Tuesday, January 13, 2009

Not So Happy New Year

The chances of the New Year being a happy one appear to be diminishing. While it is not necessarily foolish to hope for better times ahead, the indications for the economy continue to point towards more gloom before any sunshine might break through. It seems that just as experts are cautiously wondering whether the corner has been turned, more bad news emerges. The latest is the continuing decline in job vacancies, which is readily interpreted as a precursor to rising unemployment.

While an increase in unemployment is not unexpected, forecasts vary as to just how high the unemployment rate will go. The ANZ job advertisements survey has shown a dramatic dip in advertised vacancies: almost 10% in December and almost 25% since July. These figures are reported to be of a greater magnitude than the decline in job advertisements prior to the early nineties recession. You remember the one… the recession we had to have. The natural assumption is that we are once again heading for a recession.

Optimists continue to cling to the notion that the recent era of unprecedented prosperity will somehow cushion the effects. Pessimists might suggest that the dizzy heights of economic growth which prevailed for so long simply mean we have further to fall. It can be hard to resist the temptations of false optimism, but the truth is that past performance is no guarantee of future success. That is a fundamental principal so important that it must by law be provided as a warning in any prospectus for an investment. It applies just as much to the whole economy. No matter how robust the Australian economy has been up to date, it can still be overwhelmed by global forces.

We have been told repeatedly that the fundamental strength of the Australian economy, along with the sound financial position of the Federal Government, will shield us from the worst of the downturn. That’s true in so far that the Government is well equipped to spend its way through the downturn, but even that will only go so far. Remember the great axiom of financial management: No fortune is so great that it cannot be squandered. If the global economic storm is still raging when the money runs out, there will remain no option but a budget deficit. We are close to that point now.

While the strength of the Australian economy has been vaunted as our salvation, the real truth is that prosperity has left us with overinflated house prices, propped up only by a shortage of supply. As unemployment rises, repossessions will also increase. Regardless of how short the supply, if people can’t afford the houses they won’t buy them. And it’s not just housing. There is a whole raft of living expenses to which we have all been made captive, expenses that never existed a generation ago, mobile phones, internet, pay TV, user-pay fees for everything that moves, and as unemployment rises, people will no longer be able to afford what has become accepted as a normal way of life.

The pitfall of course is that all these expenses make up a sizeable chunk of the economy, and as the money stops flowing the recession will bite more deeply. While the optimists are suggesting that unemployment will reach about 6% or so, the pessimists are warning of 9% or even more. The indicators of a bubble have been plain to see for a long time. The relationship between incomes and housing costs is so far out of balance it can only go one way, regardless of the level of supply and demand. While I am not keen to be a merchant of doom and gloom, I do believe it is wise to prepare for the worst, even if we still allow ourselves to hope for the best.

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