Being Cheated Down Under

We had dinner with some old friends the other night. He had a manufacturing business that he ended up selling. And we got talking about that. Apparently, a National cabinet minister once told him that manufacturing from New Zealand was ‘too hard’.

The business employs people. It sells innovative Kiwi technology to the world. But it may end up moving some production to China to compete.

It can be hard to enforce international patents in China — although protections are improving. There are plenty of examples of technology getting ‘adopted’. Your products could get copied by another factory and sold worldwide on Alibaba.

The markets are whipsawing on news about a China-US trade deal

Meanwhile, China is facing tariffs on significant factory exports to the US. And its economy is slowing. Perhaps more than official figures show. Any major slowdown could be toxic, given the country’s reliance on foreign capital and technology. Alongside frightening levels of debt.

If we take China’s total debt — corporate, household, government — the Institute of Finance reports this running at over 300% of GDP in the first quarter of 2019.

Such debt is manageable when your economy is growing fast. Growth keeps abreast of interest. Any interruption to that story can tip the apple cart.

Australia and New Zealand are dangerously exposed to China

We don’t know what will happen in the world’s second-biggest economy. It has benefited from — even manipulated — the global free-trade system for many years. Now the US and possibly Europe are seeking to rebalance this.

A trade deal will provide some certainty. And no doubt boost Australasian equities. But if the mercurial parties fail to reach an agreement, increased tariffs along with other restrictions could slash Chinese growth.

Australia is first in line. Their primary export is iron ore. And their main export market is China, which takes in A$85bn — or nearly $100bn if we include Hong Kong. Their next largest export market is Japan, buying only A$35bn.

Mining dilemma

Australian iron ore supplies Chinese factories. If those factories are going back to America — or relocating to other parts of the world like Vietnam — Australia is going to have to reconsider supply chains and volumes.

Whatever way you cut it, rust-belt politics in the US and increasingly Europe is ripe to support any leader who promises to tackle the Chinese manufacturing advantage.

At first glance, New Zealand appears better placed. More of our exports to China are domestic-market focused — dairy and meat. But we are heavily exposed to Australia, with that being our second-biggest export market.

This is why I’m taking a cautious approach on Australasian equities

Neither Australia nor New Zealand are out of the economic woods. The Kiwi economy is dependent on a continued export surplus with China. And very high rates of net migration.

But aren’t we on track for GDP growth over 2%? A leading light in the OECD?

When you’re increasing the population by around 2%, much of that growth is being imported in.

Meanwhile, home affordability worsens. And high rates of household debt come to depend on low interest rates, just like how heart patients need statins.

Should the risk margin on those rates increase due to a downward export spiral or some other disaster, the property market could well have a heart attack. And the share market could follow as investors look to find cash.

Unfortunately, it’s hard to find any political party in New Zealand that could help

Both Labour and National seem to have deserted producers. They’re both behind the new carbon bill and emissions trading scheme.

While a warming climate is undeniable, regulation impacting our most productive people — business owners and farmers — doesn’t seem to be the best approach.

A stark comparison between China and Oceania

The entire region of Oceania, comprising both Australia and New Zealand, emits less than 1.3% of the world’s carbon.

A far better approach would be to incentivise our producers through tax breaks, or otherwise find innovative ways to reduce their emissions and improve the environment.

By converting productive land to forestry to play the emissions scheme, logs will get shipped to ‘developing’ countries like China. Carbon will get produced in those factories and across the world’s shipping lanes.

China has an unfair advantage

While New Zealand has near-term requirements under the Paris Agreement on Climate Change, developing countries like China can increase emissions in the short-run, not meeting targets until much later. This is why Trump has labelled the agreement unfair to the US and is withdrawing from it.

China is the world’s largest emitter of carbon. It emits more than the US and the EU combined. And it will benefit from the current relief it enjoys as a ‘developing country’.

China emissions

Compliance trap

As this agreement penalises the US, it is not great for New Zealand either. Especially with farming to come into the Emissions Trading Scheme within 5 years.

The feedback I’m getting from a diverse range of business owners is that they’re now spending a lot more time on preparing for government compliance across many sectors — from emissions to finance — to produce the same income.

The Kiwi bureaucratic machine is booming. And the takers are well-fed, while the makers face an uncertain future.

A Goldman Sachs partner described what a potential Labour-led Britain would look like. ‘Like Cuba without sun.

New Zealand may have a bit more sunshine, but our economy is a fraction of the size of the UK’s. We can’t afford a 1970s-style stifling again.

Which political party might be worth our support next year?

Labour’s more ideological intentions are only restrained by the thin and sometimes wobbly line of New Zealand First.

National has let us down on too many fronts. And it is hard to find any love for a party that will once again float the vulnerable Kiwi housing market on the global money trail.

My former manufacturing friend at dinner mentioned the New Conservatives. As opposed to the Old Conservatives led by Colin Craig.

Another alternative?

A review of the policies on their website suggests a possible strong suite for wealth producers and investors. With a focus on personal responsibility, free markets, families and individual liberty.

They promise to pull out of the Paris Climate Agreement. Their environmental policy makes practical sense:

‘While we wholeheartedly agree that the world needs to work together to preserve our environment in the best possible way, we do not believe that paying billions of dollars to third world countries will achieve those results. Supporting R&D and the innovative strengths in our nation, and creating pollution solutions and exporting those, will have a much greater positive effect on the environment. Targeting funding to the areas where New Zealand faces its greatest challenges gives us more hope of exceeding our targets than simply buying carbon credits.’

We need better ideas

In fact, much of their entire suite of policies seems based on common-sense economics. As opposed to the ideologies of political-science graduates. Or a Deep State. Or the stop-plug of consumer migration.

But can they even reach the 5% threshold to become a credible MMP partner? And even if they did, can they do anything to stop the march of the ideologues?

All we can do for now is shine a light on what appears to be a rare pocket of common sense. And continue to shine the light on the best investment opportunities. Which, right now, in terms of being reasonably priced on public exchanges — seem to sit outside this country.

Regards,

Simon Angelo

Editor, WealthMorning.com

PS: For our global investments newsletter and our current recommendations, please click here.


Simon is the editor of Wealth Morning and has been investing in the markets since he was 17. He recently spent a couple of years working in the hedge fund industry in Europe. Before this he owned an award-winning professional services business and online learning company in Auckland for 20 years. He has completed the Certificate in Discretionary Investment Management from the Personal Finance Society (UK), has written a bestselling book and manages global share portfolios.


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