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Jan 13, 2011

Australia’s affluenza built on a house of sand

Australia’s economic miracle and recent bout of affluenza is built on a house of sand. Local debt and what appears to be an unsustainable boom in its biggest customer.


The Australian Financial Review last month questioned how did we get so rich? With growing affluenza, Angus Grigg wrote that “almost unnoticed by much of the population, the country has become rich, very rich. Two decades of uninterrupted growth. Tax cuts and a booming China have delivered prosperity like never before”. In some ways, Grigg is correct — Australia’s per capita CDP has risen from $US21,770 in 2000 to $42,280 now, while the number of high net-worth individuals has leapt from 74,000 to 174.000.

But  it seems that numbers in this case do not tell the full story.

While Australians appear richer (the ABS puts the increase in per capital real GDP from $8800 to $15,170), like in the US and Ireland, that wealth has been created, literally from nothing. Well, not quite nothing — part of Australia’s wealth generation has been legitimate — largely selling commodities to China (more on that later).

The other part has come from Australia’s rapidly growing asset pile in the form of housing. This housing wealth has been created by banks, which have been willing to lend more money to borrowers. Part of this is due to the way fractional banking works — that is, a bank gets funding from depositors (and in recent year, overseas wholesale markets) and lends that money to borrowers. The thing is, banks lend upwards of 10 (or in recent times) 20 times the amount they have in capital or debt. This is highly inflationary, as it basically means that banks are creating money out of thin air.

As a result of this, everyone appears richer. Houses cost more, investors have lots more money to spend. Construction booms, workers have more money and therefore spend more, leading to more jobs in secondary sectors like retail.

The problem is — as much of Europe and the United States have found out — borrowed wealth is not real wealth. Real wealth generation comes from investing and innovating new ways to make or create things. Rather than becoming richer, having too much money tied up in a relatively unproductive asset (such as housing) leads to a reduction in the amount invested in genuinely worthwhile assets such as tractors or research labs.

Australia’s love of debt is so great, that even when debt increases, we celebrate our new-found austerity. Karen Maley in Business Spectator noted in December that “personal borrowings rose by a very sluggish 0.2% in October, and stands just 2.4% above the same period last year [and] even our traditional love affair with housing is cooling off. In recent months, borrowing for housing has been growing at a slower clip of 0.5% a month.” When so-called austerity still results in a 6% annual rise in borrowing (well above growth levels and inflation rates) this is a country that is simply addicted to debt.

With a mortgage debt to GDP level of about 90%, Australians remain significantly more indebted than Americans were just before their housing bubble popped. In fact, Australia’s relative mortgage debt is even higher than Spain, Ireland and Greece — those countries may be part of the PIIGS, but Australia’s home buyers certainly appear to be hogs.

But back to China. Aside from creating wealth out of thin air thanks to bank lending, Australia has also been highly adept at monetising its natural resources. The corporate tax paid by mining companies (profits are virtually irrelevant as the likes of BHP, Rio and Xstrata are largely foreign owned) allows money to be spread across the population through tax cuts and wonton fiscal spending programs designed primarily to ensure that whichever political party in government is re-elected.

And while China has allowed a steep rise in consolidated revenue, there are many who doubt the viability of the China growth story. Even China itself appears fearful that it has grown to far, too fast — on Christmas day the Chinese government raised interested rates for the second time in a month in a desperate bid to curb inflation (officially at 5.1% but probably far higher). Then there are the views of influential short-seller, Jim Chanos, who claimed that the Chinese economy is “on a treadmill to hell”.

Chanos notes that much of China’s recent growth has been spurred by fixed asset investment (which accounts for a remarkable 60% of GDP). And this isn’t the good kind of asset investment. About 14% of China’s GDP growth comes from new property sales, some of which continues to lay vacant. Chanos also observed that China’s property boom dwarfs that of the already collapsed Dubai. While Dubai had 240 square metres of property being developed for every $1 million in GDP, urban China has four times that amount. Even more worrying — in 2009 China was constructing 2.6 billion (yes billion) square metres of new office space. According to Chanos, “that amounts to about a five-by-five-foot cubicle for every man, woman, and child in the country”.

So Australia’s economic miracle and recent bout of affluenza is built on a house of sand. Local debt and what appears to be an unsustainable boom in its biggest customer. So while champagne consumption, which has increased from 1.4 million to 2.9 million bottles this decade, it seems like the time has come to put the cork in this spending party.


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12 thoughts on “Australia’s affluenza built on a house of sand

  1. WeBe

    Thanks, Adam.

    I saw that AFR article back in December and thought the very same thing… It’s all well and good to celebrate the positives (hooray – more Ferraris and french bubbles!), but how could they possibly ignore the increasing risks that we Aussies have been taking?!

  2. kayeg

    “wonton fiscal spending programs” – that would be the result of China’s importance to our economy?!

  3. Kevin & Julie Harris

    Dear Adam

    ***Part of this is due to the way fractional banking works —***

    Yes Adam, “fractional banking”…what is it good for? Actually, what is it?

    I wonder if fractional banking could help these people below?


    In the twilight of their lives and forced to separate from family and friends and completely shut out from their culture of community….it’s all they have left in life Adam.. and Julie and I are very angry. This place that houses a 100 people is going under the bulldozer to house just 10 people and a couple of offices…Julie said to say FFSake!!!

    You know Adam, mentioning David and Goliath the other day, got me and Julie thinking.

    When did a Big Bloke ever beat a Little Bloke in a good bout of fisty cups?…think about it Adam, little blokes always bash up big blokes.

    Big Blokes just don’t stand a chance against fiesty little bloke with years of pent-up anger over never being selected in the sports teams at school, always turned down for dates with the sheilas, always being over-looked for job opportunites, always secretly hated by their parents for being too small and so on…no wonder they react the way they do when a big bloke walks in the room.

    So, me and julie checked the Guiness Book of records, Googled it and even looked in the local library, but there is nothing on record for a Big Bloke ever beating a Little Bloke.

    Until now!!!…yes Adam, yours truly..Kevin “Harro”Harris defeated a little bloke at Phillip Island on March 28 1999…whooooah!!!! you should have seen it Adam.

    His name was Mick “Lofty” Davis…his nick-name bears the obvious Adam. Julie and I were playing pool in the front bar of the Tavern and lofty came over to everyone in the bar and asked them if they wanted to fight. EVERYONE SAID NO!!!due to Lofty’s reputation of being undefeated in 50 fights against Big Blokes.

    I was the last one at the end of the bar over near the pool table and I saw him coming and tried to meander away from him and to save face and pretend i did n’t notice his advance but it was too late as he screamed at me…”aghh ya fkin big c…t, so ya think ya a big man eh? well come on and take me on” ..I was about ready to sprint to the toilet when Julie yelled out..”kevin’s gonna flog you Lofty ya little prick..”….I yelled at Julie..”shut the FK up you stupid bitch”..when suddenly Lofty hit me 3 times, 4 times, 5 times..I knew I was a gonner as my head started to fall apart and blood raced down my cheek and chest.

    Lofty was like a Water Buffalo who had just lost her calf to the Lions, he was like a wounded Tiger hell bent on one last piece of savagery, like ..umm…err…I dunno but he was 5′ 5 ” of pure muscle and I was in big trouble when suddenly a bolt from the blue came at me, a beaming flash of light was on me…was it a message from God?…no!!!…was I about to die?..very possibly!!!…but it was Lofty’s left hook and right upper cut as I was seeing tripple and could hardly stand up.

    Then it came to me!!!…the science of fighting a little man!!!..yes!!!…I suddenly realized that the secret is the little man’s centre point of gravity. I had to off-set his advantage of being close to the ground.

    So I immediatley changed from my South Paw stance and started to lead with my left instead of my right. It worked!!!!…immediately i caught him with my left and I kept jabbing his head as he came in to finnish me off…all of a sudden I saw confusion in his eyes!!! ..I got a sniff and I was n’t gonna let up!!!..I had him as i kept jabbing with me left.

    By now i had forced him up against the bar and now he was bleeding and he was covering up as I came up with a huge upper-cut. I still remember the sound as his lower jaw smashed against the roof of his mouth….it was like the slamming of the front door on a summers day….BANNNGGGG!!!…at the same time the front half of his tongue flew through the air and landed on Julies lap 20 FT away….the blow had severed his tongue Adam…it was a bloody mess.

    It was horrible Adam, old ladies were fainting, little kids were hysterical, grown men with tattoos were crying and Julie had passed out on the floor when the half a tongue landed on her lap.

    Lofty was out cold!!!…and history had been made, a Big Bloke had finally defeated a Little Bloke…Amen!!!

    Fortunately, there was a surgeon holidaying on the Island, so we rounded up some light strain fishing line from some kids fishing down on the jetty and together we stitched Lofty’s tongue back on….Hmmm.

    Today, Lofty does n’t suffer much from the injury…he’s got a bit of a stutter and he can’t chew his food properly, but the doctors say he should be off the intravenous drip in about 5 years. So all up he’s doing ok.

    As for Kevin “Harro”Harris, well, there were book and film offers and Paul dainty wanted me to do a tour of all the drought effected areas of Australia to try and provide some inspiration on how a Big Bloke beat a Little Bloke, but like all Pie in the Sky….nothing eventuated except that the Mayor of Phillip Island did erect a bronze bust of me just next to the Tavern and as far as I know it’s still there today.

    Your’s Sincerely

    Kevin & Julie Harris

  4. MLF

    At the risk of sounding like a harpy, the banks really must be held responsible for the greater levels of personal debt. People are living off their credit cards and/or off equity in their mortgage and the banks not only encourage it but facilitate it. The shizz will hit the fan, there is no doubt, and those that enable should be held accountable.

  5. Sean

    Another good piece, Adam.

    Like Webe, I saw the AFR headline in the newsagents, picked up the paper and skimmed the article, and thought ‘what a load of crap’.

    Why does the mainstream media continually run this line of non-analytical drivel? It matches the John T. Reed definition of spotting a BS artist — always upside, never a downside — the first sign of a hustler or spruiker trying to pull one on you. This time it’s Fairfax doing it, most likely on the behest of real estate interests and the banks running advertorial press releases to create more ‘consumer confidence’ in the public to borrow even more from them — they never want the party to end, do they?

    www. housingaffordability.blogspot.com

  6. Norman Hanscombe

    We’re Latter Day Lotus Eaters, Adam, so naturally all unpleasant realities are either ignored or blamed on (usually ‘evil’) others. We sometimes make Nero look like an energetic Fire Warden.

  7. Band In A Box

    Dear Kevin & Julie

    Will you both please keep your posts to two or three paragraphs or less? Most of us out here only have time for a 60 second read while yours took 5 minutes. Not all of us have the concentration powers of Adam’s new mate.

    Great article Adam!!!

  8. Norman Hanscombe

    band in box, the lengthwasn’t the problem,it was the content.

  9. Band In A Box

    For example, like what?

  10. wbddrss

    Your points about too much debt in a housing boom & secondly too much reliance on emerging markets for our exports is noted.

    I like your apolitical style in which you professionally do not glorify or reiterate the slogans of major parties flaunting their economic credentials.

    The liberal party subscribes to the view that their economic management :

    a) created an industrial relation environment that helped small business flourish;
    b) implemented reforms to increase productivity & reallocation wealth for a more productive economy
    c) other measures around stable government etc blah, blah

    The Labour party responds with :

    a) economic reforms of Bob Hawke & Paul Keating
    b) mining boom after 2001
    c) anything else that has nothing to do with liberal party, such as harsh recession under Bob Hawke & Paul Keating meant that a leaner economy could better compete on world stage..

    One small problem is that you do not articulate Australia’s strengths since 1990 which kept Australia from not experiencing any statistically significant -ve economic growth.

    Indeed I hypothesize ecommerce & trends in utilisation of internet with uptake of software & changed buying habits is the reason Australia has been so successful since John Howard took power 20 plus years ago. I am posting this point of view as more informal awareness may help Australia whereas more formal recognition may lead to foreign entities adjusting themselves and taking away Australia’s unique advantage, such as SGX taking over ASX.

    The following I believe addresses the point of why we have not had a recession in quite a period of time. The recent GFC is no exception, so any claim that Reserve Bank & treasury pulling levers made an impact is I think a too narrow an interpretation and there are other factors at work keeping Australia out of recession.

    1) Mining boom started when commodity prices bottomed about 2001. It is still going now and will continue a long time as it takes some mines/infrastructure > 10 years to reach completion. Hence mining boom cannot fully account for Australia’s long term economic performance in missing out on a recession.
    2) Australia has deindustrialised to such an extent that when industry/consumers get on the internet or use ecommerce to compare prices to buy goods the productivity advantage goes to Australia.
    3) The internet took off about 1991. Is it such a coincidence that Australia stopped having recessions during period internet gained significant market penetration as a piece of infrastructure.
    4) Immigration only provides for economic benefits up to point where infrastructure limitations does not create dis economies of scale rather than economies of scale. Immigration is only part of Australia’s economic success story.
    5) I propose it was Australia’s unique strategic fit of its internal capabilities to the global economy which was impacted by long term trend of increased usage of internet to lower costs & improve productivity. Australia as a exporter of primary products & importer of finished goods is in the unique position of not having its local manufacturing being cannibalized when consumers get onto internet to compare prices. In Gold mining industry cyanide may be an imported raw material which disintermediation( squeezed margins of suppliers) allows for lower prices for gold mining companies who get benefits of using internet to procure & quickly get advantages of lower prices. This is just an example.
    6) The political party willing to champion infrastructure which facilitates Australia’s strategic position in the global economy is the political party who should govern Australia.

    7) The NBN is important for future ecommerce, especially real time support services by voice & image. For example technical difficulties of cyanide in CIL could be resolved by voice & image without waiting two weeks for a meeting. This is just one example.

    I respect your analysis & wish all Australians well in dealing with the consequences of your thesis. However I expect as long as Internet keeps on having a significant impact along with our workforce adapting to new infrastructure(NBN) initiatives Australia will continue to escape 2 or more quarters of -ve economic growth.

  11. Norman Hanscombe

    wbddrss, re your points above.

    1) The importance of the mining boom is so patent, discussing it further is trivialising the

    2) The real role of Australia’s deindustrialisation is that it has enabled us to use massive resource incomes to provide the o/s cheap consumer goods which give us (for the time being) a wonderful lifestyle. Even when we ‘rode on the sheep’s back’, the wool bonus was used to subsidise inefficient Australian industries rather than inflate life styles even further’. The internet ‘role’ is trivial by comparison.

    3) You show no reason for believing that the 1991 coincidence was any more than precisely that — a coincidence.

    4) Immigration is (as you say) only part of Australia’s economic success story. So?

    5) Of course (as you say) “it was Australia’s unique strategic fit of its internal capabilities to the global economy”. What you under-estimate is the major role of such factors as our resource sales and internal banking structures, which far outweighed our relative internet ‘capacities’, where we could hardly be deemed world leaders at that time.

    6) Your 6th point is, as they say in the classics, very interesting — but?

    7) Your claims re the NBN rely on your faith, but this 6th point is hardly compelling argument for it being the wisest course.

  12. wbddrss

    Hello Norman

    Kind Sir
    what I am seeking is not so much a concise description of economic history but a list of parameters or factors or variables that will explain why Australia compared to rest of world, in particular OECD countries, did not experience -ve economic growth for 2 or more quarters. Whatever definition you wish to chose.

    Also give a clear definition as to when you feel a commodity boom starts and stops as we did not have a commodity boom for all of those years. I chose a graph of the up take of the internet which had a point of inflection of about 1991. It started to rise rapidly about 1991 onwards.

    I was in a position doing environmental scanning & was asked consistently to seek academic research to account for endless rising taxation revenues for that period and seek help with projections into future.

    During the global financial crisis I expected to get much more than three quarters of -ve economic growth. Most economists account for this by a commodities boom & a ramping up of Government spending by the Commonwealth government.

    I respect your views & I seek a better hypothesis for the continuous underlying strength other than commodities etc. Remember most of the economy is services. Also Australia experienced a -ve balance of payments over the same period. How could exports be a driver under those circumstances.

    Something internal no doubt.

    I await your answer hoping to glean more truth about why Australia performed so well during the period after 1991.



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