Is the Australian model in trouble? | FT Alphaville

Is the Australian model in trouble?

Officially, Australia has avoided recession for more than two decades — an impressive achievement for a small open economy that has become increasingly dependent on exports of iron ore, copper, and coal as a source of growth. Many have attributed this track record to Australia’s fortunate position as one of China’s biggest commodity suppliers, while others have argued that the Reserve Bank of Australia deserves the credit. Australians should hope that their success is due to the skill of their policymakers, rather than luck, because the newest data suggest that Oz’s luck is beginning to change.

Last week, we learned that Australia’s unemployment rate recently jumped to 6.4 per cent in July — higher than the current rate in the US* and up from 6.0 per cent in June. The unemployment rate was just 5 per cent as recently as April, 2012 but has been slowly and steadily rising since then. Even during the worst of the global financial crisis, Australia’s jobless rate had never gone above 6 per cent.

Some economists question the significance of the latest monthly change. ANZ research attributed it to noise caused by a change in sampling methodology and noted that the unemployment data doesn’t fit with the frequency of “help wanted” ads:

Even if July’s data were written off, however, the trend is not encouraging. Broader measures of employment have been getting worse since the end of 2010. According to the Australian Bureau of Statistics, the country’s overall employment to population ratio has dropped by about 2 percentage points since the end of 2010.

This decline cannot be solely blamed on aging, since the share of Australian men aged 25-54 with a job has fallen by about 2.4 percentage points since the end of 2010 while the share of prime age Australian women with jobs has been flat during the same period, according to the OECD:

Part, but not all, of the problem can be explained by the lack of net job growth in the mining sector over the past few years:

The better explanation is that the overall domestic economy has been slowing down. This chart, from the latest “Statement on Monetary Policy” produced by the RBA, which was released on Friday, gives a good sense of the grim picture outside of iron ore and copper exports (the chart above is from the same source):

The weak economy and deteriorating labour market have led to a slowdown in wage growth even as consumer price inflation has been accelerating. The brutal hit to purchasing power may help explain why new vehicle sales have been flat since mid-2012, although total real retail sales seem to be continuing to grow at a healthy pace. Can this continue? Australian households are already among the most indebted in the world and have managed to avoid shrinking their balance sheets so far, although they have not managed to increase their borrowing much, either. The Australian government’s recent push for austerity probably does not help.

Perhaps even more worrying is the state of Australia’s businesses. There has been no increase in nominal business investment outside of the mining industry in more than five years, according to the RBA:

Manufacturing output is lower now than it was in 2002 and is set to fall further once the last of the auto plants shuts down in 2017. One reason is that Australia is one of the world’s least competitive countries, possibly because the booming mining industry has inflated wages and made the Australian dollar too expensive for the rest of the tradable sector:

The Australian dollar has already plunged by about 20 per cent against the US dollar since the beginning of 2012 but the competitiveness gap highlighted by JP Morgan is so wide that we wonder how much devaluation would be required to restore the non-mining economy to health.

This wouldn’t necessarily be a problem if Australia’s dirt and rock exports keep on growing.

Surging Chinese demand for Australian iron ore and copper provided a nice boost at the beginning of the year although the latest trade data suggest that this has already reversed. More fundamentally, however, we have to wonder how sustainable this strategy is when China has repeatedly stressed that it needs to rebalance its economy away from resource-heavy investment growth towards household consumption. And of course a non-trivial proportion of iron and copper sent to China gets locked up in warehouses and used as collateral for loans rather than, you know, actually built into anything valuable. How much longer can that keep happening?

It’s conceivable that monetary easing by the RBA could weaken the currency sufficiently to encourage business investment outside of mining, boost employment, and encourage households to pick up their spending despite high debt loads. Whether that could be accomplished without inflating Australia’s housing bubble even further, or causing an unacceptable acceleration in inflation, however, remains very open to question.

*The two countries’ data aren’t perfectly comparable. Canada’s official unemployment rate would be about 1 percentage point lower if it were calculated according to US standards, for example.