Foreign debt surges but does anyone care? UPDATE



The release of the national accounts reveals that net foreign debt reached 54.0% of GDP in the September quarter. This is the second highest level on record for the foreign debt to GDP ratio (the peak was 55.6% of GDP in the December quarter 2008). It doesn’t seem to be phasing anyone, which is probably the correct approach, but it is a biggish level.

Ratings agency Fitch noted in November 2011 that “The country’s net external debt … made Australia relatively sensitive to external financing shocks, compared with its peers”.  At that time, net foreign debt was 53.2%.

Moody’s noted earlier this year that “the most important risk remains the economy’s reliance on external capital inflows” and that “the country has consistently run current account deficits and built up one of the largest negative net international investment positions among the advanced economies”.  Importantly, Moody’s “outlook is for Australia’s reliance on foreign funds to decrease”.

This isn’t happening.

A negative watch or downgrade for Australia seems a remote possibility, but many of the things that supported the triple-A rating with stable outlook are starting to turn the wrong way.

SK:   4 December 2013

From yesterday… 3 December 2013

One of the least reported bits of news in today’s economic data and policy flurry will be the lift in net foreign debt to $829.1 billion in the September quarter. This is approximately 54.5% of GDP (the September quarter GDP data are not released until tomorrow).

Net foreign debt rose about $37 billion in the quarter to be $83 billion higher than the level a year ago. It is certainly a record in dollar terms and as a share of GDP, it is close to a record high.

I generally don’t get too fussed about net foreign debt when the overwhelming majority of it is driven by the private sector, as Australia’s foreign debt currently is. But it can be a different story for the credit ratings agencies and some global investors.

In the olden days, a lift in net foreign debt of the scale seen in the September quarter would have sparked concern in markets – the Australian dollar would have been sold and there would be all sorts of pontificating about Australia living beyond its means and being in hock to the rest of the world.

Thankfully that lame debate does not happen now.  At least I don’t think it does.

Maybe the ratings agencies, already antsy about the government’s debt ceiling issue, may look to foreign debt as a further factor to give is concern about the outlook for Australia.  Maybe foreign investors, already lightening their holdings of Australia will continue to do so and the Aussie dollar will fall sharply.

Foreign debt could well come back onto the radar as an important issue if it keeps rising at the pace seen over the past year or so.


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Debt crisis, what crisis?


Treasurer Joe Hockey is playing a silly game with the debt ceiling. If his refusal to agree to a lift in the ceiling to $400 billion causes market instability, a credit rating downgrade (or negative outlook) or damages confidence in the economy, he will only have himself to blame.

Gross government debt issued under the Commonwealth Inscribed Stock Act 1911 and therefore subject to the so-called debt ceiling, will increase to $298.4 billion on Friday, 6 December.

The government borrowing program indicates that it will break above $300 billion during next week. There is an obvious problem, or potential problem, given that the debt ceiling, under the Act, is currently set at $300.0 billion.

Something has to be done very soon to ensure there is no US style debt problem here in Australia which not only causes market ructions, but risks damaging consumer and business confidence.

The Opposition has given Treasurer Joe Hockey the solution to the issue, offering to increase the debt ceiling to a record high $400 billion. The Greens, who hold the balance of power in the Senate, agree with the approach. This $400 billion should be enough to cover the government’s financial commitments for at least 18 months, possibly longer. Mr Hockey will have two budgets to frame within that time.

Mr Hockey has indicated that the ratings agencies are already ringing him about the debt ceiling issue. If this does not engender some concern or outright fear about Australia’s AAA rating being put on negative watch, I am not sure what will.

International investors have already been reducing their holdings of Australian dollars and bonds in the prospect of political games getting int he way of sensible economic management. At the moment, it is more a trickle but one wrong step by Mr Hockey could see this turn into a flood.

Mr Hockey can head off any problems by agreeing to increase the limit to $400 billion and move on to other important issues such as framing the Coalition’s fiscal strategy for the next few years.

If the stand off continues and there are market and economic problems that result, Mr Hockey will only have himself to blame for putting petty politics over pudent, sensible economic management.


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There’s no interest in education


The Abbott government cannot find the $1.2 billion needed to roll out the Gonski education incentives to all states over the next four years.

The changes to the education system that are being abandoned by Mr Abbott are damaging to otherwise good economic policy. Educational attainment and skills are long run drivers of productivity and have the added benefit of being equitable and uplifting to the disadvantaged.

The folly is that the $1.2 billion that cannot be found to put to education is almost exactly the same amount that Treasurer Joe Hockey has ear-marked for the interest cost for giving the RBA $8.8 billion for reserves that it did not ask for and does not urgently need.

Yes, the interest cost alone is $1.2 billion over 4 years.

Here’s how we get that figure. Take the $8.8 billion of extra government spending that is for the RBA reserve fund, multiply it by the likely borrowing cost of the government at, say, 4.0% (the 5 year government bond yield is around 3.5% while the 10 year yield is around 4.2%) and there you have $352 million in interest per annum, give or take a bit. Multiply that by 4 years and there you have the $1.2 billion.

The Abbott government is choosing to borrow money with an interest cost of $1.2 billion over four years to give it to the RBA and at the same time, has squibbed on $1.2 billion of education funding.

Weird priorities.

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Barriers and Incentives to Labour Force Participation


The ABS has released a terrific data set – Barriers and Incentives to Labour Force Participation. The link is here:  http://www.abs.gov.au/ausstats/abs@.nsf/mf/6239.0?OpenDocument

There is a stack of interesting information in the release, but something that caught my eye was the overview of those of working age who were not in the labour force and the number of those who were actively looking for work.

Here is what the ABS found:

  • Of the 5,459,600 people not in the labour force, only 1,212,800 (22%) wanted a paid job. In other words, there are 4,246,800 with no interest, intention or ability to enter the paid workforce.
  • Of the 1,212,800 who wanted a paid job, some 847,900 were available to start work, yet only 30,300 actively looked for work.

This means that only 5.5% of those people not in the labour force were actually looking for a job.

This means that next time you hear about a drop in the participation rate being linked to disillusioned job seekers leaving the labour market, turn away, close that email, delete that thought because it is not supported by the facts.

As a final note, of the 4,246,800 of working age not on the labour force:

  • 965,200 said they had no need to work;
  • 1,396,900 were permanently retired;
  • 17,200 said their welfare/pension may be affected;
  • 783,600 had a long-term sickness or disability;
  • 215,000 were studying;
  • 367,900 were caring for children;
  • 215,800 were caring for ill, disabled elderly person;
  • 46,100 were pregnant; and 58,700 said they were undertaking home duties.

There you go.

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Keating and the recession we had to have


This article was first published with Business Spectator on 29 November 2012:

Link here: http://www.businessspectator.com.au/article/2012/11/29/resources-and-energy/poor-white-trash-becomes-national-treasure

Poor white trash becomes national treasure

It was 22 years ago today that Treasurer Paul Keating said Australia is in recession and that “this is a recession that Australia had to have”. He was commenting on the national accounts data that had been released earlier that day, which showed a thumping 1.6 per cent fall in GDP in the September quarter of 1990.

Keating was right.

One only has to look at the economic performance of Australia that has followed the nasty recession of the early 1990s to see how it cleansed the economy of inflation, high interest rates, stagnant real wages and asset price bubbles. It is unlikely that this would have happened without the recession.

Singapore’s President Lee Kuan Yew had made waves about a decade before the recession when he said that Australia was on track to become “the poor white trash of Asia”. Among the reasons Lee could have cited were industry featherbedding, automatic wage indexation, high tariffs, a lack of competition, tax inefficiencies and a slothful business culture in what was a harsh but probably fair assessment.

To move from trash to treasure, Australia not only needed to implement a raft of policy reforms, the economy needed to have a final purge of the structural rigidness and inefficiencies that had held Australia back during the 1960s, 1970s and early 1980s.

The recession fostered that purge.

The early 1990s recession saw inflation fall sharply. After a couple of years of low inflation, RBA Governor Bernie Fraser saw an opportunity for Australia to join the low-inflation countries and in 1993, he started to articulate an inflation target of 2 to 3 per cent. That target is still the prime focus for the RBA today.

In terms of policy success, annual inflation has averaged 2.5 per cent over the last 20 years – slap bang in the middle of the target range. In the 20 years up to the early 1990s, the average annual inflation rate was a corrosive 9.2 per cent.

The low inflation environment was a vital legacy of the recession as it altered investment incentives, saw a structural lowering in interest rates and underscored real wage increases.

In terms of interest rates, the cash rate set by the RBA has not been above 7.5 per cent since 1992 and has averaged 5.3 per cent over those two decades. In the period from 1980 to 1991, the interbank interest rate averaged a bruising 13.8 per cent and spent many years above 15 per cent.

It is arguable that the early 1990 recession-induced smashing of inflation lowered average interest rates by 8.5 percentage points. We should all be grateful for that.

The destructive power of high inflation meant that real wages fell in every year from 1985 to the start of the 1990 recession. To be sure, the structural change in the labour market, brought about by the policy consensus that came with the ground breaking prices and incomes accord, was a critical factor holding back wage gains, but somewhat perversely, in the near two decades after the recession, real wages have risen strongly in all but three and a half years.

Perversely because the recession drove the unemployment rate to 11 per cent, which might normally be a factor dampening wage claims. Rather than that, it furthered enterprise bargaining, wage rises were increasingly linked to productivity and there was some long overdue flexibility given to the labour market.

In the decade prior to the recession, the unemployment rate had only three months below 6 per cent and it in fact averaged 8.1 per cent, not counting three years during and immediately after the recession where the unemployment was above 10 per cent.

In the aftermath of that recession, the unemployment rate ratcheted down. The fact that the last time the unemployment rate reached 8 per cent was in January 1998 is clear evidence of this; it has not been above 7 per cent since 1999 and for every month since July 2003, the unemployment rate has been below 6 per cent. In the last decade, the unemployment rate has averaged a world beating 5.1 per cent.

The decade prior to the early 1990s recession was truly a miserable economic picture of high inflation, high unemployment and falling wages. Asset prices were surging, distorting investment away from productive uses and while many structurally important policy changes had been made in the prior few years, an active ingredient was needed to make them work.

This was the recession.

And the last word on the consequences of the recession should probably go to Lee. During a visit to Australia in 2007, in reference to his “poor white trash” comments a quarter of a century earlier, he said: “There are some words sometimes thrown in the heat of the argument which perhaps at that time was warranted. You have changed.”

Indeed Australia has changed. Its economy is the envy of the world, Australians have never been richer in absolute terms and relative to the rest of the world. These are the legacies of the recession that Australia had to have.



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Hockey putting politics ahead of economic management


As Shadow Treasurer, Mr Hockey voted against the increase in the debt ceiling despite the fact that the global financial crisis was smashing the budget, crunching confidence in the banking sector and funding was needed to avoid Australia sliding into recession.

Fast forward to now where a small on-going budget deficit and some policy decisions from the new government require the debt ceiling to rise again.

A grown up Treasurer would have approached the looming breach of the current $300 billion debt ceiling with full knowledge that a $100 billion increase would easily cover the matter for 18 months or more.

Indeed, if there is some fiscal tightening in the budget next year or the economic parameters surprise on the upside, a $400 billion ceiling might suffice for many, many years to come.

A grown up Treasurer would have noted the risks of playing games with the debt ceiling from the debacle in the US over recent years. To avoid any chance of this mess occurring in Australia, they would have proposed an increase to $400 billion which the Parliament would have passed with out fuss, bother or any potential jolt to confidence and financial market stability.

But not Mr Hockey.

Always keen to put politics ahead of economic management as he showed when he voted against previous plans to raise the ceiling, Mr Hockey wanted to do two things in rummaging for a debt ceiling of $500 billion:

  •  Try to sheet home the debt to the previous government and then
  • make sure that the ceiling was so high it was unlikely to be reached until after the 2016 election, if ever.

To be sure, in another year or two, if the debt ceiling needs to rise to $500 billion or $600 billion for that matter, Mr Hockey can bring the new budget numbers to Parliament and it would undoubtedly pass the legislation needed to meet this new debt level.

Unless Mr Hockey comes out and quickly accepts that economic management wins out over politics and he advocates a more modest $400 billion ceiling, there is a real risk that he will undermine the post-election lift in confidence and global investor sentiment towards Australia.

It will be interesting to see which course Mr Hockey takes.


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Direct action poles are duds, including on climate change

Below is an article I wrote for Business Spectator on 29 October 2013.

The link to the article is here:


The topsy turvy approach to climate change

The crux of Tony Abbott’s Direct Action policy on climate change is having the government pay the worst polluters a fee as an inducement for them to reduce or stop their carbon emissions.

It is an odd policy, to be sure, and without any precedent – which means it is risky in terms of cost and effectiveness.

As Fairfax Media revealed yesterday, only 5.5 per cent of the 35 economists surveyed were in favour of the Direct Action approach to reducing carbon emissions versus 86 per cent in favour of a carbon price or emissions trading system. The only surprise in these findings was that 5.5 per cent (two respondents) were in favour of government payments to polluters.

The Direct Action policy favoured by the Abbott government throws up some interesting potential applications if indeed the economists are wrong and the government subsidy model works.

Let’s look at drink driving and the dreadful carnage, damage, financial cost and grief that drink drivers impose on society.

Why not have the government work out who the worst drink drivers are – say, choosing those with two or more offences – and through a direct action plan, give these offenders money not to drink and drive ever again. Would a cash flow of, say, $200 a month for as long as they didn’t get caught drink driving be enough?

If they never drink drive again, these sorts of payments, it could probably be argued, would be worth it. But what if, after giving them the money, whatever amount it is, they get back in their car after a night on the turps and offend again? Would the government get its money back? It’s unlikely and the policy will have failed.

And what if someone not on the list all of a sudden offends for the first time? Do they then qualify for the government handout? Would there actually be an incentive to offend so that you could qualify for the payment?

In another example, what about having the government pay fat and obese people some cash to lose weight? The benefits from a healthier society would be huge. Interestingly, there have been studies on this cash-for-fat policy that suggest it works – at least in the short run. When given cash that is linked to weight loss and then maintaining a lower weight, people do respond. Many heavy people do drop several kilograms. The problem is that this is expensive and lasts only for the duration of the scheme – as soon as the money stops, the studies find that weight goes back on and the problem is not fixed.

And what of people with a healthy weight or those that don’t drink and drive? It’s a bit unfair that the ‘offenders’ get money for their ways while the responsible ones get nothing.

Paying polluters to stop fouling the air rather than having them pay per tonne of carbon they emit is incongruous.

Economists know that price signals work. It is the central tenet of monetary policy, for example, where high interest rates discourage borrowing and encouraging savings to the point where the economy slows, while low interest rates have the opposite effect.

A tax on tobacco, as opposed to paying smokers to stop smoking, has worked wonders with smoking rates dropping from around 40 per cent of adults in the 1960s, to 24.2 per cent in 2001 and 17.4 per cent in 2011-12.

It is also a superior economic outcome to have the drunkard realise that it is better for them to drink in moderation or catch a taxi or to buy less alcohol because of a tax, and to have the overweight person switch from chips and donuts to tabouli and grilled fish without paying them to do so.

There is no guarantee the payment to polluters under Direct Action will work. And what will happen when the money allocated by the government is exhausted, or those polluters falling just below the threshold of a subsidy miss out?

The price on carbon, which has been in place since July 1, 2012, has resulted in a surge of clean energy production (albeit from a low base) and a drop in per capita consumption of electricity (albeit from a high base). It is working and this, after all, is what both side of politics are trying to achieve with their respective policies.

According to the economics profession in Australia, there seems to be little chance that Direct Action will work to reduce carbon emissions more efficiently or more cheaply than the current policy.

When a piece of public policy is working and there is no material impact on the real economy, the best thing to do is to keep it. This seems to be the case with the carbon price and it is especially the case when the alternative policy, which has the same objective, is obviously expensive and may not work.

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A new web page coming soon

I have been slack updating these pages – a range of issues have conspired to bring that about.

But I am in the process of revamping my web pages, so stay tuned.

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Global stocks surge – Tony Abbott will be PM in three months


Media coverage of financial markets is always subject to headline grabbers and fantasy explanations. Amid the high quality news and analysis, a few corkers occasionally pop up.

The one today is in the Australian Financial Review where there is a story that suggests that the jump in bank share prices over the last few days is due to “the growing realisation that Tony Abbott will be PM within three months”.

This is flawed on several counts and here is why.

To be sure, bank share prices have risen strongly in the last few days with increases of 3 and 5 per cent or so since Wednesday morning. This was just as the political ructions in Canberra were unfolding at a rapid pace.

What those ructions delivered was a change in Prime Minister and quite importantly, a significant change in the probability that Mr Abbott will NOT be PM in three months.

The betting markets which had Labor at as much as $8.00 and the Coalition $1.07 to win the election less than a week ago, now have Labor at $4.25 and the Coalition $1.20. While the Coalition is still likely to win the election, the odds of that happening are now less than just a couple of days ago.

This also shows up with the Roy Morgan poll which noted a 5 point lift to Labor in the immediate aftermath of the Rudd return to PM to the point where it has the Coalition now on 50.5 per cent and Labor on 49.5 per cent and due to the margin of error of that poll, Morgan concluded that it is “too close to call”.

Another factor may have also supported bank share prices. How about a rebound in global stock markets?

The Dow Jones Industrial average, for example, has risen nearly 3 per cent in recent days, not counting the 0.8 per cent gain this morning. Larger rises have been registered in Europe and Japan.

I wonder if the “growing realisation that Tony Abbott will be PM” has fuelled this lift in investor confidence in the US and elsewhere in the world where markets have rebounded?

It all goes to show, be careful what you read and beware spruikers peddling their snake oil.


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Gross government debt under the Howard Government


The Howard government went to capital markets on no fewer than 400 occasions to borrow money.

Between March 1996 and November 2007, there were 135 lines of bonds that were taken to market in various bond tenders which were issued with a face value of $51 billion, while there were over 280 T-Note tenders with a face value of over $220 billion.

Indeed, in the three months before the November 2007 election, the Howard government went to the bond market on 8 separate occasions to borrow money with a series of bond tenders. Even during the election campaign, just 11 days from polling day, it borrowed an additional $300 million in bond tender number 236. In the final term of the Howard government, from October 2004 to November 2007, there were 43 bond tenders or times the government borrowed money.

This was prudent financial management that rightly drew no political criticism although there were howls of protest from the capital markets that debt was too low and the lack of liquidity was scaring away global investors. That argument has been made before and I will not go to that point here.

The lowest level the amount of gross government debt fell to under the Howard government was $47 billion.

Which means that for the likes of Liberal Party Deputy Leader Julie Bishop and Senator Cormann to refer to zero gross debt under the Howard government when trying to compare it to whatever their estimate of gross debt is now, is plainly wrong.

The Howard government never eliminated gross government, and never once since Federation has any government eliminated gross government debt. Nor should it and no government ever will.

Any effort to compare net debt, which did fall below zero under the Howard government, with some made up and as yet unsubstantiated guess for gross debt of “$400 billion” under the current government is a contempable distortion and should be called out as such.



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