to that of an oil-rich sheikdom than a modern industrialized nation. And the IMF has recently warned that our supply constraints carry inflationary risks.

To his credit, Kevin Rudd is questioning the myth, mainly through asking us to reflect on where we will be after the mineral boom. In the 2004 campaign Labor deliberately avoided tackling the government on economic management; on economic matters it froze like a rabbit in a spotlight. Demolishing the myth is difficult while we are all out buying new flat screen televisions and foreign travel (on our credit cards), but Labor will have succeeded when the electorate understands that the present Government’s neglect of economic structure is the path to economic misery.