We're going up in the financial world, but no one's noticed

Economists like us to think they’re cooly rational in all things. Nah. They’re just as susceptible to fads and fashions as the rest of us. In my working life they’ve gone from being obsessively worried about Australia’s financial dealings with the rest of the world to neither knowing nor caring.

When the “balance of payments” figures – which summarise all our financial dealings with other countries – are published each quarter, they go almost totally unreported and unremarked, meaning most economists have no idea of how our position in the financial world has changed, or why.

But two honourable exceptions are the Reserve Bank’s Penny Smith, who gave an amazing but little-noticed speech about it in 2023, and Deloitte Access Economics’ John O’Mahony, who has written an eye-opening paper about it.

O’Mahony noted that, when you looked at rich countries’ “net international investment position” they could be divided into those that were always owed money by the rest of the world and those that always owed money.

The “creditor nations” included Germany, Switzerland and Japan, whereas the permanent “debtor nations” included Canada, New Zealand and ... Australia. But, O’Mahony said, we may be on the way to becoming a “switcher nation” – moving from global debtor to global creditor.

To Smith, there’d been an “extraordinary decline in Australia’s net foreign liabilities”. She noted that, after reaching a peak of 63 per cent of gross domestic product in 2016, our net foreign liabilities had fallen to 32 per cent, “the lowest level since the mid-1980s”. Since then, they’ve fallen to 24 per cent.

So what’s causing this extraordinary change? Many factors have contributed, but one stands out: the Keating government’s decision in 1992 to introduce compulsory superannuation. But first, when were economists so terribly worried about our international finances, and why?

It was in the late ’80s and early ’90s, after we’d been forced in 1983 to abandon our fixed exchange rate and float the dollar. Economists saw the current account deficit was blowing out, causing huge growth in the net foreign debt. In the 12 years after the float, the current account deficit averaged 4.5 per cent of GDP. Whoa! Not good.

I can remember that whenever the latest balance of payments figures were published, the radio shock jocks would read the government another lecture on the folly of allowing the country to “live beyond its means”.

The consternation continued until the ANU’s Professor John Pitchford told the econocrats to wake up. All the international borrowing and lending was occurring in the private sector between “consenting adults”. They should be free to act as they saw fit – and bear the consequences should any of their decisions prove unwise.

With hindsight, it’s easier to see, as Smith has, that the economy was simply adjusting to the removal of the controls on inflows and outflows of financial capital, which had been part of maintaining a fixed exchange rate. After the float, foreigners could more easily invest in Oz, and Australians could more easily invest overseas.

Plus, back then we had to remember that the balance on the current account of the balance of payments represents the difference between how much the nation’s households, companies and governments choose to invest in new housing, business plant and structures, and public infrastructure, and how much those three sectors choose to save via bank accounts and superannuation etc, company retained earnings, and budget operating surpluses.

To an economist, the current account deficit equals national saving minus national investment. So, invest more than you save during a period – as we almost always do – and your current account is in deficit. You fund that deficit by borrowing the savings of foreigners, or allowing them to own Australian shares, businesses or property.

Which brings us to compulsory super. Keating and his ACTU mate Bill Kelty decided to introduce the “superannuation guarantee” mainly to give ordinary workers something better than the age pension to live on in retirement, but also because the econocrats decided Australians should be saving more.

The other rich countries had introduced national retirement schemes after World War II, but Keating’s scheme was very different. Whereas their schemes had contributions going straight into the budget, and pension payments coming out of that year’s budget, our contributions go to a private sector super fund for investment, with the same fund sending you regular payments once you’re in “pension mode”.

It’s mainly because our scheme has money invested and piling up in super funds, and because roughly half that money is invested on foreign sharemarkets, that our net foreign liabilities have fallen so far relative to GDP – and may one day fall to the point where our foreign liabilities become our foreign assets. Our super savings now total $4.2 trillion, with O’Mahony estimating they could be as high as $38 trillion by 2063.

The national super scheme has been far more successful than expected in increasing Australia’s rate of saving. We’re not only saving more than we used to, we’re saving more than other rich debtor countries.

Largely as a consequence, we’ve been running a surplus on our international trade in goods and services since June 2018. And although we still run a current account deficit, it’s much smaller – about 2 per cent of GDP.

Back in the ’80s and ’90s, our net foreign liabilities were high because as well as our high and growing net foreign debt, we also had much foreign equity investment in Australia, particularly ownership of our mining industry.

But this equity liability to foreign owners of Australian companies and shares has steadily been outweighed by our growing ownership of shares in foreign companies. In June this year, our net foreign equity assets of $760 billion offset our (still-growing) foreign debt of $1420 billion, to reduce our net foreign liabilities to $660 billion, a mere 24 per cent of GDP.

And although it’s had help from an undervalued Aussie dollar and an overvalued world share market, most of the credit for this “extraordinary” fall in our net liabilities to the rest of the world goes to our unusual national super scheme.

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Trump is making a huge blunder. Here's how we seize the moment

By MILLIE MUROI, Economics Writer 

Eventually, Donald Trump will backpedal. Economists get plenty wrong, but one thing most believe – and get right – is that widespread tariffs are stupid. Why? Because they create more losers than winners.

Trump is smart enough to know this. But he’ll look to twist arms with his tariffs until some of his demands are met (seemingly at the top of his wishlist: Mexico, Canada and China curbing illegal border crossings and drug cartels). He’s betting on this happening before Americans start to notice their living standards drifting into the gutter.

For Australia, now’s the time to swing. Not at Trump, but towards the neighbours we’ve neglected. To its credit, the federal government isn’t playing into the president’s games: as Treasurer Jim Chalmers said this week, the tariffs on Australian steel and aluminium are disappointing, but our response will not be to raise tariffs on the US in a race to the bottom.

Why? Because taxing imports backfires. Tariffs make imports more costly for consumers as well as businesses relying on imported fuel, ingredients or goods to make or sell their products. Sure, tariffs on steel might shield steel producers in the US, but it will stop those workers and resources from flowing to more efficient areas – and at the expense of Americans needing steel to build (and buy) machinery, houses and cars.

Remember – the reason we trade is to specialise in things we’re better at doing or producing than others. For Australia, these are mostly resources we dig up and ship off. Iron ore accounted for more than one-fifth of our exports by value in 2023-24, followed by coal and natural gas, both at about one-tenth each. We can then use the money we make to buy the things we’re less good at making.

That includes cars. We produced them for decades in the 1900s, but eventually the Australian car manufacturing industry stalled and shut up shop in 2017. It was just too costly to continue pumping out cars, especially when we could ship them in and focus on the stuff we could produce better than everyone else. In 2023, cars made up 6 per cent of our imports, just behind the one-tenth spent on globetrotting and similar share spent on petrol.

Luckily for Australia, a drop in exports to the US isn’t going to hobble us. Only about 6 per cent worth of our exports were destined for the US in 2023 – far less than the one-third shipped up to China and 12 per cent sent to Japan. China’s appetite for Australian exports is mostly for commodities such as iron ore, natural gas and gold.

However, slapping tariffs on US imports to Australia would take a toll on us. While one-quarter of the value of our imports comes from China, about one-tenth flows from the US and another tenth from Japan. Responding to the US with tariffs of our own would make machinery, planes and pharmaceuticals, among other things, more expensive.

One thing that has kept Australia in Trump’s good books, at least until recently, has been the fact we have a trade deficit with the US. That is, we import more from the US than we export to them. The US, in turn, has a trade surplus with us: they export more to Australia than they import to us. But does this really matter?

Well, not really. For example, Australia had a more than $110 billion trade surplus with China and $30 billion trade deficit with the US in 2023. Neither of these things is necessarily “good” or “bad” because both importers and exporters benefit from trade.

But a big trade deficit or surplus can suggest if a country is especially reliant on another country for supplies or income – and therefore more at risk to shocks such as tariffs.

Trump’s tariffs – and threat of more to come – are a chance for Australia to branch out from its biggest trading partner.

It’s not the first time we’ve done it. In the 19th century, Australia was heavily reliant on the UK as a destination for our agricultural and mineral exports. As the UK shifted towards a more protectionist economy with high tariffs in the early 1900s, and stopped giving Australia preferential tariff treatment, we shifted towards some of the countries which are, today, among our biggest trade partners, including the US and those in northern Asia.

Whether Trump stubbornly keeps his foot on the tariff pedal or not, Australia has a good opportunity to build stronger ties with countries in South-East Asia which have expanding economies, growing middle-class populations and are geographically closer.

Many of these countries, including Vietnam, Taiwan and Thailand – which are among those most likely to be hurt by Trump’s tariffs because of the large amount they export to the US – will probably also be more open to strengthening ties with neighbours in the Asia-Pacific. It also makes sense to build stronger ties with our neighbours from a strategic geopolitical perspective as China poses a growing security threat to the region.

The government is already looking for ways to expand free-trade agreements in South-East Asia and reviewing ways we can work more closely with the region. But taking action now is crucial.

A recent visit to Vietnam opened my eyes to egg and coconut coffees (I now make one most days after decades of believing I didn’t like coffee), but the country is also a growing player in pharmaceuticals, making prescription medicines and turning into a manufacturing hub as it transitions away from a primarily agricultural economy.

Vietnam will not, for the foreseeable future, be a replacement for the US: a clear world leader in pharmaceuticals and far advanced in manufacturing. But investing in the capabilities of countries in South-East Asia, partnering with them and fostering connections with its people – including drawing on ties and expertise held by immigrants from the region who can provide insight – is important.

Like past shifts, pivoting away from old friends won’t be a quick process. It will take time, investment and some pain to focus on strengthening trade and ties with new countries, many of which are facing their own challenges and growing pains.

We’ve got the right idea when it comes to exercising restraint on tariffs of our own. But whether Trump backs down soon or not, Australia needs to play a longer game when it comes to trade.

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Trade deficits don't have to be wicked, unless you believe Trump

By MILLIE MUROI, Economics Writer

While the US president-elect would have you believe a trade deficit is a wicked thing, it’s not a hard and fast rule. In fact, it can actually be good. We’ve become used to the word “deficit” being synonymous with “bad” (think about how many governments highlight when they’ve got a “budget deficit” – not a lot!). But deficits don’t have to be bad.

Since late 2016, Australia has had a run of trade surpluses, meaning the value of all the goods and services we export has been bigger than the value of all those we import. That doesn’t make us any better than countries like the US which have run a trade deficit every year since the 1970s.

Generally, countries are better off when they’re importing things other countries can make more efficiently and cheaply. For Australia, that includes cars, electronics and pharmaceuticals. If we tried to make more of these things ourselves, just to improve our trade balance, we’d be wasting resources we could use to tinker away at other things we’re better at making.

We can always buy, more cheaply, the things we’re worse at making – unless of course we’re trumped by tariffs (which, note to Trump, almost always leaves both countries worse off).

A “current account” deficit is not a bad thing either. Australia had one for more than 40 years, until September 2019. The current account records how much is flowing in and out of Australia when it comes to the value of goods, services and income.

We learnt last week that in the latest September quarter, for instance, the value of our exports ($156 billion) minus the value of our imports ($153 billion) gave us a trade surplus for the quarter of about $3 billion. And the value of interest and dividend payments we were paid by foreigners ($28 billion) minus what we paid them in interest and dividends ($45 billion) gave us a “net income deficit” of about $17 billion.

Combining the net income deficit and the trade surplus leaves us with a deficit on the current account in the September quarter of about $14 billion.

It’s one of the two big parts of what’s called the “balance of payments”: a map of Australia’s economic transactions with the rest of the world.

The balance of payments records the flow of money from everything including exports and imports of goods, services and financial assets (such as shares and bonds) – even transfer payments like foreign aid. Basically: payments to foreigners and payments from foreigners.

Of course, by “Australia’s transactions” we mean those made by Australian residents. Loosely, this means people who live here, businesses operating here, and our governments, which all do deals with the rest of the world.

Now, back to the current account. Why has Australia recorded so many current account deficits?

Historically, we’ve tended to import more than we export, and we’ve paid more in dividends and interest to foreign owners and lenders than they have to us for our foreign shareholdings and loans.

Whenever we import, or pay income (such as dividends) out to people in other countries, it’s recorded as a “debit” in our current account and an equal “credit” in what’s known as the “capital and financial account” – which we’ll come back to. When we export, or receive income from overseas, it’s a “credit” in our current account and an equal “debit” in the other account.

Because of this, the two accounts are, in theory, meant to balance out (because of measurement issues, they usually don’t). When the debits exceed the credits, an account is in deficit. When the credits exceed the debits, it’s in surplus.

The main reason we’ve run so many current account deficits through the years is that we’ve tended to have a heap of investment opportunities (more than we could hope to finance with our own savings).

The inflow of foreign capital meant we were able to grow our economy, paying out dividends and interest to foreign investors for their help. Now, where do we record all this investment?

Enter the capital and financial account. The financial account takes up the lion’s share of the combined bucket. It records any transactions involving assets and liabilities changing hands. This includes things like direct investment (long-term capital investment such as buying machinery or when an investor owns 10 per cent or more of a company through shares), and portfolio investment (smaller purchases of shares in a business, or bonds).

When we sell foreigners shares in an Aussie business, borrow from them or sell them some real estate, that’s a credit in the capital account. When they sell us shares or land or lend us money, that’s recorded as a debit.

The much smaller capital account, meanwhile, captures transactions where nothing tangible is received in return: things such as debt that has been forgiven, foreign aid to build roads, or transactions involving intangible assets (such as trademarks or brand names) or rights to use land.

For some time in the past decade, we briefly went into a current account surplus and a financial and capital account deficit. This was partly thanks to rapid industrialisation in China which turbocharged our exports of minerals, energy, education and tourism (remember: credit in the current account, debit in the financial and capital account), but also our increased tendency to save and cut down our local investment spending on new housing, business equipment and public infrastructure. At the same time, the proportion of our savings going into superannuation, which invests partly into shares of foreign companies, had grown.

Recently, we’ve switched back to running a current account deficit. Is this bad? Not necessarily. It’s partly due to a continued fall in commodity prices such as iron ore and coal, for which demand has weakened, which is bad news for our exporters. But we’re also paying more income to non-residents (remember: this is mostly because they’ve been investing or lending to us, usually to help us grow by helping to finance our investment spending).

But the current account deficit is also thanks to factors such as a rise in service imports. We’ve been travelling more, meaning our spending overseas has increased. A bad sign? Hardly.

So, while we have a current account deficit, that doesn’t automatically mean we’re doing badly. Deficits can help us grow and surpluses don’t always leave us better off. Trump should be careful playing his cards.

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We're investing more overseas than foreigners are investing here

 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.

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