The following article was published in the Australian Broker Magazine on 5 April 2015 and its relevance continues.
I’m often asked about the economy and what is happening. My simple answer is: “Australia is going through a 25 year re-structure that is being forced upon us by the global economic system”. Unfortunately, I do not believe that the so called economic experts that dominate the media, with their use of the latest economic indicators are explaining what is happening. They seem more focused on, either using the latest economic statistic to confirm their economic forecast, or to use it as a justification for changing their views. I do not intend falling into the same trap, but rather to provide my analysis based on major macro and socio-economic trends.
Australia - Falling Living Standards
Australia is the 17th largest economy in the world and Indonesia is 16th by Gross Domestic Product (GDP). However by the year 2050 we will be ranked around 25th and Indonesia will be 8th. Many of us have been to Indonesia, usually Bali, and the difference in living standards is obvious, despite the major advances in Indonesia over the last 20 years. So whilst Indonesia has a larger GDP, its living standards although lower are increasing because of the internet, outsourcing/offshoring, cheaper and accessible international travel, and better and wider access to education. The living standards of the two countries are very slowly converging.
I used Indonesia as a comparison as it’s our nearest neighbour; however, increasing GDP and rising living standards is occurring in other parts of the world, specifically in Brazil, Mexico, Nigeria and Vietnam who will all be ranked in the top 20 by 2050.
These countries are trading their way out of poverty, as are India and China both of which now have a middle class of around 300 million each. This is a good thing as their rising living standards means there will be a greater demand for our natural resources, particularly food and minerals. The flip side for Australia being that lower cost of production economies are causing a fundamental re-structure in our economy. The car manufacturing industry is closing down and now the services sector is being impacted because of offshoring, outsourcing and the mobility of labour. For corporations to compete they must lower their production costs through productivity improvements, .i.e. either lower wages or improvements in efficiency through innovation, or both. Companies are implementing these efficiency changes and this is resulting in a fall in real wages which will eventually flow through to lower living standards in Australia. While at the same time there is a rush to invest in property and other assets that is driving up the prices.
Our floating exchange rate will help to cushion the impacts, but it will take another 10-15 years before the wage differential is substantially reduced, i.e. at the moment it may cost $30 per hour in Australia against $30 per day in an offshoring economy.
Unfortunately, over the last 40 years Australia with a few exceptions has failed to commercialise its innovations; Whereas, USA economic growth has been driven by its technology giants, e.g. Google, Apple, Microsoft, etc. that 40 years ago either did not exist, or were fledglings. Short -termism appears to be the hallmark of successive Australian Governments riding on the back of agriculture, mining and financial services. Governments should not pick winners, but they should provide the environment for companies to take appropriate levels of risk and recognise that Australia cannot compete internationally in mass manufacturing production and services.
A simple examination of the Federal budget papers reflects the above and that our living standards are falling given a structural problem with the budget, i.e. receipts are less than expenditures. Tax receipts have fallen by about 30% since the start of Global Financial Crisis (GFC) and this trend of falling tax receipts plagued the Rudd/Gillard eras and now the Abbott Government.
Financial Services – Continued Reduction in Jobs
The financial services industry is a study in point. The Major banks combined make approximately $30 billion in profit a year; however their performance is also characterised by ongoing jobs shredding across many areas. In particular, there is downsizing in branch and administration areas, transaction processing where a process can be automated or outsourced/offshored or the activity forced back onto the customer (self –service) to do. Partially off-setting these losses are new jobs being created in those areas where skills are required, such as digital sales and marketing, compliance and sales channel management. However, the overall trend is a reduction in personnel in financial services as it is important to understand that banks are mobilisers of capital and enablers of investment, not wealth creators in their own right. The financial services sector is too large a component of our economy.
Technology
Twenty years ago it was common place to hear an executive complaining about the cost of technology and its inadequacy in solving business issues. Today, the reverse is the case, technology is looking for a problem to solve. The world’s increasing reliance on technology is accelerating and it will continue to provide new opportunities while driving down the costs of production and distribution.
Property Market – Changing Dynamic
Residential property is a good study in behavioural economics. Historically property prices did not, in the medium term, rise faster than average weekly earnings. In the 1980s, this equation changed to that of combined average weekly earnings of couples, as people delayed marriage and having a family, so they could “get on top of their mortgage”. The equation appears to now need modification again because of consumer behavioural changes. Parents are more actively helping their children enter the residential property market as they see property as a good and safe investment given that many have done well from property. Parents understand their children must first pay off their HECS debt and with the trend to more casual employment this means that today’s youth may be locked out of the property market. Foreign buyers are aggressively entering the market as they are attracted to Australia’s democratic system of government, particularly the separation of powers which means property title is guaranteed.
Despite all analysis showing property prices are overvalued, it is apparent that there is a new behavioural dynamic in play in the residential property market that probably means the historical measures of fair value need modifying. Property prices in the immediate future may continue to increase, although this should not be sustainable as in the long run because over the long term there is a performance correlation between and across all asset classes.
Falling real wages coupled with increasing asset prices means that the gap between the wealthy and the poor is widening. The dreams of the lower middle are being washed away, while the middle class are beginning to feel they are on the slippery slope.
Australia is going through a 25 year economic re-structure with the catalysts being the GFC, technology and international (and inter-generational) changes. Even though living standards are falling and will continue to fall, the future can become brighter for those willing to be flexible, re-skilled and embrace change.
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