The Australian dollar needs to weaken “by a large amount” to restore competitiveness eroded by two decades of prosperity, according to Ross Garnaut, who advised former Prime Minister Bob Hawke during the 1980s overhaul of the nation’s economy.
“You cannot fatten the pig on market day,” Garnaut said in the Victoria University 2013 Vice-Chancellor’s Lecture delivered in Melbourne late yesterday. “The sooner we start the restoration of competitiveness with depreciation of the real exchange rate, the sooner we can enjoy the benefits in the marketplace.”
Garnaut, ambassador to China from 1985-1988, said the Australian dollar, which has declined 7.8 percent this month, needs to depreciate “many times further.” China’s resource demand has passed its peak and “will soon end,” he said.
The local dollar dropped to a 1 1/2-year low today as Pacific Investment Management Co. said economic growth in China, Australia’s biggest trading partner, will moderate toward 7 percent and that the Reserve Bank of Australia’s record-low cash rate isn’t “meaningfully easy” because of the currency’s sustained strength. Governor Glenn Stevens and his board have slashed the benchmark rate by 2 percentage points in the past 19 months to 2.75 percent to spur industries such as construction.
Traders are pricing in a greater than 50 percent chance the RBA will lower rates to a fresh record of 2.5 percent in August, according to swaps data compiled by Bloomberg. The Aussie dollar fell to 95.47 U.S. cents today, the lowest since Oct. 5, 2011.
Garnaut said in his speech yesterday that “a big fall” in the exchange rate would happen as global markets recognize the weakness in Australia’s position with the approaching end of the China resource boom.
“It started to happen early this month, with the Reserve Bank’s reduction of interest rates and change of rhetoric on the strong dollar, and the government’s shaking free of an earlier embrace of the strength of the national currency,” he said. “The recent fall in the foreign exchange value of the Australian dollar is a start, but has to go many times further.”
Ford Motor Co. said last week it will stop making cars in Australia, nine decades after founder Henry Ford first began building Model Ts in the country, as the currency’s strength undermines the local industry’s ability to compete with imports.
Australia’s three car makers have struggled as a 25 percent rise in the local dollar against the yen over the past year stoked sales of cheaper imported vehicles and cut exports.
“The increase in the real exchange rate over the past decade is of historic dimension,” said Garnaut. “The real effective exchange rate rose by 69 percent from December 2002 to its peak in March 2013.”
Australia must also change entrenched expectations that living standards will rise and that taxes will fall, as they have for a generation, he said. The political culture must return to the pro-reform era of 1983 to 2000, Garnaut said.
“If we continue within the political culture of the later years of high prosperity, ‘Business as Usual’, we will live in greater comfort for a short while,” he said. “But sooner rather than later we will experience deep economic recession with high unemployment -- probably unemployment rising with each new recessionary episode without falling much in the years between.”
The China resources boom has “passed its highest point and will soon end,” he said.
Australia last week said the resources-investment boom may be at its peak as A$150 billion ($144 billion) of projects have been scrapped or delayed.
The RBA has “plenty of firepower to combat a slowdown in the domestic economy,” Pimco’s Adam Bowe and Robert Mead said in an article titled ‘The New Normal Has Finally Arrived Down Under.’ “To stimulate some of the domestic growth candidates like non-mining business investment, household consumption and housing construction, we believe the RBA will need to provide meaningfully easy policy rates.”
The Australian dollar’s decline in the past month has made it the worst performer after South Africa’s rand among the 16 major currencies tracked by Bloomberg, as concern mounts about China’s economic outlook and increased speculation about the U.S. tapering quantitative easing.
“Australia has so far escaped the clutches of the global New Normal,” Pimco said. “However, as domestic growth outside the mining sector remains subdued and Australian policy rates appear likely to converge towards their global peers, we believe the New Normal has finally arrived Down Under.”
Pimco coined the term “new normal” in 2009 to describe an era of lower returns, heightened regulation and shrinking U.S. clout in the world economy following the 2008 financial crisis.
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