For pretty much all of Australia’s modern history, our strategy for getting more prosperous was to be a “net importer of [investment] capital” from the rest of the world. But four years ago, that was turned on its head, and we became a net exporter of investment capital.
If you think that doesn’t sound like a good thing, I agree with you – though probably not for the same reason as you. I think it does much to explain why the economy – and the productivity of our labour – have grown so weakly over the past decade. And are likely to continue growing slowly once the Reserve Bank has beaten inflation out of our system.
How come you haven’t heard about this historic turnaround? Because, though economists hate to admit it, economics is subject to fashions, and for many years they haven’t been much interested in talking about what’s happening in the economy’s “external sector”, which accounts for about a quarter of the whole economy.
All of Australia’s households’, businesses’ and governments’ economic dealings with the rest of the world during a period are summarised in a document called the “balance of payments” – payments to foreigners and payments from foreigners.
The balance of payments is divided into two accounts, the “current” account and the “capital and financial” account.
The current account shows the value of our exports of goods and services ($171 billion in the latest, March quarter) less the value of our imports of goods and services ($129 billion), to give us a trade surplus for the quarter of $42 billion.
But then it takes account of our interest and dividend payments to foreigners of $57 billion, less their payments of interest and dividends to us of $24 billion, to give us a “net income deficit” of $33 billion.
Subtracting this deficit from the trade surplus of $42 billion leaves us with a surplus on the current account for the quarter of $9 billion.
So, we ended up making a profit during the quarter, as we have in every quarter for the past four years, whereas for almost every year before that we ran deficits. We’ve made some progress.
Is that what you think? Sorry, as the father of economics, Adam Smith – born 300 years ago this year – spent his life explaining, this “mercantilist” notion that a country gets rich by trying to export more than it imports is wrong.
We benefit from importing the things that other countries do better than we do, and they benefit from us exporting to them the things we do better than they do. Economists call this the “mutual gains from trade”.
In any case, like the accounts of every business, the balance of payments is based on “double-entry bookkeeping”, where every transaction is seen as having two, equal sides, a debit and a credit. So, it’s wrong to think that debits are bad and credits are good.
Similarly, it’s wrong to think that the resulting deficits (debits exceed the credits) are bad, and surpluses (credits exceed the debits) are good.
And remember that the “current” account is only one half of the balance of payments so, since the debits and credits are always equal, if we’re running a surplus on the current account, we must be running a deficit of equal size on the other, capital and financial account.
Until four years ago, we always ran a surplus on the capital account, but now we’re running a deficit. But what does this switch actually mean?
It means that, until recently, our households, businesses and governments always spent more on investment – in new housing, new business equipment and structures, and new public infrastructure – than they could finance from their own savings.
(Households save when they don’t spend all their income on consumption. Businesses save when they don’t pay out all their after-tax profits in dividends. Governments save when they raise more in taxes than they spend on their day-to-day activities.)
How can we, as a nation, spend more on new physical investment than we’re able to finance with our own saving? By getting the extra savings we need from abroad. We can borrow it, or we can allow foreigners to own Australian businesses or real estate.
And that’s exactly what we did until four years ago. We borrowed overseas and let foreigners own “equity” in our economy. This is what it means to say Australia was a “net importer of capital”.
Why did we do that? Because we had more opportunities for economic development than we could finance from our own saving, and figured that allowing foreigners to join us in investing in our economy would leave us better off.
The consequence was that, for more than 200 years, our economy grew faster and our standard of living improved faster than if we’d kept everything to ourselves.
So, what’s changed? Why have we switched to being a net exporter of investment capital? Why have we begun investing more of our savings in other countries than they’ve been investing in Oz?
Partly because the build-up of our compulsory superannuation system means we, as a nation, are saving a lot more of our income than we used to.
Now here’s the killer: but also because, particularly since the end of the mining investment boom a decade ago, we’ve been investing a lot less in improving and expanding our businesses.
You wonder why, until the government and the Reserve Bank mistakenly caused the present brief inflationary surge, the economy’s growth was so weak? Now you know.
You wonder why the productivity of our labour’s been improving so slowly? Because we haven’t had enough business investment in new and better machines. Or in research and development, for that matter.
And the main thing we’ve got to show for this deterioration is a current account surplus. You beaut.
