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The impact of the Covid-19 pandemic on trade and, over the last six months, America’s war with Iran, have made it clear that there is an urgent need to build a more resilient Australia; that is, an economy that is sufficiently robust that it can continue functioning if the nation’s vulnerable supply chains should be cut.

Recent crises have spurred an increasing push around the world to develop industry policies, which in Australian economic circles has, for over three decades, been regarded by economists as unacceptable.

A new report by the World Bank, “Industrial Policy for Development”, outlines how a worldwide shift is occurring. It says that for decades, governments in most developed economies assumed that they should take a hands-off approach to macroeconomic management and leave the private sector free from interference. “Roughly 30 years ago… we said industrial policy is usually a costly failure.” Now the World Bank admits: “That advice has not aged well.”

In truth, as the report acknowledges, industry policy in many countries, especially in Asia, has been the key plank in economic development. The big difference now is that the world’s biggest economy, America, is changing direction. The current Administration is adopting interventionist and even protectionist strategies to boost the US industry base.

American Vice-President J.D. Vance recently called it the “American developmentalist” approach, in which the emphasis is on government-supported industrial policy, heavy domestic manufacturing, and targeted protections for American workers.

Because the United States represents about a quarter of the world economy and two-fifths of the world’s consumer market, the ripples are being felt around the globe.

How should Australia respond? The first question to answer is: “What is the objective?” The phrase “industry policy” can refer to many things.

It can be attempts to boost exports to derive income from overseas markets. That characterises the mercantile approaches of Japan, South Korea and China. Or it can be policies to subsidise local industries and protect them against cheaper imports, which has been very much the preference of the European Union, especially in its primary industries.

The next question to pose is: “What is the best government approach?” The World Bank report says effective industrial policy depends on three criteria: the size of a country’s local market; the capacity of the government to interact with many businesses and industries at once; and its budgetary room, or “fiscal space”.

On those criteria, Australia is not well-positioned. The domestic market is only 28 million people, and the federal government has long since dispensed with industry experts, preferring abstract advice from economists.

On the “budgetary room” metric, the situation is better. Australia’s public debt is low: gross general government debt sits at about 51 per cent of GDP; the average across the OECD is about 108 per cent of GDP. But there is little political appetite for increased spending.

Superannuation

Where Australia is unusually strong, though, is its superannuation pool, which is about $4.5 trillion. That vastly outweighs the government’s ability to spend on any industry support. Annual total federal government spending is about $830 billion – and only a sliver of that could be made available for industry initiatives.

Australia’s super funds have now become so large that there are too few investment opportunities within the country. Accordingly, over half of the capital is now invested offshore. Although that is partly due to restrictions on what they can invest in, it is also partly due to lack of investment opportunities in Australia.

Moreover, the super fund pool is on trend to double every ten years. That kind of growth will definitely not be happening with Australia’s tax base, unless there is major industry investment.

It is thus an option for the Australian government to work with super institutions to find ways for them to fund a more diversified Australian industry base. It could also be very much in the funds’ interests.

As The Australian has observed, the local stock market, in which the super funds are one of the main investors, is too heavily weighted towards a financial sector that is likely to face headwinds. On both sides of the ledger, there is a need to diversify.

One obstacle is that super funds are reluctant to invest in early-stage (greenfields) operations. But governments could find ways to help them manage downside risks, which would be different to helping companies directly. Instead of governments “picking winners”, which carries political dangers, the super funds would do the picking.

Hypotheticals

Governments could invest at that early stage and then recoup the outlay by handing the enterprise over to the investment institutions when the operation is more mature. Another option is to subsidise local producers in areas of critical national importance. This can be used to change the emphasis away from always encouraging the cheapest offering, no matter where it comes from: considering the national interest as well as the end-user price.

A further possibility is for the government, as a large buyer, to provide the new industry players with a guaranteed market. If there was a move to restart, with super investment, an Australian-owned and publicly listed car industry, it could mandate that the 50,000 new vehicles the government buys every year, over 4 per cent of the total market, must go to Australian providers. By ensuring a captive customer base, the risk-reward calculation would be significantly changed.

Australia has in the past shown an aptitude for car-making, including making its own model, the Holden, and later becoming a crucial part of the supply chain of the global majors in areas like automative design, durability testing, specialised components and rugged-vehicle engineering. There is no reason why these skills cannot be revisited and expanded upon. Establishing factories in regional areas could also greatly help with decentralisation, an imperative given the housing bubble in the major cities.

The aim should be to double Australia’s manufacturing sector to 10 per cent of the economy in about a decade; currently it is only 5 per cent. Most of the sectors crucial to the national interest are either primary industries or in manufacturing.

This would not only have an economic benefit; it could prove crucial if the international environment turns more hostile. This was evident when the Strait of Hormuz was closed, when there were fears that the whole economy could be at risk.

When China reduced its urea exports, which is vital for making diesel fuel, the potential impact on agricultural equipment and freight fleets, critical in such a geographically large country, was shocking. Temporary solutions were found, but the key problem was that Australia’s only producer of urea, the Gibson Island manufacturing facility in Queensland, had permanently shut down.

The list of other areas where Australia’s survival could be threatened is long. Energy provision with liquid fuels is a potentially life-threatening vulnerability. At the very least, we need to build up petrol and diesel reserves as other countries have done (see here for an account of Finland’s preparedness in this regard). Attention needs to be paid to the fact that Australia is a heavy exporter of energy, yet domestically, risks are being taken with secure supply.

Computer chips, which degrade over time, are another possible weakness. Reciprocal arrangements with overseas providers, especially in Taiwan, are essential. Developing local manufacturing capability should be a longer-term aim.

Some chemical production is critical to the system’s functioning. If liquefied chlorine gas is not available, water purification and sewage treatment at many plants will fail in one to four weeks; most utilities keep only a month’s supply in reserve. There is an Australian-based manufacturer IXOM, but it is a subsidiary of a Singapore-domiciled company, Keppel Infrastructure Trust.

Food production is self-evidently essential and an area where Australia has traditionally excelled. But, for many products, the industry is under growing pressure and in need of traditional protectionist measures, especially tariffs to keep out cheap overseas product.

It is revealing that there are almost no agriculture companies listed on the Australian Stock Exchange, and Australian super funds allocate less than 1 per cent of their portfolios directly to agriculture. If Australian governments could develop a vehicle that is diversified, both by product type and geography, more institutional capital could be attracted.

Financial Opportunity

The financial opportunity is great and specifically Australian. The nation’s superannuation pool is the fourth-largest in the world by absolute asset value, and one of the biggest relative to the size of the population.

Some smaller countries, Denmark, Switzerland and Iceland, have larger superannuation and pension pools relative to their size, as does Canada, which has a bigger population. But they all have complex multi-tiered systems in which the government retains an element of control.

What makes Australia’s system unique is that the money is legally owned by the superannuant, so decisions about where the capital is invested are made without government interference. That is why Australia is the only country in the world that combines a fully mandated employer-funded superannuation system with self-managed super funds (SMSFs).

If Australian governments are to exploit the enormous pool of capital to catalyse diversification of the industry base with the aim of achieving greater self-sufficiency, they face an opportunity and a challenge.

One advantage is that the “government shouldn’t pick winners” objection can be avoided. It would be the super funds that do the picking. They have the capital, and for the most part, governments do not.

Initial scoping could be achieved by running comprehensive national resilience exercises to identify the most critical areas and develop a consensus. But the biggest challenge will be for governments to develop pro-business ways of thinking: knowing how to work with superannuation funds to restore our industry base.

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Republished with thanks to News Weekly. Image courtesy of Adobe.