Tuesday, September 11 07:26:55
Australia has a sorry history of turning resource booms into bust, but this time could be different. From the gold rush of the 1850's, to wool booms in World War I and the Korean War, almost all the good times ended in recession. Yet that was not really because external demand collapsed or prices retreated. Rather, a surge in the terms of trade -- what Australia gets for its exports compared to what it pays for imports -- showered the country in cash which was spent with abandon. This red-hot demand sparked an outbreak of inflation which could only be contained by a severe tightening in policy.
In the previous boom in the late 1970's, for instance, annual inflation topped 12 percent while interest rates hit 17 percent. It was this inflationary spiral that ruined the party. There are crucial differences this time that offer hope that a slump can be avoided, the most important of which is the absence of malign inflation. S even years into the current boom, the economy has expanded by 60 percent, yet inflation is under 2 percent, the very floor of the Reserve Bank of Australia's (RBA) target range. Australia has not had a recession in 21 years, it was the only developed nation to avoid one during the global financial crisis, and this y ear it wi ll overtake Spain as the world's 12th largest economy, despit e being 52nd in terms of population.
Instead of needing to tighten the screws, the central bank had room to cut interest rates in May and June taking them to 3.5 percent, and it might well ease again next month. Some of this good fortune comes from having a freely floating currency, as its strength has pushed down prices for imported goods while keeping a clamp on the non-mining economy. A more flexible labour market has helped stop wages taking off, and even the global financial crisis played a part by scaring consumers into spending less and saving more. So, while much of the media has rushed to declare the boom dead and buried, policymakers are not arranging a wake just yet.
"Previous terms of trade booms were periods where we blew ourselves up," Glenn Stevens, the governor of the Reserve Bank of Australia (RBA) told lawmakers last month. "The boom crashed and everything went backwards." "What is interesting about this boom, is that the overall economy has come through this without a big breakout in inflation, and I think we will come through it without a slump at the end," was his cautiously optimistic assessment.
Part of the disconnect is due to a misperception that the mining boom is somehow a binary being -- it's either on or off. In reality, it has several life-stages spread over many years. First came the surge in the terms of trade, which began in 2005. That fuelled a huge rise in resource investment, which has some years yet to run. Lastly, but often overlooked, comes the expansion of output that is the point of all this investment. The first of these stages actually peaked almost a year ago, in the third quarter of 2011, when the terms of trade reached heights unseen in over 150 years. Having doubled in a decade, the terms of trade have since fallen by 10 percent, though that remains very high historically. The second stage of investment really only got going back in 2007 and still has a few more years to run, even with all the talk of miners scaling back. ( C) Reuters