BCA warns of supply chain vulnerability

Australia’s ‘Dutch disease’, with strong commodity exports discouraging local manufacturing, has made it vulnerable to global supply chain shocks, a new report says.

Authors of the report, Australia’s export mix, industrial base and economic resilience challenge, include Australia China Relations Institute director Professor James Laurenceson, above. Picture: Hollie Adams/The Australian

Australia’s “Dutch disease”, with strong commodity exports discouraging a local manufacturing sector, has made it vulnerable to global supply chain shocks, a new report by the Business Council of Australia and the Australia China Relations Institute (ACRI) has warned.

The report, to be released on Wednesday, says the success of Australia’s commodity exports such as iron ore, coal and LNG, has held up the value of the Australian dollar which has reduced the role of manufacturing in the economy, making it cheaper to import goods than produce them locally.

“Australia’s unusual trade structure, and the changes it has wrought on the industrial structure, predispose the economy to vulnerability from international manufacturing supply chain shocks,” it warns.

The report, Australia’s export mix, industrial base and economic resilience challenge, was commissioned by the Business Council of Australia and is authored by ACRI director Professor James Laurenceson, researchers Thomas Pantle, Dr Philip Toner and former UTS Business School dean Professor Roy Green.

The report says recent disruptions to international supply chains as a result of the Covid-19 pandemic -which has seen shortage of goods such as personnel protective equipment and computer chips- have highlighted the importance of having more local manufacturing.

“The possibility of international disputes directly or indirectly involving Australia, resulting in disruption to international commerce, also brings attention to sovereign production capacity,” it says.

It says Australia has the lowest share of ‘self sufficiency’ in manufacturing of all OECD countries.

It says Australia’s manufacturing sector has shrunk to the point where it is the smallest of its peers, representing only seven per cent of the economy as compared with an average of 16 per cent.

It says imports now supply 70 per cent of the total manufacturing market in Australia.

“This is indicative of potential supply chain vulnerability,” it warns.

“The vulnerability is especially acute in higher technology industries such as chemicals and polymer products,(including pharmaceuticals) and industrial and transport equipment,” it says.

In these sectors, it says, two thirds of the total demand is imported.

The phenomenon of a successful resource export market crowds out local industry has been described by economists as the “Dutch disease”.

The term was coined in the seventies to describe Holland’s success in exporting gas from its Groningen gas field, which pushed up the country’s exchange rate and had a detrimental effect on other local industries.

The report says Australia is alone among its peers in being so reliant for its exports on one single commodity, iron ore, with a small number of other commodities also dominating.

It says this is a very different picture to many other countries which have a much wider range of exports.

“Australia is a clear outlier when it comes to export product concentration, with primary goods accounting for more than 80 per cent of total Australian goods exports- eight times the peer average,” it says.

It says manufactured goods only made up 33 per cent of exports compared with a “peer average” of 89 per cent in other countries.

The report says Australia faces the challenge of reducing its dependency on commodity exports and “being able to competitively supply a greater variety of goods and services on global markets.”

The report says the transformation of Australia’s industrial base has been accelerated by the commodities boom of the early 2000s which raised the exchange rate and made it harder for domestic produced manufactures to compete.

It says Australia had a trade deficit in 2020 of elaborately transformed manufactures equivalent of 9.5 per cent of its gross domestic product, compared to its peer average of a surplus equivalent to 2.5 per cent of their economies.

The report says exports to China now make up 41 per cent of Australia’s goods exports -up from 32 per cent in 2015.

But it says that the bulk of the rise has come from the increasing price of iron ore.

If iron ore is excluded, it says China makes up only 22 per cent of Australia’s exports.

China is by far the biggest importer of iron ore, accounting for 68 per cent of global seaborne iron ore imports.

The next biggest importer is Japan whose imports represent just eight per cent.

“Australia’s exposure to China is mostly a symptom of the prominent place that iron ore occupies in the export basket,” it says.

“If iron ore maintains its prominent place in Australia’s goods export basket, China will inevitably be a principal market destination.”

The report notes that Australia is not alone in having a heavy export exposure to China.

It says Taiwan, which has serious political tensions with China, has seen its exports to China rise from 25 per cent of the total in 2015 to 30 per cent in 2020.

“Globally, nearly three quarters of countries now trade more goods with China than with the US,” it says.

The report notes that manufacturing was the largest sector of the Australian economy in 1985 in terms of both output (15 per cent) and employment (16 per cent).

By 2019 manufacturing had fallen to only seven per cent of output and employment.

“Australia now has the lowest share of manufacturing among peers by a considerable margin.”

It warns that the transformation of the Australian economy with manufacturing playing a much smaller role, means there is “reduced resilience” if the economy were “struck by adverse shocks and shifts”.