Investing — or not — to get us through the rough patch

Reserve Bank governor Alan Bollard wants businesses to invest and banks to fund that investment as the squeeze goes on households and the economy turns down.

Bollard’s plea suggests he is getting edgy at the prospect of a sharp downturn even as he has to keep interest rates up to bring inflation back under 3 per cent. If businesses invest, that would both work against that downturn in the economic cycle in a relatively non-inflationary way and build economic capacity for the future.

Bollard’s problem is that banks, having difficulty attracting funding from offshore as they did during the boom and the house bubble, are rationing credit to businesses and pushing up the cost of funds, which worsens the expected return on investment.

Credit rationing doesn’t constrain businesses with strong balance sheets but in any case businesses are run by humans who are run by demands to produce quarterly profits. They are responsible not to the country but to shareholders.

The alternative is for the government to plug the gap and invest more, in roads, hospitals, schools, broadband and the like, which has longterm economic benefits.

Note: investment. Pumping up consumption spending risks compounding the inflation problem. But in any case governments are lumbering beasts and timing additional investment to be countercyclical and then end is a big ask. That brings the focus back to businesses, which are nimbler but which will invest only when they can see a good return.

So it is a fair bet that the downswing will take its course. Some expect it to be gentle. Signs have been growing that it might instead be rough.

Over the past 15 years households have loaded up with debt, encouraged by banks and other lenders, by desire for consumer goods and by the government’s pleasure that the boom was generating lots of lolly for ministers to redistribute and impress voters. And it was all so apparently easy.

Households now on average owe nearly double their annual disposable incomes. Mortgages alone are more than one and a-half times disposable incomes on average.

That’s fine while house prices rise and so higher assets offset higher debt. And while jobs are growing and wages and salaries are rising, interest payments can be met.

All that has now stopped. House prices are going down. There is anecdotal evidence that job advertisements are contracting sharply. Wages and salaries will eventually slow, too.

This comes as interest rates and food and fuel prices are rising and as banks and finance companies are closing off the option of loading the cost of debt on to a fifth or sixth credit card and putting off the day of reckoning on the first four credit cards.

No one knows how sharp, deep or painful (or soft, shallow and bearable) this slowdown will be. The world economy, while slowing, has some strength, particularly in east Asia — for now, at least. And in Australia, our biggest export market, mineral-rich Queensland and West Australia are super-flush. But households’ whopping financial imbalances and our whopping total country debt to foreigners, both near or at the top of the OECD leagues, suggest it could be rough.

It may even already be rough.

Translate that to politics.

The interpretation Labour likes is that if times get tough, people will look for a security blanket, that Labour’s core competence is helping people through hard times and that Labour has an advantage in that John Key has yet to prove himself and Helen Clark and Michael Cullen are a proven pair.

The interpretation National likes is that squeezed households need relief and National is the major party people believe will cut taxes more and ease their paths out of their personal credit crunches — and that it all went wrong on Clark’s and Cullen’s watch.

The worry for National is that the downturn might bite hardest on its watch if it leads the next government, that it gets thereby a reputation for austerity and that voters tip back next election (as happened to Labour in 1957-60). Of course, a re-elected Labour-led government would face the same music but a fifth term is a huge ask anyway. (Hence already some in Labour are envisaging the “sixth” Labour government, implying the current fifth one is near the end of its life.)

There are some side issues, like the role of foreign banks and foreign investors. The decision by David Parker and Clayton Cosgrove on Friday to block the bid for Auckland airport by the Canadian Pension Plan hooks into the inward-turning instinct harder times activates in some people.

Winston Peters remains fully attuned to that, as he showed last week in his positioning on the China free trade agreement. “Foreigners last” is a good line when there is hurt at home.

The Greens and the Maori party can also rouse their core constituencies, who range from suspicious to hostile in their attitudes to foreign economic influences.

The parties’ manoeuvrings make great spectator sport. Trouble is, the spectators are also players.