It’s the last lazy long weekend before the year really gets started, making it a good time to ponder a question that’s trickier than it seems: where has our wealth come from?
The question comes from a reader.
“Australia has been without a recession for 25 or more years, the economy seems booming to me, just by looking around: employment, housing prices, explosive building in major capitals, etc. Where is the wealth coming from? Mining? Other exports? Because the resources have to come from somewhere,” he writes.
That’s the first thing he’s got right: it’s not money that matters (the central bank can create as much of that stuff as it sees fit) it’s what money is used to buy: access to “real resources” – which economists summarise as land (including minerals and other raw materials), labour and (physical) capital.
But here’s the first surprise: of those three, when you trace it right back, probably the most important resource is labour – all the work we do.
The first complication, however, is the word “wealth”, which can mean different things. It’s best used to refer to the value of the community’s assets: its housing, other land and works of art, the equipment, structures and intellectual property owned by businesses (part of which is represented by capitalised value of shares on the stock exchange), plus publicly owned infrastructure (railways, roads, bridges and so forth) and structures.
To get net wealth you subtract any debts or other liabilities acquired in the process of amassing the wealth. In the case of a national economy, the debts we owe each other cancel out, leaving what we owe to foreigners. (According to our national balance sheet, as calculated by the Australian Bureau of Statistics, at June last year our assets totalled $15.4 trillion, less net liabilities to the rest of the world of $3.5 trillion.)
But often the word wealth is used to refer to our annual income, the total value of goods and services produced in the market during a year, as measured by gross domestic product (which in the year to June was $1.8 trillion).
The people in an economy generate income by applying their labour to land and physical capital, to produce myriad goods and services. Most of these they sell to each other, but some of which they sell to foreigners. Why? So they can buy other countries’ exports of goods and services.
Only about 20 per cent of our income comes from selling stuff to foreigners and only 20 per cent or so of the stuff we buy comes from foreigners. This exchange leaves us better off when we sell the stuff we’re better at producing than they are, and buy the stuff they’re better at than we are.
Much of what we sell to foreigners is minerals and energy we pull from the ground and food and fibres we grow in the ground. So it’s true that a fair bit of our wealth is explained by what economists call our “natural endowment”, though it’s also true that we’re much more skilled at doing the mining and farming than most other countries are.
Speaking of skills, the more skilled our workers are – the better educated and trained – the greater our income and wealth. Economists call this “human capital” – and it’s worth big bucks to us.
How do the people in an economy add a bit more to their wealth each year? Mainly by saving some of their income rather than consuming it all. We save not just through bank accounts, but by slowly paying off our mortgages and putting 9.5 per cent of our wages into superannuation.
It’s the role of the financial sector to lend our savings to people wanting to invest in the assets we count as wealth: homes, business structures and equipment and public infrastructure. So if most of our annual income comes from wages, most of our savings come from wage income and our savings finance much of the investment in additional assets.
But because our natural endowment and human capital give us more investment opportunities that can be financed from our savings, we long have called on the savings of foreigners to allow us to invest more in new productive assets each year than we could without their participation.
Some of the foreigners’ savings come as “equity investment” – their ownership of Australian businesses and a bit of our real estate – but much of it is just borrowed. These days, however, our companies’ (and super funds’) ownership of businesses or shares in businesses in other countries is worth roughly as much as foreigners’ equity investments in Oz, meaning all our net liability to the rest of the world is debt.
Naturally, the foreigners have to be rewarded for the savings they’ve sunk into our economy. We pay them about $60 billion a year in interest and dividends, on top of the interest and dividends they pay us.
The main thing we get in return for this foreign investment in our economy is more jobs (and thus wage income) than we’d otherwise have, plus the taxes the foreigners pay.
People worry we can’t go on forever getting wealthy by digging up our minerals and flogging them off to foreigners. It’s true we may one day run out of stuff to sell, but our reserves – proved and yet to be proved – are so huge that day is maybe a century away (and the world will have stopped buying our coal long before we run out).
A bigger worry is the damage we’re doing to our natural environment in the meantime, which should be counted as reducing our wealth, but isn’t.
But mining activity accounts for a smaller part of our high standard of living than most people imagine – only about 8 per cent of our annual income.
Most of our prosperity – our wealth, if you like – derives from the skill, enterprise and technology-enhanced hard work of our people.
