- Money Morning Australia

Enjoy Your Stimulus Handout, But Don’t Expect it to Help the Economy

Written on 04 February 2009 by Kris Sayce

Enjoy Your Stimulus Handout, But Don’t Expect it to Help the Economy

Enjoy Your Stimulus Handout, But Don’t Expect it to Help the Economy

In light of the historic stimulus package brought forward by the federal government yesterday, your editor thought it would be appropriate to take a trip back in time to see how previous stimulus packages have been announced. It threw up a few surprises.

First we came across this little known passage from the ancient world:

“And God said, ‘Let there be light’; and there was light. And God saw that the light was good. And then he said ‘Let there be ceiling insulation for everyone’; and there was ceiling insulation for everyone. And God saw that Insulations-R-Us had done a good job.”

Then there was this gem from the initial draft of the United States Declaration of Independence:

“[T]hat all Men are created equal, that they are endowed by their Creator with certain unalienable Rights, that among these are Life, Liberty, the pursuit of Happiness and free ceiling insulation.”

And closer to home, let us not forget three of the most important demands from the revolt at the Eureka Stockade:

      1. The right for all men to vote
      2. Abolition of the property qualifications for members of parliament
      3. Reform of administration of the goldfields
      4. And, $1,600 worth of free ceiling insulation to every household

This latest development in the history of household insulation must surely rank up there with these other examples of historically significant events.

But that wasn’t all the news we were able to ‘celebrate’ yesterday. While it was party time in Canberra, the Reserve Bank of Australia in Sydney decided they needed to get in on the act. They wouldn’t want the government taking all the credit when this wonderful stimulus package saves the economy from the evils of recession.

So, following news of the fiscal stimulus all eyes turned to the RBA to see whether they could trump the government with a similarly magnificent monetary stimulus.

As is so often the case with this sort of thing, expectations had exceeded reality. Two months ago a 100 basis point cut in interest rates was met with a fanfare. Yesterday it was met with, “is that all?”

Government handouts do more harm than good

Not surprisingly, the mainstream media and mainstream economists have lapped up the stimuli. Headlines in today’s press tell the tale:

“Rudd throws $42bn at economy” – Australian Financial Review

“Schoolyard blitz to avoid recession” – AFR

“We’re all in this together: except Turnbull” – AFR

“Rudd and the Reserve free up billions to beat recession” – The Age

“Rudd splashes the cash” – The Age

In fact, even those news stories that are critical of the package are critical because the spending doesn’t go far enough. “Spend more” they cry, “this is an economic crisis of enormous magnitude.”

Well, if it wasn’t already, it will be if the government continues to spend money it doesn’t have.

But here’s the headline you won’t read anywhere else:

Are you ready for it? The government economic stimulus package will have no positive impact on the broader economy whatsoever. None.

There, we said. And it doesn’t take rocket science or a PhD in economics to work it out either. All you need to do is apply a dose of logic and consider the extended consequences of these policies. Almost every commentator and economist interviewed in the last few days has looked no further than the direct impact of increased government spending and increased government debt.

What they haven’t done, is look at what everyone in six months time will call the “unintended consequences” or “unforeseen consequences” of the stimulus package.

So, in brief, here is why this and any other government inspired stimulus plan will not work.

Buying into property at the top of the market

First, we have to start off with our favourite part of the package – home insulation. $2.2 billion will be spent by taxpayers to fit out over two million existing homes with insulation. Aside from the idea being completely bizarre to begin with, let’s take a look at what this will do to insulation businesses and what impact it will have on other businesses in the economy.

Of course, it is likely that companies such as Fletcher Building will derive some benefit from the plan. But one ‘unintended consequence’ could be that until the plan is actually implemented by the government the short term impact is that homeowners already considering insulating their home may decide to put it off until they can take advantage of the freebie from the government.

And what about other industries? Well, we can be pretty certain that if it wasn’t for the government hand out, you wouldn’t see two million homeowners choosing to spend $1,600 on home insulation. They would probably have spent it elsewhere in the economy. For instance they may have chosen to spend an extra $20 per week for the next year at the supermarket.

Or they may have spent it on a weekend away in the country. Whatever, it doesn’t matter how it would have been spent. What does matter is that while a narrow sector of the economy will benefit, many other sectors of the economy will miss out.

Enjoy the cash handout while you can

As for the cash bonuses? Grab it while you can, because it could be the last chance you’ll get in quite a while to get anything back from the government. Don’t worry about the ‘middle class welfare’ jibes. Just think of it as a way to get some of your tax-dollars back.

Last week we wrote in Money Morning that you shouldn’t hold your breath waiting for an additional tax cut. That’s because although it earns brownie points when the economy is doing well, it means the government has less cash to spend when the economy is not doing so well. Because don’t for a minute think government wants to put a handbrake on spending.

Another point worth mentioning is the impact increased government spending has on the capital markets. Your editor’s mind was jogged on this fact after getting an email this morning from my old pal Scott Logan at Consensus Financial, he wrote:

“Every top 20 company has now done a capital raising. Qantas is finalizing one today. Newcrest yesterday, banks late last year, etc etc. So any surplus cash looking for a home in equity markets is being absorbed through placements via the primary market. History proves this caps any upside for equity markets because it’s the big institutions who move markets and they are buying stocks 10% below current prices. Given money is tight, ie – credit crunch no one can or is borrowing money to invest in markets, so upside is very very limited.”

It’s a good point. And government spending only makes it worse. Because it is hogging money that could otherwise be put towards investment by individuals and businesses in private markets. Instead we just have the government giving a $29 billion free-kick to the building and property sectors.

Bearing in mind these are sectors which are still yet to suffer a significant slip. It would be like the government buying shares for everyone during the middle of last year claiming that it was a good investment. Only to see the value halve in the following months. The same could potentially happen in the property sector.

If the government really wanted to boost the economy it should simply cut taxes and cut its own spending – not increasing it like it did yesterday.

Doing so would have a far greater positive impact on the economy as the market, businesses and consumers would allocate money and resources according to supply and demand.



Another Precious Metal Looks Set to Boom

Kris Sayce (KS): I’ve been watching the price of the Platinum Group Metals (which include Platinum, Palladium and Rhodium) since late last year. In fact it was this that led me to tip the most recent addition to the Australian Small Cap Investigator portfolio. Can you give readers a rundown of what’s been happening to the Platinum price?

Gabriel Andre (GA): Of course. During the great deflation of commodities prices, Platinum has been one of the first tangible assets to suffer from slowing demand and deleveraging. You may be interested to know that Platinum prices actually peaked in early March 2008, even before Gold prices.

KS: But why the slowing demand?

GA: In two words it is the automotive sector. That particular industry absorbs the majority of this precious metal’s production. And as readers will have seen, that has been strongly hurt worldwide.

KS: Yes, I’ve seen today that Ford and General Motors sales nearly halved in January. So I take it the Platinum price has had a pretty big fall?

GA: That’s correct. Prices corrected sharply from May 2008. They actually fell from US$ 2,251 per tonne on May 22 (that’s point A on the chart)…

Chart: http://www.moneymorning.com.au/images/20090204.jpg
Click to Enlarge

…to a low of US$ 756 on October 27 at point B. This is a decline of 66%.

But the price hasn’t stayed low. From the low posted last October, Platinum prices have already rebounded. They consolidated in tight trading range during the end of the year 2008 and eventually took advantage of the global bounce of the commodities markets from Christmas until the first fortnight of January 2009 where they reached the symbolic and psychological level of USD$ 1,000 4 days in a row as you can see indicated by the blue ellipse on the chart.

KS: You say USD$1,000 is a psychological level, I suppose this means it could be a key resistance stopping the price from moving higher?

GA: Yes, the price action failed to move further up as at this level the 14-days Relative Strength Index (RSI) indicated that Platinum was actually overbought. As the RSI peaked, curved downward and crossed its signal line, investors took their profits and sold back their positions. As a result, prices corrected towards USD$ 900.

KS: I think I’m seeing a pattern here. Support at USD$900 and resistance around USD$1,000. Do you think it’s more likely to break through the support or the resistance?

GA: Well, the near-term looks positive for the price action. The medium-term indicators argue for a continuation of the positive trend started from the low of October. The moving average crossovers show that prices are likely to move on the upside. When the 25-day moving average (MA, the red one) crossed below the 40-day moving average (MA, the black one) in late June last year, it triggered a bearish signal

Symmetrically, the 25 MA crossed back and jumped above the 40MA on December 18, it has triggered a bullish signal. This bullish signal remains valid.

The MACD is also about to cross above its signal line, it would confirm that the momentum is positive and that the decline occurred at mid-January was only a short-term correction due to overbought market.

The objective now is clearly the first Fibonacci retracement ratio of the decline between points A and B, therefore the level of US$ 1,100.

KS: Thanks. Looks as though it’s worth revisiting Platinum for the February ASI. I’ll keep subscribers posted.

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Kris Sayce
Kris is never one to pull punches when discussing market developments and economic events that can affect your wealth. He’ll take anyone to task — banks, governments, big business — if he thinks they’re trying to pull a fast one with your money. Kris is also the investment director for Australian Small-Cap Investigator, Diggers and Drillers and Revolutionary Tech Investor. If you’d like to more about Kris’ financial world view and investing philosophy then join him on Google+. It's where he shares investment insight, commentary and ideas that he can't always fit into his regular Money Morning essays. Read more about Publisher and Investment Director Kris Sayce.

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