Global Development: The Long-term Context of Australian Development
I am going to say a few things about the current state of the
Australian economy and the international dimensions of that and then I am going
to share with you some work in progress and things I am thinking through on big
longer term developments in the global economy that will feed back strongly
into Australian opportunities and challenges.
For the moment, these are hard days for the majority of
Australians who mainly depend on work for their livelihood.
Wednesday’s national accounts tell us what analysis told us to
expect: real income of Australians has fallen for two quarters in succession.
Our population growth makes that a large fall in average income. Regrettably,
there is much more of that to come.
Your real income may have increased if you have many more
assets and income from them than the Australian average. But for most
Australians, employment and wages mainly determine the standard of living. Many
others in small business have fared about as well as wage earners. The ratio of
employment to population has sagged continuously since the China resources boom
went into retreat in the third quarter of 2011. Real wages have fallen over the
It is worse if you are young. Youth unemployment has grown
much more rapidly relative to total unemployment than in earlier downturns.
Dog days indeed.
The good news is that the exchange rate is
again heading down and wages are not rising to compensate for the associated
rise in domestic prices. After the mismanagement of the China resources boom
from 2003, the average Australian standard of living has to fall if we are to
restore full employment and share equitably the pain of the dog days.
The fall in Australian living standards was rendered
inevitable by how we managed the salad days—inevitable, but let no one kid
themselves that it is easy for the people most affected by it. A wise
government led by a wise society would be thinking of how it could cushion the
blow to ordinary Australians by ensuring that discretion favours equity
whenever there is a choice between policies with different distributional
We have had a big productivity growth problem since the early
years of the century. Don’t kid yourself by looking at labour productivity
changes that are boosted by the huge investment levels of the resources boom.
Capital has a cost. What matters most for sustainable increases in living
standards is total factor productivity, and the latest numbers give us no
reason for joy.
It is not an easy matter to define the policies that can
contribute to re-establishing substantial growth in total factor productivity.
It is harder still to build support for productivity-raising reform and to make
it work in practice. I talked about candidates for reform in last year’s book, Dog
Days: Australia after the Boom. There are no quick fixes. Policies to lift
total factor productivity have to be thought through carefully and implemented
steadily over many years.
We have a long-term budget problem—a big one. We should be
making sure that we are not doing anything to make it worse, that we are aware
of how much ground we have to cover and planning and gradually putting in place
the policies that will cover that ground.
But the priority for the immediate future is to restore enough
growth in economic activity to stop the deterioration in employment relative to
population and to start the repair. Apart from its importance to the living
standards of ordinary Australians, this will do more than anything else to
improve budget outcomes in the next couple of years. It will also help to
re-establish a political basis for productivity-raising reform.
The centrepiece of a program to restore sustainable growth in
employment is a big real exchange rate depreciation—a big fall in the nominal
rate, without the price effects of depreciation being passed through into
wages. Avoiding wage increases in these circumstances is important enough to
make the Senate discussion of Defence Force pay and conditions a factor in the
battle for restoration of full employment. Jacqui Lambie has full employment in
More than half a century ago, my athletics coach at Perth
Modern School, Jerry Hare, used to teach me that time wasted over each hurdle
was time wasted in the race. We have wasted a couple of years above the
exchange rate hurdle. We now have to get the front foot on the ground quickly
so we can start running towards the next hurdle. It is nearly two years since I
first put a number on the amount of real depreciation that was necessary for us
to return to sustainable growth in employment. I said 20 to 40 per cent from
the US$1.05 at the time. Twenty per cent would be 84 cents. We reached that
number just minutes after the ABS released the national accounts on Wednesday
and returned there yesterday. That is good news.
The middle of my range was 73.5 cents, and the most that might
be required was 63 cents. That is the fall in our dollar. Excellent modelling
by Janine Dixon and her colleagues in the Centre of Policy Studies at Victoria
University for the Melbourne Economic Forum in July suggests that the middle of
the dog days range is the real depreciation that we will need to restore full
employment sustainably. With the depreciation of other resource currencies, the
yen and the won against the dollar; the time wasted above the hurdle; and the
limited response so far of investment in the trade-exposed industries, the
middle of the range now may not turn out to be low enough.
Let us not waste any more time floating
over the exchange rate hurdle. Let us decide to deal with any concerns about a
housing bubble in the right way, with housing measures—first of all the removal
of the irresponsibly low risk weightings for housing lending in assessment of
the banks’ capital adequacy. That will free the Reserve Bank to set official
cash rates according to the needs of the economy as a whole rather than the
risks of housing. That means moving cash rates down towards the lower levels
currently in developed economies in the northern hemisphere. That is what will
bring the exchange rate down.
Let me say one more thing about my old sports master Mr Hare,
lest the modesty of my own achievements on the track encourage doubts about his
authority. Jerry Hare had also been the coach of Chilla Porter, whose legendary
struggle with American world record holder Charles Dumas in the high jump at
the Melbourne Olympics kept us glued to our radios late into the Perth
afternoon, as the evening shadows dimmed to night at the MCG before the lights.
Most of you here are about my age, so you will remember how the previous
Olympic record was equalled or broken 10 times before Dumas climbed half an
inch higher to victory. Chilla’s son, Christian, is a member of this parliament
and can share more of the story with you.
So, when you hear Mr Hare telling you not to waste time over
the hurdles, you had better take note of his advice.
I thought I would get the dog days out of the way at the
beginning so that I could spend most of the lecture on longer term global
development issues, with some reference to how these affect Australia. The rest
of the lecture will focus especially on one big question of global development
and its effects on Australia: how global savings have been tending to exceed
global investment in the twenty-first century, how this has led to
unprecedentedly low real interest rates for long-term debt, and how new
approaches in the developed countries to public investment at home and abroad
are necessary to secure full employment in the developed countries. Judicious
developed country investment in income-earning infrastructure in the developing
countries can accelerate growth in the latter at a crucial time.
I find it useful to think of the world economy as having three
parts. Obviously every country and every part of every country is unique, but
we have to think in broader categories if we are to speak of the world as a
whole. So, I find it useful to think about developed countries, developing
countries and underdeveloped countries. The developed countries are those like
us, which enjoy the high living standards that come from full absorption of the
benefits and effects of modern economic growth. Ordinary people in all of the
developed countries have standards of living—of consumption, of material
comfort, of health and longevity—in many ways beyond those of elites of any
earlier generation of humanity. For all of our problems, being in the developed
countries of 2014 is a good place to be.
And then there are the developing countries, which are most of
the world’s people, which have put their foot on the escalator of modern
economic development and are moving towards the income levels and material
standards of living of the developed countries but at varying rates. Most that
get on that escalator on average keep moving, but at different paces and with
bumps in the road, with quite a lot of thought being given to what will
determine whether they eventually get there. And then there are the underdeveloped
countries, which have not succeeded in putting their foot on that escalator.
The developing countries are experiencing growth in living
standards at varying rates, but usually at considerable rates and on average
much faster than the rate of increase in living standards in the developed
In the underdeveloped countries, on average, there is no
growth in living standards at all. Here we are talking of around a billion of
the seven billion members of humanity. I found very useful and interesting Paul
Collier’s book The Bottom Billion, talking about the phenomenon of the
underdeveloped countries. Most of those are in Africa; some
are in our immediate region—I will come back to that.
I see the only stable end point of global development as being
the whole of humanity joining in the high standards of living that people in
the developed countries currently enjoy. Obviously, there have to be major
modifications of that or the pressures on resources would destabilise
everything, not least through anthropogenic climate change. But all the
technical means are available to reconcile one day all of humanity having the
standards of living that we enjoy without destabilising the fundamentally
important dimensions of the natural environment.
It will be a standard of living with different components.
Obviously, there will be much less consumption of fossil fuels—at least without
major measures being taken to abate their environmental consequences. There
will be different patterns of consumption. But everything we know about
development and the way that humans can gain satisfaction from modern invention
tells us that what I call the maturation of economic development is possible.
Not only is it possible; it is the only stable end point of modern economic
For the developed countries, while our material standard of
living is high compared with earlier generations of our species, we
nevertheless are facing challenges of a kind that most people in developed
countries have not faced for a very long time. We have seen in virtually all
the developed countries, stagnation in living standards since the Great Crash
of 2008. And yet everywhere there is still an expectation of each generation
living better than generations before—an expectation created in earlier eras of
economic development. So the stagnation in living standards is the source of
some disappointment and tension.
In all the developed countries, there has been a marked
slowdown to very low levels in productivity growth since 2000. In the most
advanced countries, productivity growth since 2000 is proceeding less rapidly
than at any time at the frontiers in the leading countries since the early days
of modern economic development from a millennium ago. This has been the subject
of some discussion in the economic literature.
A famous paper by Robert J. Gordon published by the National
Bureau of Economic Research in the United States has put forward the data and
some hypotheses that in his view suggested we may not see again the rises in productivity
and therefore of living standards that we had seen in earlier periods of modern
It is worse than that for ordinary people in many developed
countries, and in the United States, living standards of people at the median,
in the middle of the distribution, are actually lower now than they were three
decades ago. It is not quite so stark in Japan and Europe but it is heading in
In Australia and in other English-speaking
countries plus Spain, the consequences of low productivity growth were masked
for a while by an extraordinary housing and consumption boom from the turn of
the century to the Great Crash of 2008 that was unsustainable. It was funded by
our banks borrowing abroad in wholesale markets. It had to come to an end.
Well, it came to an end in cataclysm in other developed countries. It didn’t
end in catastrophe in Australia. The better end here was partly a result of
quick-footed policy, but that policy was only viable because of our special
fortune in being beneficiaries of an extraordinary China resources boom—the
strongest period of growth over a long period in any country ever, in a country
that happened to be the world’s most populous country and the most energy and
metals intensive growth that any country has ever had. That all generated
growth in demand for those commodities which Australia was especially well
placed to supply.
So that postponed the effects of declining productivity on the
Australian community until all those changes in China changed again. One can
date the second change from the September quarter of 2011. The change was not
so much a reduction in the Chinese rate of growth. There has been a reduction
of a couple of per cent in the average rate of growth in China since then, but
much more importantly there was a change in the nature of Chinese growth. From
2000 to 2011, Chinese growth was more investment intensive, more energy and
metals intensive than growth anywhere has ever been. This was part of a
brilliantly successful growth strategy that turned China into a great economic
power and raised average living standards of most of its people by large
amounts. But this pattern of growth had adverse consequences, to which there
were political reactions and which led to a reshaping of priorities.
One consequence was the old pattern of growth was associated
with rapidly widening inequality in the distribution of income. The Chinese Government,
by 2011, had decided that that needed to be corrected. The old pattern of
growth had to be modified. And the old pattern of growth was very damaging to
environmental amenity and stability, both within China and in the world as a
whole. And so, local and global environmental amenity became an important
objective of Chinese policy. The Chinese economy is a big ship. It takes a long
time to turn around. You see discussion of new policies going back as early as
The new approach was embodied in the 12th five-year plan from
2011 to 2015, and during that period we have seen more and more policies put in
place to reflect the new priorities in China. With each passing year, these new
policies have stronger effects, and these effects have been apparent in the
statistics on Chinese development since about 2012. Broadly, the changes that
the Chinese Government wants in the pattern of growth are being implemented
successfully. It is very hard; there is resistance politically from parts of
the Chinese polity. Some things can and will go wrong, because you can’t make
change on that scale without taking risks with economic stability. But so far
you would have to say the changes are in the direction the government is
One consequence is that what had been extraordinarily rapid
growth in Chinese demand for metals and energy turned into more moderate growth
in demand from 2011, especially from 2012. In fact, for the two central
commodities in our resources boom—coal and iron ore—there is now very little
growth at all, and looking into the future there may be relatively little
growth. So in the first decade of the century Australia had
a big cushion against some of the challenges that were facing other developed
countries, but that cushion has been pulled away in the last few years. It is
still being pulled away—and we are going to take a while in getting used to the
consequences and managing the consequences of all of that.
I see a marked slowing of productivity growth as an underlying
problem of the developed countries—which means we can’t rely on average incomes
rising in the future as they have for many generations. But there are other
changes going on that are also putting stress on the developed countries. For
productivity, there are things that we do not understand about where it is
likely to go next. There is even a question of whether we properly can measure
productivity, because in some areas of our life we have had new commodities and
new services that greatly improve the quality of life, but those qualitative
factors are not properly represented in the statistics. But nevertheless,
measured well or not, the reality of low and—in the case of Australia since
2005—negative total factor productivity growth of the traditional kind means
that there is much less incentive for investment, business investment, in
activities of the traditional kind, giving employment of the traditional kind.
Levels of business investment have been low this century, and especially since
the Great Crash of 2008, in all of the developed countries.
Amongst the other challenges, a common theme across all the
developed countries is the consequence of ageing. People are living longer and
having less children and, as a result, average age of population is growing
very rapidly. In the early years—and this looks like it is going to be a long
period in most countries—that leads to increases in savings rates, as people
prepare for longer retirements.
So we have lower incentives for business to invest, lower
investment, at the same time as we have higher savings. And since the Great
Crash of 2008 we have seen both household and government tendencies to save
more, and in the case of governments there has been a fairly general wish to
consolidate budgets, to reduce deficits, in response to the increased
indebtedness that was incurred during the financial crisis. And, in the case of
private households and businesses, there has been a tendency to want to reduce
debt, for precautionary reasons, after the disruption of 2008.
A combination of all of these things is leading to
substantially higher levels of savings and substantially lower levels of
business investment, and that means a tendency towards reduced demand in all of
our economies, higher unemployment and lower economic growth. So that is a
common story across the developed countries. The consequences of ageing are not
as severe in those countries which have high levels of immigration, and
Australia is one of those. In fact, Australia is in the front of the developed
countries for that, but the factors behind the tendency for savings to run
ahead of investment are important even in those countries.
One consequence of higher savings and lower investment in the
developed countries as a whole is tendencies to lower interest rates. There is a bit of a tendency, after the global financial
crisis, to see a period of very low interest rates as simply being part of the
process of recovery from the financial crisis, to see the central bank
interventions keeping cash rates low, short-term interest rates low. In the
case of, at various times, Britain, Europe, Japan and the United States, a new
phenomenon called quantitative easing has been introduced, where central banks
are exchanging assets that can be turned into cash as they buy back government
bonds from the private sector. Quantitative easing has been putting more money
into the community with a view to reducing interest rates and encouraging
There has been a tendency to see lower interest rates over the
last half-dozen years as being significantly a result of the crisis and to the
policy response to the crisis. But I think there is a fair bit of evidence that
more than that is happening—that we are entering a world in which long-term
interest rates are much lower on an ongoing basis than they used to be. The
most common long-term government security in most countries is a 10-year bond,
and the interest rates on the 10-year bond are lower in real terms than they
have ever been in almost all of the developed countries: last night, at 2.23
per cent in the US; 1.99 per cent in the UK; 0.77 per cent in Germany; 0.44 per
cent in Japan; and, this morning in Melbourne, 3.01 per cent in Australia. That
is the rate at which the private sector is prepared to lend to government on a
10-year basis, and in some of these cases these are negative rates in real
terms. We have not been in this territory before. But we were actually getting
into it before the financial crisis.
Amongst the evidence for that, you might remember the
celebrated, now discredited, Chairman of the Federal Reserve, Alan Greenspan,
talking, about a decade ago, about the conundrum that the Reserve was trying to
raise interest rates by raising the cash rate and finding that long-term
interest rates did not move at all or actually fell. I think we can now
interpret that as an early sign of this new world in which the weight of
savings in excess of investment was depressing long-term interest rates. And,
recently, we have had the United States Federal Reserve withdrawing
quantitative easing, withdrawing the unusual monetary policies of buying up
government bonds. But long-term interest rates have actually fallen since they
stopped quantitative easing. So we are in a new world of, I think, for a long
time, if not permanently, much lower long-term interest rates.
Now, being in this world has a lot of consequences. One is a
very fundamental consequence for the distribution of income within societies.
Some of you may have read the celebrated recent book by the French economist
Thomas Piketty, Capital in the Twenty-First Century. It has been the
best-selling economics book of our time. If you take the first couple of years
after publication, it is, I think, the best-selling economics book ever. Not
many people bought and read The Wealth of Nations in the first few
years! Piketty argues that we are in for a world, in future, of widening and
widening inequality and income distribution because we are going to have a rate
of interest above the rate of growth—that those who already have capital will
be accumulating it at that high rate. He notes a lot of historical data that
shows that there has been a tendency for rates of return on low-risk
investment, like government bonds or land, to be around four to five per cent
in real terms, after inflation, right back to the eighteenth century; and he
quotes extracts from Balzac and Jane Austen to show their principal characters
talking about the wealth that the man you marry will have to have if you are
going to live in the style a gentlewoman wants to live in—and that is all
premised on long bond rates or yields on land assets of around four or five per
cent in real terms. Piketty says that will stay there like
that forever, and therefore we are entering a period—and he talks about
structural reasons why this will be the case—where inequality will grow wider
and wider and we will be back to the inequality of the Belle Époque in Europe.
That is a very different perspective from that of a number of
other economists. The greatest public intellectual of the twentieth century,
John Maynard Keynes, wrote a couple of important things in the 1930s that
talked about this issue: what will happen to the rate of return on investment
into the long-term future? He came to this theme in two places—an essay in his
lovely collection of essays, Essays in Persuasion, and then in the last
chapter, chapter 24, of his main book The General Theory. He talks about
modern economic development being so productive that there will be productivity
growth for a long time. He sees quite a lot of income being saved, especially
by current owners of capital. So he says that, so long as we do not make a mess
of it with war—well, there was a big war just a decade after he wrote it (or
unnecessary depressions) and he wrote a book about how we could stop having
them—then the long-term future for the global economy is one in which capital
is abundant. The rate of return will fall to very low levels. There will be no
special advantages in income for those who have a lot of capital. For those who
are interested in the important things of life—and he would have had in mind
the London opera and French champagne—there will be an abundance, so that
questions of inequality will not matter very much. He talked about the ‘euthanasia
of the rentier’—the person who earns income simply from ownership of
capital—with the rentier ending up not having a substantial income. The world
he points to is almost the opposite of the world that Piketty anticipates in
If you look at the data in the last decade, it looks a little
bit as if Keynes was right. Well, that is only a bit of the story. Keynes had
some weaknesses in his view of the world, but the big one was that his world
was the world of, if not England, the developed countries—for some purposes the
Empire, but not much the colonies of the Empire. Even his interest in
Continental Europe was constrained. Friedrich Hayek once criticised him for not
being interested in anything that was not published in England. But certainly
Keynes did not see a world in which China and Indonesia and India would be
enjoying the living standards of the developed countries. If he had, then he
would have had to have wondered about whether this huge abundance of capital
would come for the world as a whole so early. That was a gap in his thinking.
Those are the economic challenges of the developed world.
I will say a little about the developing countries. I have
talked a lot about China already. For the purposes we are talking about, we
should think of China as a developed country. I think it will be in the range
of incomes of developed countries within a decade. It has the tendency towards
savings over investment like the developed countries. In all of the developed
countries—and I am including China in that category—to maintain full employment
and economic growth in the period ahead, you are going to need a lot more
investment promoted by the public sector. In some
countries, there will be opportunities for that to be in infrastructure, but in
many countries we will have to see large-scale investment in income-earning
assets in the developing countries if we are going to see significant yields on
investment. And that will be helpful to maintaining employment and economic
growth in the developed countries.
If this starts to happen, we will see a tendency towards net
exports exceeding imports in the developed countries, capital outflow into
income-earning development activities in developing countries and greater
activity for employment in the export industries in the developed countries.
I think that is the way the developed world will need to shift
for its own development reasons and it will be highly advantageous for the
developing countries. And there will be opportunities in the developing
countries because those developing countries that have put their foot on the
escalator of modern economic growth—the big ones being India and Indonesia, but
lots of others—have the capacity to absorb a lot of that sort of capital.
It is a bigger challenge in the underdeveloped countries,
roughly corresponding to Colliers’ Bottom Billion. Today, the bottom
billion include all of Australia’s island neighbours in an arc of instability,
intensifying poverty, high fertility and population growth, at least through
Papua New Guinea to Fiji. Collier did not include Papua New Guinea in his
bottom billion in 2007 and the persistence then of the struggle for good
governance within the leadership justified his hesitation at that time.
Regrettably, there is a Gresham’s law of corruption in a country with weak
institutions. When the currency has been debased, bad money drives out good. The
good is forced out of circulation until there has been transformational
Debasement occurred in Papua New Guinea this year with the
serial dismissal of the anticorruption commissioner and a Law Minister who
defended him, of a Public Prosecutor who took his recommendations seriously,
and the replacement of an independent with a compliant Police Commissioner—all
around the question of whether the system of justice should take action when
the anti-corruption commissioner draws attention to prime ministerial breaches
of the law. When the head of government is above the law, there is no rule of
law. The struggle is now over for the time being in Papua New Guinea and the
country’s categorisation as part of the bottom billion is unambiguous.
My observations from experience of development in the island
countries of the south-west Pacific correspond to those of Collier in Africa
and support his main conclusions. Underdevelopment has its origins in problems
of governance, which are far-reaching and intractable. Making headway on the
problems of governance sets a path to development, but it is hard to get
Democracy is often an illusion until institutional weaknesses
have been removed by education and drawing on external institutions. The
exploitation of valuable natural resources can temporarily create the
statistical illusion of development but is usually associated with kleptocratic
corrosion of established institutional strengths.
The magnitude of the challenge does not mean that progress is
impossible—just difficult, requiring institutional stability, wisely directed
institution-building over long periods and often intrusive external support. A
number of bottom billion African countries are making headway in the twenty-first
century so far, led by Ethiopia with large Chinese support for infrastructure
and agricultural and industrial development.
The bottom billion are more important than their current
numbers suggest because much higher fertility makes them a rapidly increasing proportion
of humanity. We could be confident that the global population will be on a
downward path within a few decades despite increasing longevity with all of its
benefits if and only if a large proportion of the bottom billion were headed
towards entry into the ranks of the developing countries.
International support for development in the bottom billion
must take the form of transfers rather than income-earning investments and be
justified on development and security grounds. It can contribute to lower real
exchange rates and net exports, and therefore on employment in the developed
countries, but not to future income for an older population in the developed
Whether we are successful in the maturation of global economic
development with all the benefits that come from that really depends not only
on the continued success of the developing countries but on getting onto the
economic development escalator the people of the underdeveloped countries.
That is a hard task and, failing that, we
cannot even be certain that the proportion of people on earth enjoying high
living standards will increase over time, even if countries like China and
Indonesia and India are growing very strongly. There is a danger that a failure
of development in the bottom billion will catch humanity in a Malthusian bog.
Rosemary Laing — Thank you very much, Professor
Garnaut. No wonder they call it the dismal science!
Ross Garnaut — Our profession was given that name by
the historian Thomas Carlyle because the classical economists were deadset
against slavery. They thought it was a terrible institution that defied all of
the premises upon which they did their work. Carlyle was a defender of
established institutions, of which slavery was venerable and had widespread
support. Economists were ‘dismal’ because they said that that venerable
institution had to go.
Rosemary Laing — I stand chastened! It is a very
depressing picture you paint of the developing world on our doorstep. And from
a parliamentary point of view I know that a great deal of work is being done by
this parliament and Australasian parliaments generally in capacity-building in
our south-west Pacific neighbours to try to help create the institutions that
will strengthen governance and accountability in those societies. I know this
is a very broad question, but a successful economy does not have to have its
base in democratic institutions, does it? Would you care to comment on that
Ross Garnaut — That is true; it does not. And of course
China is the exemplar of that point. We do not know if we can have a successful
developed country without democracy. We will learn that over the next decade or
so in China. The Chinese leadership, under the General Secretary of the
Communist Party, Xi Jinping, is setting out to improve the Communist Party, to
constrain corruption, which is seen by the Communist Party leadership as
undermining support and legitimacy, making it more efficient and effective. And
I think the model that he has in mind is a model of the platonic guardian. Now,
Karl Popper in his great book The Open Society and Its Enemies
identified Plato as the source of enmity to the open society. He contrasted the
platonic view of the world with the democratic open society, where you had
government by an elite—and Plato, with his aristocratic background, an
aristocratic elite—that had the interests of the community at large and
governed benevolently in the interests of the community at large.
Well, I think Xi Jinping was seeking to build a Communist Party
around that ideal of autocratic government. We do not know if that will be
successful. If it is successful, it will be a very big
challenge to democracies which are going through problems of political culture.
In China and in Australia we both face problems of maintaining
integrity in government, maintaining public purpose in policy-making, against
the pressures of private interests as private interests become less constrained
in the pressure that they apply to public policy-making. You see in our current
Senate manifestations of those pressures of a kind that we would have thought
that we would never see. In recent times, we have seen an influence of vested
interests in the policy-making process that certainly is larger, less
constrained, more effective, at least than in the late periods of the twentieth
century, where public policy and the public interest seemed to be more firmly
If Xi Jinping succeeds and our own political systems continue
to be more deeply corrupted over time, it won’t be felt as an existential
challenge to our own form of government in our own society—there will be deep
commitment to our democratic institutions in our society. But in other
societies that are still making up their minds about political systems, then a
successful China will not look so bad against corrupt democracies.
I think we can do much better than we have in recent times. I
think it is the responsibility of all of us to make sure we do much better than
that. I do not think that Xi Jinping’s challenge is an easier one. He may very
well fail. We just do not know if you can have an autocratic, developed, market
economy that he is seeking to build. That is very important.
I think that when you speak about the pessimism you are
thinking about the small countries of the south-west Pacific. I cannot see any
system of government that is more certain to work in the interests of broadly
based development than a democratic one, in the south-west Pacific. One can
dream of a Leninist state emerging and sponsoring effective development like in
Ethiopia. One can dream of an efficient—a more or less efficient—military
government along the lines of the Suharto regime, in the period leading up to
Indonesian democracy, but I think these are foolish dreams in the south-west
Pacific. I think that for all of their weaknesses the challenge is to make
current institutions work. But let us recognise that current institutions are
not working, that there are profound problems, that we Australians have stood
by and watched with little demur the disintegration of the rule of law in Papua
New Guinea this year. So I think that is a problem for all of us.
Question — You referred in your speech to the housing
bubble. In terms of this problem, do you perceive it to be something that regulators
should be interested in because it detracts from productive investment or
because a correction will create volatility, and whether you think we have got
to the point where it is a lean or clean decision and, lastly, whether you
think the macro-prudential regulation we have seen in New Zealand is suitable
Ross Garnaut — My view of the
housing problem is a very simple one: the economy as a whole needs lower
interest rates, which will bring about a lower exchange rate. Some people say,
and some readings of what the Reserve Bank has said, suggest that they think
that the constraint on lowering interest rates is that we have got a bubble in
the housing market. I am not so sure, but I sure don’t want worries about a
bubble in the housing market to stop us from lowering interest rates when the
rest of the economy needs it. So, if there is a housing problem, deal with it
in the right way, with a housing solution—and a form of macroprudential
management of the housing sector is the right way of dealing with it.
My first priority would be normalisation of the extraordinary
arrangements we have for risk weighting, for capital adequacy purposes, of bank
lending for housing, where banks really have a considerable discretion in how
they weight the risk of lending to housing, which means that you have much more
highly leveraged lending for housing than for other activities. Banks make a
lot more money as a return on investment of lending to housing than to anything
else for this reason, and so you get an artificial focus of lending in that
So I am all in favour of cleaning up that weakness in our
regulatory system, which will free the Reserve Bank to reduce interest rates
and to thereby bring down the exchange rate so we can get over that hurdle,
start employment growing again, and then we can turn our minds to the harder
and longer term issues of productivity and the budget.
Question — Staying on housing: the Chinese problem
about the vacancy rates in building and housing—what is going to happen there?
Ross Garnaut — I do not know much more than the
analysts who follow those specific issues and write about them have been
saying. I myself do not see a likelihood of a major disruption of growth in
China. The most important thing, from Australia’s point of view, that is
happening in China is the structural change, which is intended and which is
working as intended, which is reducing growth in demand for iron ore, for coal,
for some of our other energy and metals products. I think that that will be
more. That planned structural change is of more fundamental importance for
Australia than the problem of the housing market.
China is now to a very large extent a market economy, and
market economies spring surprises; and it would be surprising if some of the
surprises to Chinese development are not large, now that it is a market
economy. So this might be the first of the big ones, but my basic judgement is
that it is not a fundamental threat to ongoing growth in the way the Chinese
leadership wants it to unfold.
Question — Just very quickly, following up from the G20
and particularly the finance ministers’ G20—I am not sure if they are F20 or
what—something called bail-in provisions. There seems to be some very low level
chat going around and very bad press on the extension of something called
bail-in provisions, globally. Could you comment on that and is it something we
ought to worry about?
Ross Garnaut — Well, I like bail-in provisions. Bail-in
provisions are a way of ensuring that if banks run themselves imprudently and
get themselves into deep trouble and we have to bail them out—as we will
because it will damage the rest of the economy if we don’t—that their
shareholders pay a fair bit of it, rather than the rest of us. And, naturally,
existing proprietors of banks do not like the idea of them being the big losers
if they have to be bailed out with government guarantees or government
provision of capital.
I think it is important to set out the
rules for a bail-in, well in advance of a crisis so the managers of banks and
their shareholders know the consequences of running too close to the wind. If
we had that we would see less running close to the wind; it would be less
likely that a future prime minister will be called upon to do what Kevin Rudd
was required to do one October afternoon in Canberra in 2008, and extend a
blanket guarantee to all of the wholesale debt of all of our banks, and put on
the balance sheet of the Commonwealth of Australia, $178 billion of contingent
liabilities. We do not want that to happen again. It is less likely if we have
careful plans, set out in advance, of the conditions under which the Australian
Government will bail out the banks.
Question — Ross, I would like to draw you out a little
bit more on the medium to longer term trajectory of growth in the Chinese
economy, because it is obviously so important, as you said, to the global
economic outlook, but particularly to the economic environment in which
Australian policy will have to be made over the coming five, 10, 15 years or
so. The expectation that I heard in your presentation was for China transiting,
effectively, to high income levels in the next decade or a bit more. But you
raised some questions in response to a question about the governance system
that will make that effective.
China has a lot of problems, including the problem of growing
old before it has become rich. We have seen that advanced economies have not
been too successful in reforming the social and economic institutions to manage
that problem. So I would like to hear a little bit more about how you think
China is going to effect that transition into higher income levels over the
next decade or so, and manage the sorts of problems implied in that aphorism.
Maybe—because that is too easy a question!—you can tell me a little bit about
what you think about where India is going too.
Ross Garnaut — India first, or I will forget if I give
a long answer about China. I think that modern economic growth, internationally
oriented, is now pretty well established in India. They have got the problems
of a democratic polity—good problems to have, but they are real, large. They
have got problems of money and politics like we do and like the Indonesians do.
That makes it difficult, sometimes, to introduce first best policies in the
public interest. One consequence of having those policies now is that there is
not so much uncertainty about political transition as there is in China.
But I think we are likely to see a continuation of reasonably
strong growth in India. The short-term challenges are very large. Some of the
external payments and public debt issues are quite large. I think India could
be helped a lot by large-scale investment in infrastructure from the developed
countries and China. So I think the Indian prime minister is wise to be as
positive as he is about China’s proposed Asian Infrastructure Investment Bank.
I think that that type of thing—that type of institution, that type of
lending—can make a very big difference to India. India needs a lot of
international capital. It does not need a lot of short-term, volatile capital;
it needs long-term investment in things like infrastructure. So that would
reduce the risks.
The cooperation between China and India on this question
improves the chances that India will come smoothly through the challenges
ahead. It is hard for India to grow as fast as China for a lot of reasons. It
is a very different society. You do not have the capacity for central control.
You might never have had it. The Qing emperor had a different kind of control
to the Mughal emperor. And tendencies in the Chinese society lend themselves
more easily to very high rates of savings, which were the motor of that
extraordinary period of growth in the first 11 years of this century. But,
nevertheless, there is a basis there for reasonably strong growth.
On the China questions, when you give a
brief discussion of China’s long-term prospects, then it comes out glibly, and
I do not want to be glib about the challenges that China faces. But my feeling
is that all of the purely economic problems are manageable and are more or less
in hand. On the problem of ageing, China has been making a big effort in recent
years to put in place a broadly based social security program, including large
transfers to low-income people in rural areas. There is a very large problem of
differential access to basic services in different parts of the country—a very
strong urban bias. The current policies are putting quite a lot of effort into
correcting that, which is quite important for the issues that you are raising.
If those changes work, those reforms, you will have some easing of the labour
constraints with people from rural areas able to work for longer in urban
I would see the biggest challenges to China’s transition to
being a developed country being the challenges of managing the political
pressures that will be associated with continued rising incomes,
internationalisation of information. And I think we are in unknown territory. I
do not know how manageable those challenges are going to be.
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