THE DISTILLERY: Let's go Dutch

Today's commentary covers developments that are sweeping Australia into vast global currents.

We begin with Michael Stutchbury of The Australian and his endorsement of a speech by Ric Battellino of the RBA on the "Mother of all Mining Booms.” The speech and the piece offer a historic sweep of previous booms including the 1850s gold rush, the late 1800s minerals boom, the 1960s and early 1970s iron ore boom driven by Japan's industrialisation, the late 1970s coal, oil and gas boom generated by the OPEC oil shock and the current boom. Battellino and Stutchbury argue that the lessons of the previous booms include: "First, one of the key ways that the economy naturally digests a mining boom is through a 'real' appreciation of the exchange rate. This encourages labour and capital to move to the booming sector by making other industries less competitive ... The second lesson was that Australia's centralised wage fixing system just made inflation worse by spreading big mining pay rises through the rest of the economy.” Stutchbury concludes "...The Reserve Bank is perhaps the only central bank not resisting, but even encouraging, a stronger exchange rate” and that "...compared to 30 years ago, the economy is more deregulated and more flexible while the industrial relations system is less centralised.”

There is another name for this process that is less flattering: Dutch Disease. In short, the shrinking of traded and non-traded goods sectors outside of the boom owing to a high-exchange rate and wage pressures. Henry Thornton of The Australian also covers the speech but shows greater cognisance of this danger: "Policies to reduce pressure on the Australian economy need to be devised and implemented – like locking up some of people's windfalls in superannuation funds, whose managers can be relied upon to put a fair share offshore. Serious additional investment in research and development and innovation generally (with its long lead-time) would provide the basis of new industries to come on stream after the current mining boom is over.”

All of this assumes endless and breakneck development in China. And while Australian authorities seem determined to pump the story for all it's worth, several other global commentators have joined a growing group of China skeptics. Mark Faber appears in the Financial Times to call a serious correction in the medium term for China. More worryingly, Kenneth Rogoff sees the likelihood of a Chinese financial crisis. And before you get too comfortable thinking China's giant reserves can bail out its banks anyway, Michael Pettis slays that idea.

Don't get this column wrong. It believes in the China "catching up” story. All bubbles have a kernel of truth. But financial history shows again and again that expectations get ahead of reality. China will no doubt keep growing at an impressive rate but it matters a great deal how fast. And if it's not quite as good as Australian cheerleaders suggest, or is interrupted by a crisis, then our terms of trade are already somewhere near their peak.

In that event, probably the most important piece of commentary in the country this year was offered by Alan Kohler of Business Spectator yesterday. Building on a piece by stable-mate Robert Gottliebsen, Kohler argues: "As a direct result of low and falling unemployment we have relatively strong consumer confidence and domestic demand, but weak exports due to falling productivity and poor competitiveness. The result of this will be a persistent current account deficit and high private debt. Australia's dilemma of the new decade [is] strong domestic employment and confidence or national competitiveness”.

This simple paragraph captures precisely the problem confronting the nation. Policy-makers, as well as the RBA, should be focused on this, not some Chinese miracle. Our spending is too far above our income. To bridge the gap without reducing spending, we can only get more productive or borrow. As Kohler and Gottliebsen outline, there is no boost coming to productivity, so it'll be the latter. Then, sooner or later, some factor here or abroad, will crimp the flow of funds and we'll get the correction we have to have via imploding asset markets whose values are debt-dependent. At that point, we'll no longer be able to support full employment without a dramatic fall in living standards.

And as if that weren't enough, the nation also needs to come to terms with an increasingly momentous push toward reregulation of global banking with big implications for funding the current account deficit. Jo-Anne Schofield of the progressive think tank, Catalyst, offers an op-ed in The Age in support of G20 moves to impose a Tobin Tax.

According to Schofield, "...the Robin Hood tax proposes a minuscule fee of 0.05 per cent on speculative trades in foreign currencies, shares and other securities.” She argues that proceeds could be used to finance various socially-oriented programs. She also reckons that "...implementation of such a tax would be simple and inexpensive. Financial markets are already computerised and heavily automated, allowing the tax to be calculated and recovered with no more than a couple lines of code built into banking software. Enforcement would be just as easy. Existing market regulation and the monitoring used to prevent money laundering and the financing of terrorism ensure transactions are already heavily scrutinised. And the incredibly low tax rate provides little incentive for avoidance.”

A Tobin Tax is Piguvian – that is, it's designed to correct a market out of balance. It does this by making the taxed activity uneconomic at the margin. It is therefore intrinsically painful as the market shrinks. In 2009, the BIS estimated roughly $1.7 trillion of the global notional $50-odd trillion in currency OTC derivatives were attached to the Australian dollar. In general, the BIS estimates 90 per cent of this activity is speculative so a 0.05 per cent tax delivers some $7.65 billion (not to mention the much larger interest rate derivative market). But from whom? In 2009, the big five banks had roughly $14 trillion in off-balance sheet derivatives, much of which managed the risk in their wholesale funding portfolios. This column supports the idea of a Tobin Tax, but the questions it poses for Australia are very sticky indeed.

If the nation has a structural problem, then spare a thought for Telstra, whose issues get deeper and deeper, at least according to Malcolm Maiden of The Age. "The base case in the draft legislation remains as the government has consistently said it will be: for the NBN to be a pure wholesaler. The law will state that it cannot supply an eligible service to another person unless that person is a carrier or a service provider. But there's a 'but': the NBN law will also allow the Communications Minister to exempt a service from the wholesale-only rule, 'subject to conditions (if any) specified by the minister'. And if the service is exempted, the NBN will be able to provide it directly to 'certain end-users; for example, government agencies'”. Maiden goes on to suggest this may be another government negotiating tactic and concludes "...Telstra's early take on this is that any volume discount would need to be universally available. Its competitors, however, think that Telstra will get volume-based price cuts that improve the NBN's efficiency. Given that Telstra's patronage can make or break the NBN, they may be right.”

Structural separation is also on the mind of Elizabeth Knight at The Sydney Morning Herald as she assesses the departure of Jerry Maycock, CEO of CSR. Knight does a compelling job of describing the damage to the firm. "CSR is now separated but can't execute a divorce ... The company has put new management in place, chosen directors, separated all the operations and duplicated functions and has raised money to capitalise the separate entities more appropriately ... It no longer has any of the synergies associated with single ownership. It is ripe for separation.” However, she is too soft on Maycock for "understandably” rejecting the Bright Foods offer. Surely it would have been prudent to keep it on the back burner until the court case was resolved?

With all of this going on, this column is disappointed to say the least with Alan Jury of The Australian Financial Review who rehashes a presentation by Woodside CEO, Don Voelte, and announces the retirement of the company's CFO, Mark Chaterji. And?