This week we look at a new government in Canberra and what, if any, are the implications for markets? Before proceeding into what is intrinsically a divisive topic, we’ll start with the conclusion, the answer is the implications are negligible.
TAMIM | Election 2022
As market participants it sometimes pays to be cognizant of a rather Schumpeterian view on government policy as well as the shorter term policy framework (where monetary policy is included). Schumpeter is the arguable father of the Austrian school of economic thought which pushed for a more Laissez-Faires approach to markets. A man who is perhaps best remembered for the term “creative destruction” to explain market cycles and dislocations. Without getting into the details, the argument is simply this: there exists a natural long-run rate of growth in the economy (he wrote during the depths of the Depression), approximately 2-3%, that doubles living standards roughly every 40–50 years. Policies (whether fiscal or monetary) are only effective insofar as people and polities care about shorter term dislocations. So, what matters?
Broadly the categories are technological change and innovation, human capital (and growth in productivity), demographics (i.e. working age population) and finally labour force participation. As such, in the absence of changes to the existing institutional framework (i.e. changing the nature of the production), government policy will only impact longer-term growth and inevitably company earnings that we care about if, and only if, any of the aforementioned categories are impacted.
What does the change in government represent?
Thanks to the nature of Australian politics, namely mandatory voting, it tends towards moderatism (rather than political extremes). We are by no means political experts but the Independent performance this election looks to be a swing back to the middle against a perceived drift further down the political spectrum. The Labor and Liberal parties do not have what may be termed drastically different policy outlooks, at least in terms of the aforementioned categories. Both parties put forth budgets that espouse a greater emphasis on growth as opposed to austerity, both came through with policies aimed at priority areas of the digital economy (where the creative destruction will come from), childcare (impacting the longer-term participation rate) as well as manufacturing.
The major difference, in our view, is in the area of climate and associated action. Although there are certainly loud elements within the party that advocate higher tax rates on corporates, we somehow doubt this will have any discernible avenue to be translated into actual policy (especially in the current global economic environment). On certain questions such as aged care, where a great deal of noise has been made, we take a wait and see view in terms of actual policy.
Perhaps the most interesting outcome in the election has been the spectacular rise in Independents. This was combined with a substantial fall in the primary vote; at the time of writing the Labor Party having won 32.8% of the popular vote (-0.5%), the Liberal Party 23.9% (-4.2%), the Liberal National Party 7.8% (-0.9%) and The Nationals 4.0% (-0.3%). This should, one hopes, give the establishment some food for thought. One of the great things about Australian politics (and one that is an exceptional outcome for the investor) is its tendency towards the center. Both parties, as part of a broader global trend, have put too much effort in bringing fringe issues to the mainstream at the cost of rational policy debate. This has meant turning fundamentally economic or scientific questions into those of political ideology. One area where this is most obvious is climate change and action. On this the electorate has spoken and done so resoundingly, many of the Independents campaigning with climate change as a key issue while the Greens also picked up 11.8% of the vote (+1.4%).
So, with that let's move on to the elephant in the room. This is probably where we see the most drastic shift from the old management team to the new: climate policy.
Climate: The Major Policy Difference
Let us be clear, there are obviously a myriad of policy differences between the two major parties. Here we are referring to the idea that climate policy is probably the only one that will have real impact on the long-term performance of the economy. A clear outcome in this election is that voters have come out in favour of more action on climate change. Labor unveiled a plan last year that aims at emissions reduction to the tune of 43% by 2030 and net zero by 2050. We are aware that this is often a contentious issue for many so we shall leave aside the science and just work through the implications for markets.
For the investor, the question is not the targets but how these targets are achieved. If the mechanism relies on punitive measures such as restricting supply and taxation, the outcomes are vastly different from say Commonwealth subsidies for renewables or increases to R&D incentives. If the emphasis is on the latter, then opportunities abound for those that can correctly identify windfalls for certain sectors of the ASX, including but not restricted to materials and infrastructure. An emphasis on the former could be a form of contractionary government policy that may place increased pressure on inflation data that is already steaming ahead (utilities and energy prices being a large proportion of the CPI basket). This also has implications for monetary policy which remains of much greater importance than the fiscal side. Again, we have to remain patient as to what form that policy takes.
We hope that cabinet chooses to co-opt the private sector as opposed to otherwise. We found it rather interesting that the previous government took a more interventionist approach, in the form of direct action, as opposed to the more market friendly ETS (Emissions Trading Scheme). This particular policy has even been implemented in China to reasonable effect.
From an investing perspective, it is quite irrelevant whether one chooses to believe in climate science. Especially when sitting in a country that has an abundance of resource endowments that are crucial to the global shift toward green (commodities such as cobalt and copper right through to iron ore). If anything, we take the view that the Commonwealth should push aggressively despite shorter term implications for electricity prices and overall dislocations. We’re talking potential short-term pain for long-term gain. There is no reason for the commodities boom to be over in this country, they’re just different commodities this time around. Australia, in our view, has the opportunity to become part of what has been termed by The Economist as ‘electrostates’ (i.e. analogous to the petrostates of the 20th century), the payoff could be quite astounding.
Moreover there is an argument to be made for what the negative externalities in traditional markets are (i.e. costs not currently priced in). Unfortunately, an impact of short election cycles is that it promotes shorter-term thinking when it comes to policy; that short-term pain can cost you an election after all. While undoubtably cheaper as it currently stands, the price of coal power generation, for example, does not include the medium- to long-term costs of pollution and associated healthcare costs. It’s not the outcomes that we are against but rather the ineptitude of policy. We firmly believe that market based solutions are the most efficient and effective delivery mechanism for equitable outcomes.
To conclude, we shall say this, investors have to be rational. The human part of us, with our intrinsically political outlooks (we are social animals after all), may lead us otherwise. In this instance, what we see in terms of fundamental policy differences gives us every reason to believe that the change in government isn’t going to have all that much of a long-term impact in terms of the long-term performance of the economy and thus the all important investor returns.
As we concluded last week: Keep it simple. Keep it disciplined. Keep it rational.
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