Transcript of Chris Caton interview

Michael Pascoe interviews Dr Chris Caton, chief economist at BT Financial Group.

Chris Caton: Investors shouldn’t be worried yet, but we’re not too far from a point at which they should begin to get worried if the current account deficit doesn’t start to improve significantly in the near future. It’s important to point out that the current account deficit is slowly improving. We’re getting faster export growth than import growth right now. The disappointment is that it hasn’t improved faster already given the strong prices we’re getting for our commodities and given the strength of the economies of the rest of the world. We should have seen more improvement than we have.

There are some reasons why we haven’t. Australia’s never ending thirst for imports and the fact that, for example, rural exports have not done better. Now that should turn around also because of the more favourable weather conditions we’ve seen lately but also there’s a rather strange thing happening right now. The biggest reason the current account deficit is holding where it is, is not because of trade but because of the so-called net income deficit, which is getting bigger and bigger and bigger. The amount of money that we owe to the rest of the world is increasing both in dollars and also as a share of GDP. Now this is in part because we’ve used debt to finance past current account deficits but it’s also in part, somewhat strangely, because our resource sector '¦ a lot of it is foreign-owned and so a lot of the excellent profits that we get in that sector in fact accrue to foreigners and hence are recorded as a negative in our current account deficit.

Michael Pascoe: This sounds like we can’t win. We have a resources boom and we send the money overseas. It sounds as though if the world comes off the boil, we’re in trouble.

If world growth does turn sharply negative and we lose some of the high commodity prices, then the outlook for the current account deficit is not all that good, although, of course, part of that will be offset because we won’t have to send so many of the profits overseas; but, yeah, it’s true. We’re more or less at the mercy of the world economy right now. So long as it continues strong, the current account deficit is likely to continue to come down, but if the world economy weakens significantly then we’re stuck above $50 billion a year for a long time yet.

That doesn’t sound good.

So why don’t markets worry more? The way I think about it, I compare with the way we used to react to a current account deficit blowout at the time of the infamous Banana Republic. At that time, of course, when the rest of the world looked at Australia their attention was attracted by the big current account deficit and once their attention had been attracted they saw high inflation, they saw an unsustainable boom and they saw a big Federal Government deficit and they said one word: sell. Sell the Australian dollar. Now even if their attention is attracted by the current account deficit they see 14 years of growth. They see low inflation. They see the Federal Government’s books in reasonable shape and I suppose they look at the Australian economy and say, 'Well, there don’t seem to be any other problems and so the Australian dollar, helped of course by commodity prices, has held up remarkably well. If and when the current account deficit becomes an issue, that’s the first point of contact. There’ll be a significant sell-off in the Australian dollar but I don’t think we’re even near that point.

So the Australian economy’s a bit like the Australian consumer. Loves his debt, loves his spending, but he’s still a reasonable credit risk as long as he’s employed.

That’s great. I couldn’t have said it better myself.

So from an investor’s point of view it’s keep an eye out but don’t worry yet. How long can you keep saying that for?

Unfortunately, the answer to that is until the day that you realise that you should have done something the previous day. I think this can go on for a long long time. I suspect that the current account imbalance issue, the global current account issue, may never play a major role in financial markets but certainly as long as those imbalances exist, the chance of an accident has been increased.

Retail investors also see tabloid television shows saying China’s stealing our jobs; we’re not going to have any industry left. Dick Smith campaigns about it. Are they getting the wrong message?

They’re getting a very wrong message. It is true that the share of manufacturing jobs in Australia has gone down, down, down in the past 30 years. The same is true for every major developed nation and, believe it or not, the same is also true of China. There seem to be a group of people out there that think that it’s not economic output if you can’t drop it on your foot; that we can’t possibly exist if we’ve all just got jobs in the service sector. We’ve got to make the stuff otherwise we can’t be prosperous. I would turn that argument on its head right now. The stuff, be it cars or be it DVD players or be it computers, can be made so much cheaper elsewhere, you really can’t be a rich nation if you keep on making that stuff. It’s far better to create what you can create '” health services, education services, tourism, finance, insurance services, etc '” and trade with the people that make the goods cheaper. A declining manufacturing sector is not a symptom of a decaying economy. It’s a symptom of a growing economy.

Chris Caton, chief economist at BT, thanks very much for talking with Eureka Report.