26 February 2014

Keynote Address - ANZ Central Bank and Sovereign Wealth Fund Conference 2014


Check against delivery

Thanks very much Richard and I hope that you are not too conferenced out. I’ve had a look at the program, I think it’s a really good program. I think Ian McFarlane spoke to you this morning. A great Australian and a fantastic central bank Governor and before that as the Deputy during many of the important changes in the economy in the 80s and 90s here in Australia. And in that sense you always have to have a historical context to what you do because that gives you a sense of where things have come from and hopefully that will inform where things are going.

One of the things that Australia has been fortunate to have is, not only 22, 23 years of continuous growth but importantly that’s been based on a pretty extensive program of reform particularly since the early 80s, which has set the basis I think for that sustained growth. And that’s been a bi-partisan commitment which may seem a strange concept these days, but it was a bi-partisan commitment to opening up the economy, more structural reform, financial de-regulation in a sense led the way. Now the textbooks do not necessarily tell you what is the right way to sequence reform. I am not sure they say financial market liberalisation should come first, but the fact is it did and I think it created pressures throughout the rest of the system and it was part of the move towards greater openness of the economy. That created competitive pressures throughout the rest of the system, which led to product market reform and labour market reform and so on. Australia has benefited from 20 or 30 years of this.

In recent years it is true to say that we’ve had to cope with the biggest terms of trade increase in our history, which had a tremendous impact on increasing national income, had a big impact on the federal budget as well, particularly on the revenue side of the budget. And what that led to was a situation where for some of the period, before the noughties, a budget that could be in surplus, you could provide tax cuts as well as spend more which seemed almost a bit like a magic pudding. But the context in which we exist today and the context in which the new Government is having to formulate its policies is in a period where the increases in the terms of trade have come to a halt. It has turned around. The terms of trade are no longer increasing our gross national income per capita in the way that they were and we now face some challenges in terms of meeting the expectations of people about how quickly incomes will grow in Australia.

For us, the way to square the circle, as it were, is to look at the role that productivity in particular can play.  In broad mathematical terms we would probably have to double our rate of productivity growth over the next few years to get the sort of growth in incomes that people have become used to over the last few decades. That’s an important factoid to keep in the back of your mind because that provides a context to the sort of challenge that the new Government faces here in Australia.

Therefore policy has to be looked at through the prism of what are we doing to improve competitiveness and improve productivity particularly because this phase of record breaking resource investment that we’ve just been through has left us with a legacy of relatively high cost, particularly in the mining and energy sectors. It has had some impact on the rest of the economy because the reform of the last 20 or 30 years, unlike some previous resource booms where costs would rise rapidly in one sector and then partly through a centralised wages system and other mechanisms, be rapidly transmitted through the economy, directly or indirectly. The Central Bank would be forced to crunch all this because typically governments would be too slow to pull the fiscal leaver. What would happen is it would be left to monetary policy to be, to use an old expression, the swing instrument and the result would be that you bring the economy to a screeching halt and with it, large unemployment.

We went through two phases of that in the early 1980s which was partly the precursor to that reform push we talked about. Also in the early 90s an important factor is that we had a very big crash and quite a shake out, particularly in the financial sector. A number of major financial institutions almost disappeared. Some of those institutions have since gone on to bigger and better things but the fact is we had a very tough time as a result of that recession in the early 90s, but we learned some important lessons out of that. The significance of that for today is that yes, we did have a cost overhang, particularly in the resource and related sectors in recent times, that hasn’t spread to the rest of the economy. But the economy as a whole, I think, is a relatively high cost economy for a number of reasons. The cost of constructions are high, the cost of labour relatively is high. So for us, measures that improve our competitiveness, raise our productivity, accelerate the rate of productivity growth, are going to be important in the period ahead.

It is very important that we continue the process of structural reform. The last largest set of reforms were the labour market reforms called Work Choices in 2006/7 but they failed to gain - and this is an understatement - public approval and therefore it become a bit of a watershed for both sides of politics and there was a bit of a shying away from taking on big things. I think the lesson out of Work Choices is that it should have been handled more like the changes to the tax system at the turn of the Century in 2000. I think it would have perhaps been tweaked in various ways. The point is it could have been handled better. We have had a period since then where there has been a tendency for regulation in the economy to go up, rather than down. We’ve had a re-regulation of the labour market and a bit of a tendency, particularly at the federal level in Australia, to use regulation as a way of achieving social and economic outcomes. So there is this legacy of relatively high costs that we are having to grapple with.

The point that Joe Hockey the Treasurer and I are always making is that for us today the competition is not the OECD, the US, the UK, Europe. It is very much Asia, Africa and Latin America. They are not waiting for us to succeed so the challenge for us as a Government is to make sure that as many Australians as possible share this concept of a global mindset.

One that benefits of actually having the G20 here so early in the term of the Government is that it gives us an opportunity to also have a national conversation. You would have seen from the way the Treasurer spoke about these matters on the weekend and through the media to have a national conversation around the choices we face if we are to get the budget in order and promote higher productivity. So for us having a global mindset and then how you go about promoting adjustment in the economy, rather than impeding adjustment, those of you familiar with the Australian scene will know that recently there were a number of decisions taken by the Government around, for example, whether to provide assistance to a cannery in regional Victoria or issues around whether further assistance was necessary to keep the motor industry going in Australia, where the industry clearly did not have the scale, to be cost competitive. No doubt about that you need two or 300 thousand units to have scale. Now we are talking about an industry here that was producing less than 100 thousand units. So this gives you an idea of the gap we were talking about. The Government made it clear that rather than seek to prop up the industry for a bit longer and put off the inevitable, we should just accept that at this stage we cannot compete in that particular space in this particular way and therefore facilitate the adjustment of resources out of the industry.

But the social contract is that we promote adjustment, we in effect free up resources, including labour resources from what are potentially uncompetitive or declining sectors, but we find ways to promote the employability, the adaptability of workers through appropriate educational training and adjustment assistance and that we also do what we can to shift the emphasis in industry policy away from just supportive sectors, because either the employment impact they have or their strategic location in a particular area and look at promoting more of a mentality of innovation and creativity across sectors, not just manufacturing, but also in advance services, where Australia has a great record of coming up with ideas. But the challenge for us is how we commercialise those ideas. And so for us doing further work on how we strengthen our system of innovation is important to create what we call sustainable competitive advantage. In other words the sort of advantage that isn’t just competed away through costs where you can in effect charge a premium because you’re creating new products and services or you need products and services. It is a version of creating, in effect, almost monopoly profits that only get people way over time as other people start to imitate what you are doing.

So it is important for us to try and develop those first mover advantages. If you are familiar with the Australian scene, you would know that we punch above our weight in areas like biotech. If we look at areas like Cochlear, Bionic Ear, Resmed, sleep apnoea equipment, all the best examples where that sort of innovation has worked in Australia is where you have, I suppose, a very close relationship between research institutions, whether they are public ones or universities, and businesses. They feed off each other. You go to a place like Germany, where the chief scientist at BMW may also be a tenured professor at the local university. So there is that automatic interaction between business and academia. We have less of that here.

It is about creating more of that culture, that culture of continuous improvement and innovation. There are a number of initiatives that Government is taking to promote that. Some of that is around how we promote the greater innovation bend if you like in the financial system. We are looking at issues like how you promote employee share schemes in start-ups. The previous Government tried to tighten them up on the basis that they were a form of tax avoidance. What we are trying to do is have a system which actually recognises the need of start-ups in the way they do in some overseas jurisdictions. As part of this process we are looking at things like crowd-sourced funding. What are the regulatory barriers in Australia to crowd-sourced funding? We do a bit better in that space along the lines of what happens in the US and elsewhere.

How do we promote adjustment? How do we promote innovation and creativity to achieve sustainable competitive advantage? Now most of you will come here and you will be a bit puzzled when you hear there is this talk about the Budget and the need to get the Budget under control. Now there is a specific context to this discussion and that is that we have prided ourselves over a number of years about our capacity to run, not just no deficits, but surpluses if possible. Build up our financial assets and actually be, if possible, debt free, at least in net terms. We think, as still a small open economy, the best way for us to cope with adverse external shocks is to have as nimble and flexible a fiscal policy as we can. Our philosophy is to build up the surpluses in the good years, and they are available as necessary to help you smooth out the bad years. So a former budget balance over the cycle if possible. Note the last Government missed this opportunity, partly because they were very focused on the fact that revenue growth was weak, but they kept pushing spending to the limits of that revenue growth anyway and there was a situation where they were almost always too optimistic about the rate of revenue growth and the result was they ended up actually missing that and achieving relatively large surpluses. And there was this period where because of the rise in the terms of trade and the income boost that was giving the economy, where at least two budgets I think we could have made more sustainable progress in getting to a surplus situation. Because now we’re in a situation of course where the economy has come off trend as resource investment has started to taper off, although there are some differing views about when resource investment was peak here. The point is we are now in a situation where if anything, there are further headwinds towards the economy contribution to a stronger budget outcome.

For us the dilemma is we want to have early credible progress on fiscal consolidation. We want to send a very strong signal to the population and the markets that we are on the right track, while also ensuring we do it in a pace which is not necessarily undermining economic growth. That is the sort of balance that we are trying to achieve here. There is no point being hairy chested for its own sake, we are doing this because at the end of the day we want an economy which is more resilient and we believe we get that by getting the surplus faster. We have made a commitment to get to 1% of GDP surplus by ‘20, ‘23, ‘24 and that has been calibrated in those terms because of the number of other commitments we have to meet. This includes a number of commitments left by the previous Government that we’ve agreed to meet.

The sooner we are on that credible path back to surplus I think the better for confidence in the economy. Part of our answer when people say to us, well that’s all fine but you say you are not going to interfere with growth, what are you doing to lift growth? Part of what we are doing to lift growth, as I’ve said before, is to assist the adjustment in the economy itself, go with the grain of market forces. We are trying to reduce the burden of regulation and costs in the economy. The overlap between Federal and State governments in areas like environmental approvals on big projects, we are trying to streamline that so there is a one stop shop approach for example. We are seeking to promote more flexibility in the labour market. This is a strategy in two stages if you like.

There are a number of things we are doing this term to bring greater flexibility in the labour market, for example. we announced a Royal Commission into the union movement. Some saw that solely through the prism of politics but at the end of the day a Royal Commission like that has a benefit if it uncovers, for example, some of the issues around the building and construction sector where it is very clear that there has been a bit of an alliance, if you like, between unions and some businesses to exploit some of the potential income gains and distribute them amongst themselves at the expense of the public and the result of higher construction cost than are needed. We need to have a more competitive building and construction sector. So what we are doing here has an economic focus, it is not just necessarily some partisan political exercise.

But more broadly than that, we’re trying to make the previous Government’s labour market regulation work better. For example, individual agreements, individual flexibility agreements, there is more scope for them to be negotiated within the framework of the Fair Work Act so no one can say we are undermining fundamental protections. At the same time we are getting the Productivity Commission, which is the economic research arm of the Government, independent from the Government as an agency within the Treasury portfolio, to do a review of the framework of labour market legislation in Australia, the Fair Work Act and find ways in which we can improve its flexibility.  We believe we need to have a debate about the economic dimensions of the Fair Work Act. Too often in the past we have been told, well labour market is in a sort of space by itself and we shouldn’t sort of necessarily just use economic tools to analyse that. Sure we all know what the labour market is about. It is about human beings, but what we are saying is we want to look at the impact of the labour market on both capacity to employ people, conditions of work, how that is impacting on capacity to employ people and one of the trade-offs and where protection has to be provided. No one is saying protection should not be provided, particularly for the most vulnerable, what is the most market friendly way to do that. So everything you are doing is going with the grain of market forces rather than against it so that the labour market is a two stage process.

The reason why we are particularly keen to pursue structural reform is that we recognise the limited scope for the Budget to necessarily provide the sort of stimulus people out there might be expecting. We are changing though the focus of the Budget away from too much focus on payments and more focus on particularly encouraging infrastructure spending. This is going to be a major focus of the Treasurer’s over the next little while. Joe Hockey has been talking to his State counterparts about the assets that are available at the State level for sale and he wants to facilitate that process of sale so that when those assets are sold and they come into the Commonwealth tax net, we can recycle some of the tax payments that come to us through that process as an added incentive for them to undertake privatisation and also to use those funds then for new greenfields investment here in Australia.

As the New South Wales Government is demonstrating, perhaps having the Government come in, take some of the risk upfront with new infrastructure, get it developed and built to a stage where it is bankable and it has got a stable return and is therefore of interest to investors, institutional investors and superfunds and the like. Then you flip those assets out and you have, if you like, a recycling mechanism which allows you to remove old infrastructure and bring in new infrastructure which is more attuned to the needs of people. So Joe Hockey is doing a lot to facilitate that process at the Federal level, revamping Infrastructure Australia, which makes assessment of infrastructure proposals and we are seeking to make its deliberations more open, more transparent, along with more cost-benefit assessments of projects that would be published, and create something like a15 year pipeline of projects to give investors and the infrastructure providers some certainty about what the deal pipeline potentially looks like.

At the international level we are also involved in discussions around we promote greater infrastructure investment. The G20 has been a good forum for this. One of the things that strikes me and strikes the Government in looking at the issue of infrastructure in the region is that there is a bit of a mismatch between the demand for infrastructure and if you like the actual supply of infrastructure. We’ve been told for example that to some extent investors in the West are hesitant to invest in certain markets in the East because they are not quite as developed as they could be. We have been looking at things such as global currency bond markets and other infrastructure financing mechanisms through the prism of the G20 and other avenues; ways in which we promote greater development of capital markets, financial instruments in the emerging economies so there is more of their savings used domestically rather than recycled to the West. It is very important we try and get that right. Australia is going to be doing more in that space as we try and promote financial market liberalisation among the emerging economies where we can.

In the last week I have been involved in a number of functions with Chinese Banks that are involved in promoting the use of the renminbi in trade and investment. I was with the China Construction Bank last Monday where they launched their renminbi service here in Australia and on Tuesday, the Stock Exchange with the Bank of China launched their settlement service using Australian financial market infrastructure to get more of a real time settlement process going. I was then on Wednesday present at the signing of a memorandum of understanding between Hancock Prospecting - one of our big resource firms - and again the Bank of China involving the promotion of the use of the renminbi and we are very keen to do that. These are all processes where, particularly encouraging the Chinese currency to be more used internationally, is not just about an economic and financial outcome, it is also a geo-political issue. Part of our philosophy as a Government when it comes to the emerging economies is we need to give them a big a stake in the existing world economy. And in the rules of the game that prevail in the international economy.

Another example of that is the support we have provided to the emerging economies for the final implementation of what has been agreed in the review of quotas and voting shared at the International Monetary Fund and similar bodies to better reflect the way in which the economic centre of gravity is shifting East in the world and is shifting towards emerging economies. So we are very keen, we are not afraid of a world where the emerging economies get bigger and bigger, because it is unambiguously better for all of us. We need to recognise what that means in terms of the influence that they can potentially exercise in international bodies, we need to find ways to accommodate that and as I said before, the more you give people ownership of something the more they feel they have a stake in it, the more they will respect the rules and play by the rules. And the international rules we’ve had since 1945 in various guises and as they have evolved over the years have been very important rules for promoting greater openness in trade and investment.

As I said before, for us that engagement with China is as much geo-political as it is economic and financial. The other aspiration we have in engaging with China in this way is that we continue to pride Australia as a financial services centre. One of my gigs is, apart from being Minister for tax and superannuation and corporate law, I also look after financial services. And one of our ambitions is to complete the agenda on what’s called the Mark Johnson Report which was a report on promoting Australia as a financial services centre. We are looking at issues for example about how we finally get a retail corporate bond market going. We are looking at further streamlining the fund manager regime here so that people can use Australia. Overseas investors and others can use Australia as a source of fund management expertise and all the rest of it and not be penalised in tax terms with a more competitive the region. We are revamping the offshore banking units here to make sure that they are as competitive as they can be while they respect the rules around the integrity of our tax system.

We are also looking at how we encourage the financial services industry to come up with more retail products. Not just the retail corporate bonds but also, for example, more infrastructure products, which are tailored to the needs of retail investors. We have in mind here, for example, that some of you may know our superannuation pool now is about 1.6 trillion, one third of that is held through self-managed superfunds, with one, two, three or four people acting as trustees for their own superannuation fund. Now that is leading to some interesting things lately around whether they are investing too much in property or not. I do not think they are but that sector in particular for example is expressing an appetite for new financial instruments including those in the infrastructure space. So for us there is quite an agenda there about how we promote greater diversification of our capital market. It is very important to us to get more of those retail products going.

Also we know that it is not our aspiration to suddenly overtake Singapore or Hong Kong or Shanghai, for example, as financial centres. We see ourselves as complementary in that regard. We have got some great advantages but we are not necessarily able to cut tax to the bone in order to be able to compete with some of those jurisdictions. But we are doing whatever we can to build on the great expertise we have got here.  Thirty years of financial deregulation, the development of the superannuation industry in Australia, has given us a tremendous financial services sector and there is a lot of talent and expertise in the sector. A lot of expatriates work in the region, renowned for their expertise around financial services, so for us it’s one of the areas of comparative advantage for Australia that we want to keep further developing.

When we look around the region, financial services are going to be important, other advanced services are going to be important. Food is going to be important as tastes increase in sophistication and complexity in the region. For us, mining investment was one phase of, if you like, the long term Asia boom or Indo-Pacific boom, if I can put it like that. There are phases around food, there are phases around advances services and other things for us. But you know, there is no free lunch. We have to compete. We have to be fit for purpose and that is why there has to be a governed agenda around structural reform to complement what we’re doing to promote our engagement in the region.

On that point I should probably stop talking. I think I’ve probably done about half an hour and give you a chance for questions.

Thank you.




As we’ve seen economic volatility subside, the focus is very much turning to economic growth going forward and how we can boost it. We saw that come through in the G20 on the weekend. At the same time we saw a good chart from Warren before on demographics and the challenges presented by that, so clearly there is a focus on toe-factor productivity, how we grow it. Infrastructure plays into that very strongly. This asset recycling seems to be an idea whose time has come. What do you see as the main sort of execution risks around actually achieving that?


On the infrastructure front, one of my personal bug bears is that we make sure we have a governance framework which means we are selecting the best projects. That is one of the reasons why I support the transparency around the work of Infrastructure Australia to make sure that everybody is seeing what is being selected and why. I think that getting the governance right is important and I also think that allied with what we do in terms of promoting more infrastructure investment is also making sure the right incentives are there in terms of the pricing of infrastructure. And this is where the politics hits the road because some areas are easier to price than others. But for us the challenge, if we’re going to have this debate properly, is to educate people that in determining what investment should come next. If you’ve got the right price signals in place, you know whether you’re using existing infrastructure appropriately and that will then give you the appropriate signals around what investment comes next and when.

The only other point to add to that, just on infrastructure, is there is a bit of a tendency often to select big projects because they are big, whereas, you know, in the infrastructure space there are often small and medium scale projects, for example, in unlocking the productivity of a port, but they’re not really big projects so sometimes they get missed in the whole equation. And that is where the transparency comes in, there is some way of making sure they are on the table and they’re being measured appropriately as well.


Minister this is maybe a little off topic of what you have been talking about, but since we have you here, we might as well ask: we have a lot of holders in Commonwealth Government bonds in this room so just to comment, if you will, on the development of the Commonwealth Government bond market. Has the Minister seen the bond market develop, any thoughts?


Yeah. Well first and foremost I remember in the early 2000s when it looked like we were going to have a string of budget surpluses and there was all this talk about actually getting rid of the bond market and I was quite surprised, this caused a real flutter in financial markets. And I remember one group came along, I think they were from the Sydney Futures Exchange and said if this happens, the banks are going to run the system because they’re going to be the benchmark for the system as a whole. So you can’t have the big bad banks doing that.

But look, I think in the end we were all persuaded and I think certainly Peter Costello, who was the prime mover behind all of this, was persuaded that the importance of maintaining the bond market and having government bonds out there as a benchmark. And if you talk to Joe Hockey, he has actually talked about lengthening the maturity of government bonds to provide a bit of a benchmark for longer term bonds in the private sector as well. And certainly as part of the work we’re doing on getting the budget back under control, we’re keen to make sure that we don’t disrupt the capacity of the bond market to act in that way that we’re talking about here, certainly from a Government perspective.

So the aspiration would be to get the Budget back into surplus, pay down debt, but have an eye to the implication of that also for bond markets.

You would have seen some political debate the last few months about the debt limit in Australia. This was first introduced in 2008 by the previous Government at a time when I think they were seeking to reassure that markets that any increase in debt would be short term and limited. But of course what happened over time is that, through a variety of reasons the debt limit kept having to be increased and this lead to a lot of political debate. Every time it went up it became a measure of the failure of the Government’s fiscal policy. And what was interesting is when we came in, when we looked at where deficits where likely to go on a no policy change basis, from the setting we’d inherited from the previous Government, we were looking at having close to 500 billion by the end of the forward estimates period, the next 3 or 4 years and Joe Hockey made the decision well if I’m going to have to ask the Parliament for approval on a debt limit, I might as well just try and do it once, so he went for the 500 number. And it was quite interesting because I was Senator, so I sit at the table when we have Estimate hearings where the Agencies of the Treasury portfolio are grilled by my fellow Senators.

I was sitting at the table and this issue of debt limit came up and the Greens party, who have nine seats in the Senate were there and they started asking an interesting series of questions about the debt limit and the relationship between the debt limit, as we conceive it here or have conceived it, and the US situation. And it was interesting, their mind was actually going to the idea that maybe, you know it’s only been in for a few years, maybe we don’t actually need a limit, you just get authority for what you need when you’re doing the Budget every year. And they in fact raised this issue of well why don’t we get rid of the limit. So rather than have a fight over whether it should be 500 or whatever, we sat down with the Greens and said yes we’ll get rid of the limit in that form. As a result of that there was some further agreements made around transparency in the Budget papers on debt, measures of debt, the evolution of debt, every time debt’s increased by 50 billion or so, there would be a report to the Parliament, as well as a statement put out. They wanted more debate around what’s called good debt versus bad debt, depending on how you’re using the debt. Now I actually think that’s a good thing, because sometimes we can get too swept up in the idea that all debt is bad. But of course it all depends on how you use it in the circumstances under which you’re using it.

But the point is we now have a situation here were we no longer have that limit, but there has to be a statement to Parliament every time the debt goes up by I think 50 billion or so increments. Now we’re hoping that, to be arresting that process, that we don’t have too many of those statements, but we keep bond market developments under a sort of close eye. And apart from the implications in terms of the Budget we’re also keen to make sure that we have a strategic view of the Government’s role in the bond market and how that supports our broader aspirations around promoting Australia as a financial centre.