Three previous postwar mining booms ended badly, and there's concern history could repeat itself, writes Tim Colebatch.
Between 2005 and 2012, Australia began a mining boom that took over our economy. By 2012, mining investment generated half the economy's growth. But this year the boom is expected to hit its peak, then reverse. And then the force that pushed us up will start pushing us down.
What will drive Australia's growth then? For economists, it is the question facing the country. And no one knows the answer.
The official view is that all will be well. The Reserve Bank and Treasury argue that while mining investment shot up by the lift, it will come down by the stairs. And by then several influences - low interest rates, hopefully a lower dollar, an improving global economy and rising resource exports - will allow other industries to take over the baton.
But then, officials always argue that all will be well. History tells us a different story: it says mining booms end in busts. And some of Australia's most eminent economists fear that history will be repeated now.
Ross Garnaut warns that Australia is facing a sharp downturn, which could end up as a decade of economic weakness like the one we experienced from 1974 to 1983. "We are likely now to face major adjustments to incomes and living standards", says the Melbourne University economist and former prime ministerial adviser and ambassador to China.
"If we do not manage the adjustments well, we will face a long period of economic stagnation and uncomfortably high unemployment."
Former Reserve Bank board member Bob Gregory, of the Australian National University, warns that the economy risks falling off a cliff as minerals prices and future mining investment fall back to normal levels. He and Peter Sheehan, of Victoria University, and former head of the Victorian Treasury, argue that monetary policy cannot do much. They propose a big federal-state program of infrastructure investment to become the new engine of growth.
What's the problem when Treasury and the Reserve Bank have told us for years that booming demand for our minerals from China, India and other developing countries will see mineral prices and mining investment remain high for a decade, if not decades?
Some of their assumptions - insatiable Chinese demand for coal, a long global shortage of iron ore - now appear fragile. And as our graph shows, mining booms rarely end gently.
Postwar Australia had three mining booms before this one. The first was from 1965 to 1971, the era when shares in nickel producer Poseidon shot up in five months from 80¢ to $280, before going up in smoke. Mining investment's share of the economy swelled sixfold, from 0.36 per cent of GDP in 1963-64 to 2.23 per cent in 1970-71, before crumbling rapidly.
In 1980, a new boom started, doubling mining investment's share of output to 2 per cent in 1982-83, when it was cut off abruptly by the country going into recession.
The mid-'90s was a quieter affair, but mining investment climbed to 1.8 per cent of GDP before it too sank like a stone.
None of those booms ended gently. Each ended with mining falling off a cliff, and within two years it was more or less back where it started.
Nor was there an orderly baton change to investment in other industries.
This time we stand on a far bigger cliff. By the December quarter, mining investment had risen to 6.6 per cent of GDP, up from 1.1 per cent in 2004. If this boom ends in a bust, we will have an awfully long way to fall. The question is: will this time be different? And if so, why?
Treasury and the Reserve argue that this time is different. They point out that global growth is now dominated by China, India and the developing world. Those two giants are in a resource-intensive phase, and Australia is a relatively close, low-cost supplier of the raw materials they need: especially iron
ore, coal and liquefied natural gas (LNG).
Our investment pipeline is now dominated by a few big LNG projects, which are locked in and will take years to complete. They see mining investment gliding down gently. And as it goes, in theory, the high dollar too should fall, restoring the competitiveness it stole from our manufacturers, farmers, tourism operators and universities.
Declining mining investment will also be offset by rising mineral exports. The Bureau of Resources and Energy Economics predicts resource exports will grow 28 per cent in volume in the next five years, and - despite falling prices for iron ore, thermal coal, gold and copper - mining export revenues will swell 48 per cent.
Finally, the Reserve believes interest rate cuts are working to stimulate investment and activity in other sectors. It points to the jump in consumer confidence, and what it sees as green shoots of growth in jobs, housing and retailing. While it warns that the transition might be
bumpy, the Reserve expects growth to stay near 2.5 per cent until late 2014, then edge up to 3 per cent.
But there are many unknowns. Almost every bit of that analysis is challenged by others of equal eminence. Usually you'd put your money on Australia muddling through somehow; after all, it's 23 years since we fell flat on our face. But at the top of this once-in-a-century mining boom, the future is unusually precarious.
In the mid-2000s, Ross Garnaut, Saul Eslake and Chris Richardson challenged the official view that the budget was strong enough to afford big tax cuts. They argued that the boom in company tax revenues was temporary, and we should bank it, not lock it into lower tax rates. They were clearly right then. And all of them have concerns now.
Garnaut is the most pessimistic. An expert on both China and mining, he argues that China is moving away from resource-intensive growth; in 2012, thermal power generation grew just 0.6 per cent, as China turned to hydro-electricity, wind and nuclear power. Its demand for iron ore imports has slowed, and with increasing competition from other suppliers, he says, some of our key exports could face "periods of historically low prices despite the continuation of reasonably strong aggregate demand".
In Sydney last month, Garnaut also forecast that the US would start exporting LNG at prices that undercut the assumptions on which Australia's LNG boom rests. He predicted that all this would lead to some projects being postponed or abandoned; some existing mines would close, while many others would experience periods when they were barely profitable. Mining would slump, taking Australia with it.
"We will have to adjust to much lower incomes," he warned. "We will have to adjust to rapidly rising rather than falling prices for tradeable goods and services. We will have to adjust to much lower relative costs.
"Downward adjustments on the scale we will face are immensely difficult."
Richardson, director of Deloitte Access Economics, is less gloomy. As a long-time consultant to the mining industry, he says the future could hinge on decisions to be made by company boards later this year on whether to go ahead with the next wave of big projects, collectively worth $126 billion.
"Our Investment Monitor suggests the peak of the boom might be nine months away," he says. "My view is that we will have an extended peak. Mining investment will stay at a really high level for some time before it turns. If none of those $126 billion plans go ahead, then we have a bigger problem."
But Richardson sees a bigger risk that minerals prices could fall off a cliff. "We are extremely sensitive to China, and China has to adjust [its growth model]. The hardest thing is to predict the timing." He does not share the Reserve's optimism for non-mining business investment - which in 2012 hit almost a 60-year low as a share of GDP.
He expects Australia to slow in 2014, but says activity will then grow as the Reserve holds interest rates low. "We will have two years of low rates, and that will be positive
for the retail and housing sectors," he says.
Eslake, now chief economist of Merrill Lynch in Australia, sees the real risks as coming in 2015 and 2016, when the present wave of LNG projects is completed. By then, the US will have decided whether it will export its gas or keep it all to itself. "The cliff will happen eventually," he says. "This poses a downside risk to growth when it occurs."
Eslake, like Richardson, is wary of putting an optimistic spin on recent data. He notes that the latest capital expenditure survey in fact showed non-mining business investment plans are lower than a year ago. The persistent strength of the exchange rate remains the central problem, forcing business to focus on lifting productivity, which, with growth low, will lift unemployment, which will restrain confidence, demand and growth.
There is no consensus. But the risks highlighted by Garnaut, Gregory and Sheehan are ones that decision-makers will ignore at their peril.
Ross Garnaut's paper is at rossgarnaut.com.au. The Sheehan/Gregory paper is at cbe.anu.edu.au.