Alarm bells sound on economy

110625 Julia Gillard Kevin Rudd

LABOR'S leadership transition from Kevin Rudd to Julia Gillard a year ago was coupled with another great transition - the policy shift from averting recession during the global financial crisis to managing the resources boom prosperity.

The dilemma facing Gillard and Treasurer Wayne Swan today is that the record terms of trade are reverberating through Australian industry as a huge dislocation, generating new winners and losers and posing a policy challenge more complex even than averting recession in 2009.

Put bluntly, the boom with its high dollar is punishing large swathes of manufacturing, tourism, education, services and construction. The alarm bells are sounding. Job losses are threatening. The new fear is rising unemployment in a range of sectors off the back of weak domestic demand, the legacy of natural disasters, rising costs and falling competitiveness.

The paradox is that Gillard Labor is implementing its agenda - the budget is moving through the parliament, the fiscal consolidation is the right policy and on track, the National Broadband Network is advancing, new programs for skills and workforce participation are coming, minority government is working - yet Labor seems unable to convert such "insider" victories into "outsider" wins with the public.

As PM, Gillard faces entrenched negative attitudes towards her performance. They persist in the teeth of her successes as well as her failures. The hostility often has an unjustified nasty, personal dimension. While her strategy is long-run leading to a 2013 election, Gillard faces a new problem as the resources boom drives unpalatable structural changes.

Labor's risk is that emerging economic tribulations will destroy its hopes for electoral recovery.

With carbon pricing front and centre the warnings are ominous.

Australian Industry Group chief Heather Ridout says of the carbon tax: "Business needs this at present like a hole in the head. It is a very difficult time to be having this debate." Ridout says measures to assist trade-exposed industry in the final policy "must be paramount". Her group represents 60,000 businesses covering more than a million employees.

Head of the Australian Chamber of Commerce and Industry Peter Anderson, representing 350,000 businesses, says: "Since Julia Gillard's election we have seen global and domestic conditions turn against Australian exporters. We would like to see the carbon tax abandoned."

Anderson says business thinks the carbon tax is driven by Labor's political needs, not Australia's real economic priorities. The risk is losing the cost advantage of cheap energy and the competitiveness this has meant.

The immediate fear is unmistakable: that the mix of a terms of trade-driven higher currency and a higher cost structure for Australian industry is forcing sharp structural changes with labour market fallout.

"The dollar-exposed sectors are doing it tough," Ridout says. "Our indexes covering manufacturing, services and construction are in negative territory and have been there for a number of months.

"I know our members are now starting to take decisions about their future. They will do so at an accelerating rate and I believe these decisions won't be good for employment. I think we will see an increase in unemployment."

Fundamental to such re-assessment, Ridout says, is the view the dollar will remain high for an extended period.

She says: "Pressure on the big employment sectors is only going to intensify, not ease off." Ridout issues a warning: the task is to ensure Australia does not lose manufacturing capacity that would otherwise be sustainable.

Anderson says: "We are at a very vulnerable point in our economic cycle even though the macro data still looks sound. Our most recent survey of industrial trends measuring business expectations shows for this year's June quarter there are now more businesses that believe conditions will deteriorate over the year than improve. It is the first time this has been reported for two years.

"Business expectations have retreated on the back of a high dollar, talk from the Reserve Bank of the inevitability of more interest rate rises and evidence of a multi-speed economy with people outside the resource industry supply chains feeling significant softening of demand. It also comes with the economy facing hits from two significant new taxes, a carbon tax and a mining tax.

"I am concerned about rising unemployment. I hope that is not the case. The untold success story that has held our economy together for the past 2 1/2 years is that the business sector took the long view of economic recovery.

"But if business thinks we now face structural change without any complementary policy response the issue is how long companies will hold on to their current labour force.

"I believe the government needs to send an unambiguous signal to the private sector that it is interested in creation of wealth, not just the redistribution of wealth. Almost all of our economic debate over the past year has been about the introduction of new taxes."

Such comments from the two industry groups reflect remarks made last month at a business audience event in Sydney with Gillard hosted by The Australian and UBS. Seven Group chairman Kerry Stokes warned the PM there was a "major downturn" evident.

"There's no question that outside of major mining activities and infrastructure activities our economy is not very well at all," Stokes said. Westfield managing director Steven Lowy told Gillard retailers were facing "flat or negative" sales conditions. He warned that regulations and industrial laws were contributing to the slowdown.

This week a Macquarie Bank report said: "De-leveraging has occurred rapidly across the Australian corporate landscape with balance sheets for many approaching an 'under geared' position. The domestic economy is struggling under the weight of a high currency, tightening monetary policy and rising costs."

It is vital to keep perspective.

Is Australia better off due to the terms of trade boom? Of course.

Will the benefits get spread around? To a considerable extent over time. Can government halt the structural change? It can try but that would be a mistake.

Will Labor get hurt politically? Probably.

Finance Minister Penny Wong said such structural change extended far beyond any single budget. Political and business leaders had a choice: "They can try to avoid it. They can rally against it. Or they can position the country to benefit." Her message was that Labor, under pressure, would not resort to soft protectionism. It is the Gillard-Swan mantra.

But in Australia today there are two clashing cultural views - optimism from unprecedented resources investment and disillusion arising from the boom's downside and the partisan polarisation of politics.

Ridout identifies the political culture as a negative.

"I believe the state of political debate in Australia today is reinforcing the uncertainty and lack of confidence," she says. "I know this from our members."

Anderson says business worries will be "compounded" from July 1 with the Greens assuming the balance of power in the Senate. "We are seeing a conjunction of political and economic uncertainty," he says. Anderson argues the economic program of the Greens is largely about redistribution and Labor needs to send a signal about its commitment to economic reform and wealth creation. He identifies two reinforcing problems - activity and confidence.

For Gillard, the trap lies in being blamed as agent of the coming economic dislocations. That would be fatal for her. But explaining the reason the carbon tax is essential right now will be hard enough for the PM anyway.

Blind Freddy can see Tony Abbott's future line of attack - all economic problems, great and small, structural and cyclical, will be sheeted home to the carbon tax.

This highlights the warning in Ross Garnaut's recent report when he argued the big structural event for Australia's economy was the resources boom, not the carbon tax, but that the two risked being conflated for political purposes.

Gillard and Swan face a perplexing set of economic conditions - price pressures on households yet subdued conditions in several sectors creating labour market pressures. Gillard is trying to send economic signals that separate her from both the Rudd government and Abbott Coalition.

In her speech to the Business Council of Australia last week she pledged to a "deep conversation" about reform based on "respect and good faith", a deliberate contrast with Rudd's collapsing ties with the BCA on the eve of his 2010 removal. Gillard's unifying theme this week was Abbott as political stuntman - she depicts herself as a policy champion playing on a deeper mantra (sure you might have doubts about Labor but you can't be serious about the Coalition).

Gillard talks long-term: she warns against seeing the shadows and missing the sun. She says the terms of trade boom is driven by the middle-classing of Asia that will work to Australia's long-run advantage. She says: "Prosperity creates more opportunities than challenges." She's right.

But politics these days is driven by a short-run focus. Gillard, a political animal, is now driven to position herself as an opponent of such short-termism, telling the BCA that "if the voices of unreason succeed now, we will lose the long-term politics of reform". She is desperate to sell pricing carbon as a signature reform, but the obstacles to this remain immense.

Gillard's political problem is that the public may have stopped listening to her. Her policy problem is worry that her reforms, by not giving sufficient emphasis to productivity and entrepreneurship, don't have the right priorities for the times.