The Australian economy’s gloomy outlook

Gerard Jackson

Monday 19 April 2010

The Australian economy is doing just fine — if you ignore the parlous state of manufacturing. That manufacturing is the key economic indicator is completely lost on our economic commentariat, the sort of people who seriously argue for the existence of a “two-speed economy”, which is like an obstetrician telling his patients that they are only half pregnant. An economy is not made up of discrete boxes or sectors: it is an integrated whole with a capital structure.

Unfortunately this kind of thinking is completely alien to our economic pundits who still insist in discussing the economy in terms of a few aggregates. This results in such ludicrous comments as that large numbers of “firms are at risk of collapse this year despite the bright economic outlook and strong corporate profits”. How a “bright economic outlook” can include the large-scale collapse of companies beats me. (No wonder more and more businessmen are beginning to treat economics with contempt.)

Although D&B chief executive Christine Christian thinks everything is just dandy “at a macro level” she is apparently baffled by the large number of firms that have been squeezed during the last 18 months by an inability to obtain credit. For those of you who are unacquainted with economics this situation is usually called a credit crunch. Business lending peaked in October 2008 after which it steadily declined, as the following graph shows.

busines lending

In this kind of situation one would expect to see an eventual decline in production. This now appears to be the case. The AIG’s PMI fell by from 53.8 in February to 50.2 in March. For the same period production fell from 55.7 to 49.2, a 6.56 drop. Although it is usually dangerous to make much of a month’s figures this slowdown is nevertheless suggestive of an impending contraction.

In the meantime most of the economic punditry is babbling about the dangers of inflation, a subject they are forever getting wrong. The ubiquitous Peter Jonson (aka Henry Thornton) argues that our “two-speed economy” is facing the danger of wage-push inflation from the mining boom while the danger of demand-pull inflation is being reflected in the housing market and the CPI. Then we have our Treasurer Wayne Swan mindlessly asserting that strong growth is anti-inflationary. All of this is complete rubbish. An expanding money supply is the only source for inflation. There is no other. However, some readers want to know how prices can rise if — as appears to be the case in Australia — the money supply remains flat. They can’t, is the answer.

Two points need to always be borne in mind when dealing with economics: there are no one-to-one relationships and everything takes place through time. This is particularly so of inflation. The next chart shows a massive monetary expansion since March 1996, when Howard won his first general election. Currency increased by 148 per cent, bank deposits by 200 per cent and M1 by 187 per cent.

money supply

This left the economy awash in money. It’s like thoroughly flooding a huge building, it takes some time for it to dry out once the water has been cut off. So even when the money supply slows down or is even stopped it takes a while before the previous monetary expansion works its way through the economy. This why prices continue to rise after the monetary brakes have been applied. Now following chart shows that from April 2007 to June 2009 the money supply continued — albeit erratically — to grow. This expansion annualised out at nearly 10 per cent.

money supply

We can also see from the chart that the money supply fell somewhat after June 2009 and then flattened out as shown by the chart below.

money supply

Although the money supply expanded from April 2007 to June 2009 the erratic growth saw bank deposits level off around the middle of 2008. If the reports are accurate then this is when lending for business started to tighten. Now the Austrians explain that because of the heterogeneous nature of capital and the fact that money is not neutral manufacturing will inevitably hit a credit crunch/profits squeeze even when monetary growth has not slowed. Attempts to overcome this situation with greater and greater monetary injections will result in accelerating inflation.

That the Reserve Bank is utterly clueless on this matter was made clear by its governor — Glenn Stevens — who warned of the danger of a “two-speed” economy emerging even though the economy was in good shape. If Stevens actually knew any capital theory he would never have made such an asinine statement. The same goes for our so-called rightwing economists’ analysis. (What makes this attitude peculiar is that some of these people claim — with the exception of Stevens — to have studied von Hayek. The content of their articles strongly suggests otherwise.)

Austrian capital theory explains that in recession it is the higher stages of production that suffer the most. What is being called two-speed economy is reality an economy that appears to be slowing down significantly. Ordinarily, this would clearly include the mining. However, in the case of Australia a great deal of mining has — for a time — become integrated into the Chinese economy. Therefore, once China’s boom comes to an end our mining industry will contract. In other words, what might be called the “high-speed” part of our economy is in fact part of the Chinese economy.

It is truly regrettable that our rightwing remain steadfast in their refusal to discuss the issues raised in this article. It’s almost as if they are perfectly at ease with having a critic abused rather than debated. At least — from their point of view — it saves them from the embarrassment of having to defend what they write.

Gerard Jackson is Brookesnews’ economics editor


  1. great post as usual!

  2. Australia's financial demise started with the abuse of farmers by government and moved to the destruction of our manufacturing industry. Then onto international treaties to support the UN, the derailment of our constitution with adverse legislation producing the covert political inability for equality of bargaining power between large and small business, from banking to the legal system. Read how we can take back our democratic rights at
    Rachel Emmes

  3. localyokel says

    Prior to the 70s, Australia was a wealthy and stable nation despite having a smaller population. We had competent governments who regulated banks, managed and ran our infrastructure and utilities competently. Our governments did not travel overseas continuously for business. They stayed home and ran the country. The disparity in Australian incomes was fair and realistic.

    GREED BEGAN TO SET INTO OUR COUNTRY DURING THE 70S. Manufacturers began to move off shore to third world countries for more profits instead of being satisfied with the profits they had. Governments began to travel to third world countries for business The arrival of third world immigrants filled the void for a cheap labor market. AUSTRALIANS BEGAN TO BE CLASSIFIED AS RACIST AND LAZY.

    During the 80s, banks were deregulated to have free reign. Our governments were always travelling overseas for business and coming back with innovative ideas. Multiculturalism boomed, immigration accelerated and increased real estate prices. It created a service industry dependant on third world imports. Then there was gradual privatization of infrastructure and utilities to make them more competitive and cheaper, when they already were. The disparity of Australian incomes began to escalate together with a downward spiraling economic climate.


  4. Nicholas Folkes says

    "Although D&B chief executive Christine Christian thinks everything is just dandy “at a macro level” she is apparently baffled by the large number of firms that have been squeezed during the last 18 months by an inability to obtain credit. For those of you who are unacquainted with economics this situation is usually called a credit crunch".

    The inability to obtian credit is due to the squeeze and lack of liquidity in the wholesale market. When the banks are not lending and borrowing large amounts of cash in the interbank or wholesale market then the money released to the retaill market dries up. The Federal Govt. will not guarantee nor safeguard wholesale cash.

    The decline in Australian manufacturing is indeed unfortunate and unsustainable if we are going to maintain our standard of living. In the mid 1970's pre-Lima Declaration Australia had nearly 30% of its workforce in manufacturing but these days it has dropped to 8.5%. Without mining and pastoral exports we would be a very poor third world nation.

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