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Feb 21, 2013

The currency wars: how the mighty A$ is quietly shaping politics

The strong A$ is the elephant in the room of Australian politics, although Wayne Swan is now paying more attention to the productivity challenge posed by the currency wars. What can he really do about the gold-plated dollar?

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While the media obsesses about the Labor leadership and the election, the strength of the Australian dollar is a key unacknowledged factor currently shaping politics.

The dollar’s strength, and its stubborn refusal to respond to the factors that have traditionally seen it weaken, have been a persistent handbrake on corporate profits both in the mining and non-mining sectors, and as a result on tax revenue. That’s in turn led to Wayne Swan having to abandon the government’s commitment to surplus, even if it might come closer than many currently predict.

But it has also helped keep inflation low, which along with the government’s tight fiscal policy has given the Reserve Bank room to keep reducing interest rates in an effort to kickstart residential construction, an agenda that, if successful, should make economic management much easier for whoever wins on September 14.

And, more subtly, it’s sent a shock through the trade-exposed sector, particularly in manufacturing, that has forced lazy managers and unions to focus on cost-cutting and productivity. As a result, while every resident galah in the national newspapers has been talking about productivity as though it could be conjured up with a dash of WorkChoices, workers and bosses in the real world have been getting on with the challenge.

“The productivity challenge posed by the high dollar is one to which the government has come a little belatedly … but it is now front and centre.”

Perhaps that’s why manufacturing actually halted its decline in employment last year and put on 14,000 jobs after decades of decline.

The productivity challenge posed by the high dollar is one to which the government has come a little belatedly, at least in rhetorical terms, but it is now front and centre in Labor’s economic policy and the narrative for the remainder of its term. It provides a handy public spur for reform in an economy otherwise dominated by good news, in the same way Keating used the current account deficit and talk of a “banana republic” to focus Australians’ minds on the need for reform in the ’80s.

In dealing with the problem, this much-maligned government has declined to take advantage of the advice offered by various parties. It has rejected the suggestion from both unions and conservative commentators like Warwick McKibbin that direct currency intervention should be undertaken to lower the dollar, wisely understanding that such efforts would be extraordinarily costly and futile.

It has rejected the protectionist arguments of unions and the Greens that it should simply order large companies to use more Australian content. And it has rejected the galahs in the national papers and in business who think just cutting wages — sorry, “workplace flexibility” — can make up for a high dollar. Julia Gillard correctly nailed this furphy on Sunday when she noted that average wages would have to fall to $50,000 pa to offset the recent strength of the dollar.

The government’s new manufacturing policy is instead a mixture of red tape and some shuffling of incentives to encourage greater use of Australian content, without mandating it, and encourage genuine on-the-ground innovation. It’s a package that, unlike the other options urged on the government, is unlikely to cost much or do much harm while manufacturers get on with the challenge of improving productivity themselves.

This isn’t the only government to turn its thoughts to the impact of its currency. It was a major issue of consideration at the weekend’s G20 meeting, with the possibility of “currency wars” on the mind of major economies. The G20 declared in its communique that it “will refrain from competitive devaluation … [and] will not target our exchange rates for competitive purposes, will resist all forms of protectionism and keep our markets open”.

As an economy so dependent on trade, Australia is naturally concerned about the possibility of major economies starting to use their currencies to engineer greater export competitiveness. But as Fairfax’s Peter Martin noted, Wayne Swan was actually the lead currency wars sceptic at the meeting, suggesting falling currencies reflected not deliberate attempts to boost exports but the natural consequence of fiscally constrained economies relying heavily on loose monetary policy to stimulate flat economies — something no one concerned to see higher global growth should be concerned about.

Because Swan appended one sentence on the impact of austerity to his remarks, Joe Hockey, continuing his pattern of mixing up assurances that we’ll be in reasonably safe hands after September 14 with arrant nonsense, declared Swan’s views were evidence of what wastrels Labor were. Hockey either completely misread Swan’s remarks or didn’t care that almost the entire focus of the Treasurer’s remarks was “accommodative monetary policy”.

But Swan’s view was echoed by the head of the European Central Bank Mario Draghi, who said exchange rate movements were “the result of domestic macro economic policies meant to boost the economy.” WSJ blogger Simon Nixon took a similar view.

For a country with a manufacturing sector getting pummelled by a high currency, it’s a remarkably sanguine view, but it happens to be the correct one. Labor appears to have accepted that there are no easy ways to deal with a high currency, no short cuts; that the best approach is to drive innovation and let businesses pursue productivity. From that perspective, Swan can afford to be more relaxed about the currency than many of his counterparts offshore.

It also means that, if and when the dollar does soften, whether it’s next week or next decade, it’s a windfall for an economy that’s already doing the hard work of becoming more competitive.

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14 thoughts on “The currency wars: how the mighty A$ is quietly shaping politics

  1. Ian

    A currency war is in full swing whatever the motivations of governments might be. The northern hemisphere’s developed economies are riddled with debt – governments, banks and individuals – and it is hard to see a way out of it all. Slashing interest rates and printing money (getting out of the debt problem by creating even more debt) can’t be the answer.

    Australia like many non-core countries is caught in this web and it is difficult to see an equitable way out of it.

    If we start slashing interest rates and creating more and more money, I believe we will join the downward spiral being experienced by others. China can’t prop us up forever. Don’t forget that cutting interest rates has two sides to it represented by the savers and the borrowers (who may or may not invest their borrowings in productive activities). There is also a redistributional effect in cutting interest rates and the added high risk of causing asset bubbles (again with a redistributional effects).

    Unfortunately Australia has embraced this free market/free trade + privatization policy unquestioningly and has, as a result, created an economy that is extremely fragile being, as it is, so reliant on mining, including of its native forests. Our manufacturing industry is gone, agriculture is suffering, notwithstanding high world prices for grains, and now the high dollar is even hurting the not-so-profitable-85% foreign owned mining industry. The high dollar as I noted earlier is partly a result of the currency wars but also, especially early on, tied to the resource boom.

    Every time mention is made of imposing import duties there is an outcry… we’ll start a trade war. Really! And similarly if mention is made of imposing some sort of capital controls all hell breaks loose. Why? Surely we should try something different for a change if the system we have been working under for so long is breaking up and has left us so vulnerable.

  2. Warren Joffe

    Did someone mention Friedman and Hayek in the same breath? The Austrians would not like that. There was a rather good SBS program about Keynes and Hayek (in particular) which I think made that clear.

    Hayek was of course right to point to the impossible complexity of human affairs for those who demand definite and precise answers. But Keynes knew that and was much better equipped than Hayek with worldly experience, public and private, to attempt to deal with the complexity. Of course the cod-Keynesians of the post-War world, vote buying politicians and their less brilliant advisers, led their economies to the point where only harsh correctives would work. Hence Paul Volcker’s high interest rates and Thatcherism with its connection to Hayek’s anti-socialist arguments.

    So where do our inevitably oversimplifying and underqualified politicians stand? Too many Coalition MPs were simple-minded anti-deficit propagandists at the wrong time, though it is a pity that Swan and Gillard didn’t take on some of the spirit of their objections and try to make sure the debt they were accumulating was justified by investments with a big positive return. Still, those Coalition MPs will probably be the ones who help Hockey restrain Abbott’s populist instincts, including those which old ALP supporters of Catholic social teachings would have approved. Abbott won’t have the prestige of John Howard after his second or third election victory so will probably be restrainable.

    As for promises, well, they won’t really need to make any and all apparent promises to this date will be declared out of time before the election campaign proper.

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