Australia’s Current Account Deficit is a Disgrace

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What about the stock market? Well, what about it? The stock market powers along, day after day, as if everything in the economy were just fine. But what about the economy? Is it nearly as rosy as the stock prices are telling us?

The Australian Bureau of Statistics (ABS) today said the current account deficit was a seasonally adjusted AU$15.381 billion in the first quarter of the year. This is disgraceful Australia, we say with all due respect, as an American whose country routinely spends more on imports than it banks from exports. But really, America became a nation of consumers long-ago. Australia is a nation of resource producers. How can this country possibly be spending more on imports than it takes in through exports?

The answer, although a little technical, is probably what worries the Reserve Bank at night. Despite growing the money supply by 12.2% in the last twelve months, the Reserve Bank is not worried about inflation. But perhaps it should be.

The answer to the current account deficit lies in Australia’s favourable terms of trade. Rising prices for the things Australia exports have increased the purchasing power of the local currency. Or as the Reserve Bank itself put the case a few years ago, “An increase in export prices relative to import prices means that a larger volume of imports can be purchased with a given volume of exports, thus increasing the real purchasing power of domestic production.”

If we read that correctly, it means the same amount of iron ore is buying you a greater amount of flat screen TVs from Sony (although we don’t recommend trying to pay for your TV with iron ore. If you do however, be sure to write us and tell us how it goes.)

Booming exports mean higher profits, taxes, and royalties. All these things should translate in to greater spending…investment spending by businesses, consumer spending by consumers (if only their wages were rising), and government spending by governments who do what governments always do – spend.

If this doesn’t sound like inflation in the pipeline, we are deaf here at the Old Hat Factory. What’s kept things in check so far is relatively low import prices. Hmm. We’ll keep watching.

Dan Denning
The Daily Reckoning Australia

Dan Denning
Dan Denning examines the geopolitical and economic events that can affect your investments domestically. He raises the questions you need to answer, in order to survive financially in these turbulent times.
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Comments

  1. Yes, it’s terrible, and it will continue to get worse until we stop (or are prevented from) borrowing. If you think the cad is terrible, check out foreign debt (but visit the toilet first).

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  2. It’s so true, is the Australian Government taking external stability in the foreign market into account at all?

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  3. I have a quick question then, which I don’t quite understand. Its quite obvious that such a current account deficit is bad, but why in light of this in our Dollar appreciating. It seems to go against normal economic laws? And Im not talking about increasing in relation to US dollar either – I mean our Trade Weighted Index is trending up..

    Any ideas why?

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  4. What about the fact that Australia’s net national income deficit has remained around 4% of GDP, almost two-thirds of the CAD it is not just the Balance of Goods and Services (imports vs. exports). However indeed the ‘Wealth Effect’ has kicked in with Australians rewarding themselves with excessive purchase of imports, but i don’t think this is yet a ‘disgrace’. Yes ultimately inflation will be exerienced. But i believe the Reserve bank will be able to curb spending and this spending will most likely drop off in the imported sector thus narrowing the BOGS deficit. In comparison to America, whether or not they became a consuming economy years ago, they still run a bigger deficit than Australia (in terms of % GDP) and with a positive net national income this is made up entirely of a massive trade deficit funded by foreign liability. Great article though – good to see a change from economists saying that the increasing CAD is nothing to worry about.

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  5. This is a bit of topic but i must complain about the logo at the top of the page.

    Where is Tasmania????!

    This always happens!! Why does everyone leave it out?

    We are part of this country as well – prejudice.

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  6. What about Australia’s Financial & Capital balance? That is well into the deficit. People should not look only at the CAD on goods and services because the Australian dollar is appreciating.

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  7. Dear Tasmanian

    In response to your question, although it may be difficult for you to understand, the nation of Tasmania is located off south coast of Australia.

    Sorry for the confusion there.

    Australian
    May 20, 2008
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  8. everyone seems to be forgetting that the CAD really isnt that bad. In the 1980’s the CAD was bad and the debt servicing ratio was 20%. Today the debt servicng ratio is 11% and australia is more competitive. you might also want to read about the “Pitchford Thesis” it has some interesting stuff on CAD

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  9. Ur an idiot! we rely on foreign savings to fill the gap between domestic savings and investment. (AD>AS)!
    That is the CAD promotes economic growth. and isnt it a coincidence that as economic growth increases the CAD increases???

    nevertheless 99% of debt this is from the private sector so as long as the investment that is being funeded by overseas capital inflow generates sufficients returns to pay for the sercivngs costs in the future; the increase in foreign liabilites can be viewed as sustainable in the future

    John James
    June 5, 2009
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  10. Sorry smart. I will say it nicely but must agree entirely with John James. The CAD combined with services economy expqansion and asset price infaltion only possible by crony ticket clipper credit wrapping foreign issued bonds and misdirecting them into the residential and commercial real estate bubbles produces the mother of all multipliers which whoops up GDP for mugs like McKibbin and all the Keating era travellers to promote as a responsible debt service ratio.

    Well mate when the bubble pops the great muliplier becomes equally the equally great contractor and we still owe the money. Foreign capital wasted on unproductive urban assets and the tcket clipping rent takers like we have and as John James implies we have not only just put our Grandkids inheritance up against wall but we have eaten their daily bread for the next twenty years.

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  11. “Its quite obvious that such a current account deficit is bad, but why in light of this in our Dollar appreciating.”
    Increased borrowing from overseas, means more capital inflow, meaning a greater exchange of $OS to $Aus – increased demand for $Aus -> appreciation.
    Right? (year 12 economics)
    And CADs not so bad exactly as smart said.

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  12. One of the many things that worry me about the economy is who is paying back the debt? As I understand it, if a person works one hour per week it is deemed that that person has worked for the week and therefore is not counted as unemployed. If this is so, the 7 pct unemployed is probably far, far greater. The so called ‘Temporary Defecit’ much talked about a few months ago, has slipped from the Labour Govt agenda and the only thing that is/was ‘Temporary’ was the Surplus paid for by Australian taxpayers. A ‘Temporary Defecit’ is like a temporary mortgage, and that normally lasts for about 25-30 years!

    Queenslander
    August 29, 2009
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  13. This hype about how bad the CAD is ridiculous, there is nothing that says specifically that having a CAD is a bad thing as long we have sustainable economic growth allowing us to finance it. Furthermore one reason we have a CAD is because we have such low levels of national savings and high amounts of consumption. This in comparison to Japan, who has a high levels of net savings and lower levels of consumption, but whats happening to them now? When their export earnings drop off significantly like what is happening now because of the Global financial crisis, they are unable to stimulate their economy effectively because of the nations tendency to save which limits the effectiveness of fiscal stimulus. Where as our economy is doing relatively well some might say because of our tendency to spend, allowing us to cope much better then other countries with global down turns.

    Comment by Josh
    September 1, 2009
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  14. I think that anyone who says the CAD is a bad thing is an idiot. I am only 16 and even I know the above article is a whole lot of absolute rubbish. What is wrong with a large amount of foreign debt? It is only bad if we’re consistently borrowing to stimulate consumption and spending. Australia’s large amount of foreign debt is helping to improve our standards of living. I see nothing wrong with that.

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  15. To start, Australia has been running a current account deficit for some time. The only real reason for the deficit is the Austrian’s high marginal propensity to consume. Is this a problem? Well not exactly. All it means is Austrian’s would like to enjoy the life they have and therefore spend a high proportion of their incomes, not bad at all. The only problem about this is when they come to borrow from a bank. The low savings means banks cannot lend from consumers savings but instead they have to borrow from overseas(along with other domestic resources). Of course the borrowing will incur an interest rate, as everything borrowed does, however this borrowed money is nearly always used efficiently. That is borrowed money is invested, whether it be in housing or businesses it doesn’t really matter. This means the deficit is actually financing it’s self! The largest aspect contributing to Australia’s current account deficit is its incomes account. The incomes account records net inflows and out flows of income earned by Australians. Therefore high borrowing will naturally create an incomes account deficit. The net goods and services account does actually go into surplus every now and then, when the terms of trade are high. So this obviously cant be a major impact of the deficit.

    Secondly the relative level borrowing has to be considered. Australia has one of the lowest Public debt levels (debt incurred by the government) in the developed world. In fact Australia became a net lender in 2006-07, that is the government lent more money to overseas than it did borrow. Surprising? Not really. As mentioned above, Australia’s debt is nearly all private! Although private debt can’t be considered good, its not bad either. When Private debt is used efficiently it will expand the economy and creating employment and economic growth. That’s why Australia is so far ahead of other developed nations coming out of the GFC already!(Touch wood) Australia is not afraid of borrowing, as they are aware of the repayments and know the money will be used efficiently, therefore they borrow.

    Searching through the net I have found the governments chart package. Inside there are many interesting and surprising charts comparing Australia’s debt to the rest of the world’s. Its hardly anything(relative to %GDP). So there is no real problem with Australia’s debt, only that people are scared of the four letter word.

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  16. You are all idiots, we are doing fine, if our nations still alive, it means we are at least satisfactory. GO STRAYA

    Daniel Strauss
    October 7, 2010
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  17. Yes, Australia does have a large CAD, but this is due to the fact that Net incomes in the Current account is a huge negative(makes up approx 75% of the deficit) This is due to the large amount of foriegn investment in this country in the past, where now companies must send profits and dividends overseas. And the fact that we import more than we export is not a bad thing. It shows that confidence is high, and that the Australian consumer is willing to spend their money.

    The only way to permanantly reduce the CAD, and then bring it into surplus is to become net savers. This would be at the cost of economic growth of around 1% for the next 10 to 20 years. Therefore, it is vastly more economically sustainable to keep the CAD at approximately 4-6% of GDP, as this shows that Australia has a strong economy due to high confidence, but foriegn debt stays under control.

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  18. Good to see new blood join in and put it where they stand at this stage of life. We all see life differently threw different agers. Round and round it goes….. Spandau Ballet

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  19. The current account deficit was the reason the Liberal party drove around Sydney with a Debt Truck in 1998. It was used to highlight how high it was, and how incompetent the Keating government were in handling it.The truck actually broke down on one occasion and the Liberal people said it was because the debt was so large.
    Very funny guys those Liberals.

    By 2005 with John Howard entrenched as Prime Minister, and Peter Costello as Treasurer, the current account deficit had doubled.
    In his biography, Peter Costello recalls all the achievements of his days in office, but nowhere in his book does he even mention the issue of CAD.

    Costello no longer was Treasurer after 2007, and could possibly have been made leader of the opposition, but chose not to, but by 2010 the CAD had considerably reduced. Now I am not saying that the ALP is principally responsible for the CAD reduction, nor am I saying that Costello was responsible for the blowout, and in fact, the same applies to Paul Keating, but our collective ignorance on this subject makes us putty in the hands of politicians.

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