Turnbull faces a recession
Confidence. Malcolm Turnbull not only kept returning to the word when he fronted the media to announce his challenge for the prime ministership on Monday, he presented as the embodiment of it.
Confidence was what Australia needed, and what Tony Abbott had “not been capable of providing”, he said.
So true. Abbott was always very good at invoking fear, but no good at all at inspiring confidence. He was a master of opposing, but a failure at proposing. He was all tactics and no strategy. Turnbull drove the point home in crisp, non-repetitive, optimistic words.
“Now we are living, as Australians, in the most exciting time,” he said. “The big economic changes that we’re living through here and around the world offer enormous challenges and enormous opportunities, and we need a different style of leadership. We need a style of leadership that … explains the challenges and how to seize the opportunities. A style of leadership that respects the people’s intelligence, that explains these complex issues, and then sets out the course of action we believe we should take, and makes a case for it. We need advocacy, not slogans.”
The only way that Australia could “ensure that we remain a high wage, generous social welfare net, First-World society” was by generating economic and business confidence.
There was a great deal of truth in what he said. Turnbull knows that economics is to some extent a confidence business.
Immediately, the change in messaging from negative to positive, from “nope” to hope, yielded dividends for the government: after 18 consecutive months behind in the polls, the first couple after the change showed it now level pegging with the Labor opposition. Turnbull himself rocketed to 62 per cent (ReachTEL) or 70 per cent (Morgan) as preferred prime minister.
We have yet to see any statistics on what the leadership change has done for the business sector but you can bet the confidence fairy has alighted there too.
The reason is not hard to fathom. We expect Turnbull to be an agent of change. And even though he has not told us yet what changes he will propose to the running of the Australian economy, the prospect of change itself is enough to buoy his poll numbers and our collective hope. As things stood under the previous regime, Australia was at imminent risk of “sleepwalking into a real mess”, as former treasury secretary Martin Parkinson recently put it.
Dropping living standards
Indeed, it is in a real mess already. Almost every day we see some economist or other laying odds on the chances of the country slipping into recession in the near future. Their predictions on the likelihood of this recession vary widely, from about 25 per cent among the more sober-minded to near 100 per cent, typically among those who have “wealth protection” advice to sell.
It’s a pretty abstruse and pointless argument, anyway. As far as the average Australian is concerned, we are in recession now. Our living standards are receding.
For the majority of people the most important measure of progress comes in their pay packets. The official data shows wages are stagnating.
For the year to the end of June, overall wage growth was just 2.3 per cent, and it was much less than that in some sectors. It was 0.6 per cent for the quarter. During the same periods inflation ran at 1.5 per cent and 0.7 per cent respectively. Most people’s income is going backwards.
In one way, this is a good thing. Were it not for wage restraint, unemployment would likely be even higher than it now is. Still, almost 800,000 people are in need of a job. The unemployment rate is above 6 per cent and, while the monthly figures bounce around a bit, the trend is up. Long-term unemployment hit a 16-year high in the June quarter.
We were told that when the mining boom ended, economic activity would pick up elsewhere, particularly in construction. But Bureau of Statistics figures show new capital expenditure was down 10 per cent in the year to June, and spending on buildings and structures down 15.6 per cent in trend terms. Seasonally adjusted, the numbers were even worse. And there are ominous signs of a coming bust in property and construction.
While some of the highly paid jobs that have disappeared from the mining sector are being replaced in other areas, they tend to be lower paid. Part-time work has increased.
Not only are we being paid fewer dollars, but that money is worth less in global terms because the currency has plunged along with Australia’s terms of trade.
So even if we are not in recession according to the usual measure – two consecutive quarters of declining gross domestic product – to many it feels as if we are.
A better measure than GDP
GDP is not a good measure for a variety of reasons. People such as Martin Parkinson and economist Saul Eslake increasingly refer to another measure: net national disposable income per capita, or NNI.
“NNI makes four adjustments to the GDP numbers,” says Eslake. “One is for population growth, one is for changes to the terms of trade. The third allows for the fact that about 80 per cent of the resources sector is foreign owned, so most of the income goes to foreigners. And the net bit allows for depreciation.
“From that point of view we get a much clearer picture of what is happening to average material living standards. And it shows they have declined about 5 per cent in total over the past four years,” he says.
Chris Richardson of Deloitte Access Economics also thinks NNI is the best measure of living standards.
“It peaked at the end of 2011 and has been shrinking ever since,” he says. “It shows no sign of turning around and it’s been happening for longer than we saw in the GFC or in the recession of the early 1990s.
“Families are feeling it. Businesses are feeling it through reduced profits.”
And government is feeling it through reduced tax revenue.
But there are other problems, too, which have been developing even longer and seem at least as intractable.
NNI measures average living standards, but within that average the fortunes of rich and poor Australians are diverging.
A report released on the very same day as Turnbull’s ascension to the prime ministership, by Anglicare and the National Centre for Social and Economic Modelling, found that in the decade from 2004 to 2014 – a period that included the mining boom as well as the recent mining bust – the living standards of Australia’s richest households grew 28 per cent, as measured by disposable income.
Among the poorest 20 per cent of households, the growth was barely half that – 15 per cent. And in families dependent on welfare payments it was just 4 per cent.
The report went on to project the likely change in living standards for the next 10 years, and found that inequality between the richest and poorest was likely to grow a further 10 per cent, given the current policy settings of the government.
Nor is it just the least well-off among us who are losing out in relative terms.
Figures this month from the Bureau of Statistics show that during the past couple of years the great Australian middle class has been falling further behind the rich. The share of income going to the top 20 per cent increased from 39.5 per cent to 40.8. The middle 60 per cent of households saw their share decline by the same amount, from 52.9 to 51.6.
Australia is not just becoming poorer, it is becoming more unequal at the same time and the Abbott government, to the extent that it had any reform agenda, had one that would exacerbate the trend. No wonder its efforts at budgeting were met with such widespread hostility. And no wonder the change of prime minister and the promise of reform were so well received.
Property market overheated
While Turnbull’s confident talk is encouraging, there is really only so much he can do. As Nicholas Gruen, chief executive of Lateral Economics, says: you can’t help macroeconomic bad luck.
Australia’s current bad luck traces back to China. Its rapid growth and demand for resources fuelled our boom. Its subsequent economic slowing – officially it is back to about 7 per cent, but many analysts think it could well be more like 4 or 5 per cent – and its shift away from resource-intensive development hit our economy.
But it may be about to get worse.
It was hoped the Australian economy would be bolstered by increased activity elsewhere. Residential construction was one of those areas, and it also was driven substantially by China. If we couldn’t sell them coal and iron, we would sell them apartments.
But now, says Angie Zigomanis, senior manager of residential property research at BIS Shrapnel, that is also looking increasingly shaky.
“Commencements in 2014-15 were well above underlying demand,” he says. “And there is a big pipeline of developments.”
Already some markets such as inner Melbourne are oversupplied.
“Anyone who bought off the plan in the last two or three years, and has tried to on-sell, I suspect has taken a hit on price. Brisbane is another one at risk of oversupply. Sydney not so much yet, because it has had much stronger growth.
“Commercial real estate is also a bit patchy. Perth and Brisbane are struggling. You’ve got perhaps another 12 months of construction having a positive impact on the economy.”
After that it could get ugly.
The first risk is that the banks will cut their valuations of properties. The second is that they will reduce the proportion of the purchase price that they are prepared to lend – the loan-to-value ratio, or LVRs.
“If the bank cuts its valuation by 10 per cent and then cuts its LVR by another 10 per cent, suddenly the buyer has to come up with another 20 per cent,” says Zigomanis.
“If 10 or 20 per cent of the buyers fall over, it can have a big effect.”
A third concern is that the Chinese government is tightening restrictions on money flowing out of the country.
There is some good news, though, says Gruen.
“One good thing is human capital. The growth in post-secondary qualified employees has gone from about 50 to 60 per cent of the workforce in less than 10 years.”
That more educated workforce, he says, will make it easier for Australia to adjust. We have the potential to be more agile and innovative, even if it is not very well funded. And Australia’s superannuation system “as badly taxed as it is”, is another positive, in that it provides a pool of investment.
Reforms Turnbull should consider
Gruen’s mention of these two positives brings us back to things Malcolm Turnbull may look at, if he is serious about major economic reform.
Then there is superannuation: the number one reform priority nominated by just about every serious economist – certainly every one spoken to for this story – as well as by various reviews commissioned by government, and even the super industry itself.
As things now stand, the benefits of concessional tax treatment for superannuation flow overwhelmingly to high-income earners. It has become a tax minimisation vehicle and a means for succession planning, which was never the intention of the scheme. Its cost to the government will soon eclipse that of the pension.
Six months ago, it briefly looked as though the Abbott government might do something about super.
Speaking on Melbourne radio, Treasurer Joe Hockey was talking up the need for a “national conversation on tax reform”.
“It’s also unfair that there are a lot of people out there that have retirement investments and live off the money from those investments – they pay tax on those investments and people who participate in superannuation may be getting an income where they pay no tax at the moment,” he said.
“Then,” as Eslake notes with apparent disgust, “Abbott just came over the top and ruled it out. Abbott has never run a yes case in his life. He was all about stopping things.”
Clearly, it’s about time things got started again.
John Daley, chief executive of the Grattan Institute, is happy to offer Turnbull some free advice. And the benefits of the institute’s modelling.
“There are two fundamental economic issues. You want growth to be faster and you want to balance the budget,” he says.
“And tax is the biggest single lever you’ve got. Our estimates are if you taxed super in the pension phase at 15 per cent, that’s worth several billion a year. If you restrict the amount people can put in out of their pre-tax income, that gets you more.
“Collectively those measures would add up to about $8 billion. Halving the current 50 per cent concession on capital gains tax would bring another $2 billion a year. And if you limit negative gearing, that’s another $1 billion or $2 billion a year. You can find $10 billion or $12 billion pretty quickly.”
Still, that won’t plug a $40 billion budget hole. Inevitably that means raising the rate of the goods and services tax. The question is what you do with the revenue to get the biggest benefit. New South Wales Premier Mike Baird would see it used to offset the extra health burden inflicted on the states by the federal government’s decision to shift $80 billion of future health and education costs to them.
The big end of town would have the money spent instead on lowering corporate tax rates.
Daley believes it would be best used elsewhere.
“As a matter of theory, [cutting corporate tax] encourages investment. But the reality is that the world is currently awash with capital. In the current environment, with interest rates at their lowest in 5000 years, now is not the time.”
Instead, he says: “You keep about 15 to 20 per cent of the extra GST back in welfare payments. Then you concentrate the tax cuts in the bottom half where they will do the most good.” After that, he suggests, you look at “the marginal rates of tax on low/middle income earners where there is a second income.”
Then there is participation, and the need to give incentives that would keep mothers in work: “We’ve got a big problem with women who don’t earn much and are paying childcare and giving up benefits.”
Finally, there is stamp duty, which he thinks should be reduced: “In theory that’s a state responsibility but in reality the Commonwealth gets a lot of the benefit, because economic growth flows through to it. Do a deal with the states. Wind down stamp duty and wind up property taxes. It’s what almost every economist in the country has been telling it to do for decades.”
Turning confidence into action
Those are just one economist’s suggestions, although a lot of the ideas are shared by many others who have considered reform. They are not particularly radical, although they do run counter to many of the previous government policies that got us into the current mess.
There are plenty of other potential areas for reform, such as investing in public transport and other productive infrastructure, and cutting the convenient tax write-offs available to big businesses such as mining. And, of course, doing more about multinational profit shifting and tax avoidance.
As yet, Turnbull has not committed to, or tried to persuade us of, the virtues of any of them.
All he’s offered is his own boundless confidence and the prospect of change. If he and his government don’t provide at least signs of a lot more than that, hope could easily turn to cynicism.
The seeds of both hope and cynicism are evident in the opinion polls. They were put even more succinctly in the headline of Darwin’s NT News the day after Turnbull’s party-room election: “Rich Dude Becomes PM.”
This article was first published in the print edition of The Saturday Paper on Sep 19, 2015 as "Recession genes". Subscribe here.