I've uploaded an excellent paper by Edward Chancellor which highlights concerns that I and a lot of others are having about China. Given the close ties China has to the Australian economy and how dependent we are on Chinese demand for our natural resources, a downturn in China would spell disaster for our "lucky country."

In Australia, interest rates are still almost as low as they have ever been historically and the next move is going to be up. Even if we drop into crisis mode and Stevens the Keynesian in charge of the RBA slashes rates again, we may just get a US/Japan style situation where banks keep loans "performing" by lowering the borrower's rate to almost nothing and just require interest-only payments (still making a small profit on the spread) to stay in business (no hit to capital). That's all hunky dory but they certainly won't be making loans to businesses or any other private parties so the economy will just stagnate. We will end up excessive government debt and our mighty four-pillar banks reduced to zombies.

Back to the article, I especially like the Mills quote from 1867, "Panics do not destroy capital; they merely reveal the extent to which it has been previously destroyed by its betrayal in hopelessly unproductive works," which is exactly why bailouts do nothing to help the poor taxpayer or 'economy' but merely transfer wealth from them to the politicians buddies (large campaign contributors, former colleagues, etc).

Malinvestment is certainly rife in China as it always is under central planning. Resources are allocated sub-optimally and often arbitrarily by planners which may make for a great GDP figure but can hardly be called wealth creation when individuals don't actually want it. They have papered over the cracks with massive monetary inflation over the past few years which makes these (mal)investments look better than they actually are, but as Hayek said that can only be maintained with an ever-increasing rate of inflation. Thus, the income bonuses Australia has received over the past decade from the unsustainable natural resource demand in China are exactly that, unsustainable. They are being driven by monetary inflation and bank credit expansion. Malinvestment is rife and, as the article states, there are red flags everywhere.

As is always the case with bubbles, the hardest thing to predict is the timing. Take for instance the data: recall the Soviets boasting about their excellent 'free' healthcare system. Each hospital was allowed a certain number of deaths per annum and doctors were rewarded based not on profit or how well they treated their customers but on death statistics. So doctors did what they had to to avoid punishment: they would either fudge the statistics; refuse to treat people near death; and sometimes would simply wheel existing patients out the doors if they looked like dying. While the context and severity is different, a Chinese banker would be faced with a similar situation: choose between recording a 'death' in a loan or manipulate the data for as long as possible. The whole process can take a very long time to unravel and reveal the true state of the country and how much malinvestment really exists.

Unfortunately, Australia is tethered to the ship that is China and if she goes down we're going down with her, unless of course something else doesn't sink us before then (as the article mentions, when you have a state-run economy you can delay the inevitable for an unbelievably long time). When this happens government and businesses that have been relying on high commodity prices and demand from China will suffer. Governments find it very very very difficult to cut spending when revenue falls and thus this will result in an expansion in the unproductive government sector relative to the whole economy. We might be in deficit for some time to come.

Click here to download China's Red Flags, a March 2010 GMO White Paper by Edward Chancellor.

Tom Woods (author of Meltdown) has an excellent article up at lewrockwell.com which succinctly demonstrates why it is not the free market that is to blame for the crisis but rather the government and central bank - the very institutions that are being hailed as our saviours. It is my view that the 'fool's paradise' that is Australia will be exposed for what it is at some point this year and this article explains in part why (in particular read the part about Greenspan and the 2001 U.S. recession). Here is Woods's summary of Hayek's point on why we have boom-bust cycles:

Scenario 1 [housing expansion on a free market]. Consider what happens when the public increases its savings. Since banks now have more funds to lend (namely, the saved funds deposited by the public), the rate of interest it charges on loans will fall. The lower interest rates, in turn, stimulate an expansion in long-term investment projects, which are more sensitive to interest rates than short-term projects are. (Think of the difference in the decline in monthly payments that would occur between a 30-year mortgage and a 1-year mortgage if interest rates came down by even 2 percentage points.)

Lower-order stages of production are those stages closest to finished consumer goods: retail stores, services, and the like. Wholesale and marketing are examples of higher-order stages. Mining, construction, and research and development are of still higher order, since they are so remote from the finished good that reaches the consumer. When people’s consumption spending contracts, it is a perfect time for higher-order stages of production to expand: because of people’s additional saving, there is relatively less demand for consumer goods, and the resulting contraction of lower-order stages of production will release resources for use in the higher-order stages.

Scenario 2 [housing expansion with artificially manipulated fiat currency]. Government-established central banks have various means at their disposal to force interest rates lower even without any corresponding increase in saving by the public. Just as in the case in which public saving has increased, the lower interest rates spur expansion in higher-order stages of production.

The difference, though, is a critical one and guarantees that these artificially low interest rates will not yield the happy outcome we saw in Scenario 1. For in this case, people have not decreased their consumption spending. If anything, the low interest rates encourage further consumption. If consumption spending is not constricted, the lower-order stages of production do not contract. And if they do not contract, they do not release resources for use in the higher-order stages of production. Instead of harmonious economic development, there will instead ensue a tug of war for those resources between the higher and lower stages. In the process of this tug of war, the prices of those resources (labor, trucking services, et cetera) will be bid up, thereby threatening the profitability of higher-order projects that were begun without the expectation of this increase in costs.

As the workers in the newly expanded higher-order stages of production begin to spend their incomes, they spend according to the same saving-to-consumption ratio they did in the past. Their desire to save, and thereby to sustain all this long-term investment, turns out to be not as great as the distorted structure of interest rates led entrepreneurs to believe. It becomes ever clearer that society is not prepared to support the expansion of time-consuming higher-order stages of production. They do not wish to save enough resources to make the completion of all the new projects possible. The lower-order stages will win the tug of war. Expansion in the higher-order stages will have to be abandoned. Some of the resources deployed there will be salvageable; others will have been squandered forever or will be of little to no use in later stages of production.

I suggest reading the whole article - there is a great quote near the end on why regulation cannot fix banking from Guido Hülsmann's The Ethics of Money Production.

China's growing anxious about the level of debt in the U.S. Well, I wonder why? Could it be the inflationary monetary policy they're persuing, or the reckless fiscal spending? It's only a matter of time until China untethers herself from the sinking ship that is the United States and lets them go under.

I think now's as good a time as ever to be short US dollars!

In today's Unleashed, Bruce Haigh wrote an article entitled "What can Rudd do to restore a healthy economy?", outlining his thoughts on what the Rudd government should do to make sure our economy gets back on track. Initially I thought he was on to some good points, stating that Australian's haven't learnt much from the past...before unleashing against capitalism and promoting full-blown socialism.

Mr. Rudd has a responsibility in times of a shrinking economy to provide a minimum wage, housing, health care, transport and education for adults and children least able to financially cope in the forthcoming straightened circumstances. This is survival spending, it is not designed to create jobs; it is to keep people alive and healthy and to provide the means for their children to participate in and help engineer a revitalised economy when the global economic sickness has passed. This is basic humanitarian assistance; it will not in the short to medium term, of itself, rebuild the economy.

The only thing Mr. Rudd has a responsibility to do is to make sure this doesn't happen again. He needs to do exactly the opposite of what Bruce recommends above and avoid any and all involvement in the economy, financial system, education, health care and so on. We haven't been living with capitalism; on the contrary, we've had statists masquerading as 'capitalists' to suit their own personal endeavors. Rudd himself was a self-proclaimed believer in the market until this crisis happened, but he sure jumped ship quickly (he was always a socialist). There is no middle-ground (see The Myth of the Failure of Capitalism by Ludwig von Mises, 1932.

It can't happen overnight -- the state is so involved in everything we do it's going to be a slow process but these are the types of policies we need. From Friedrich Hayek in a 1975 Meet the Press:

"No, but it goes back to the same cause. The unemployment of which you speak, which is the initial cause, is due to labor being temporarily directed into places or activities or industries where they cannot be maintained without further inflation. Therefore you can only cure that by achieving a new redistribution of labor between employments. Adaptation to a condition in which aggregate demand need not progressively increase to maintain that employment."

"We mustn't assume that all problems are solvable in the short period. There are problems that we cannot solve or which trying to solve them quickly may do more harm than good."

Hayek was saying (he was talking about the U.S. economy) to do the opposite of what Bruce is recommending. The government created this distortion in the allocation of labour and the market needs to redistribute it to more productive areas. Any short-sighted attempt to "save jobs" will do more harm than good. Back to Bruce,

"Mr. Rudd will need to take some drastic and decisive action, taking into account the lessons learnt from the last Great Depression. He will need to cancel some overseas defence orders and rethink defence requirements and strategies, utilising local capacity, particularly in ship building. He will need to take over the local car manufacturing industry, which can also be used for defence production. These decisions will protect and provide new jobs as well as build a local defence production capacity in what will be uncertain times."

I agree with the removal of our (due to our alliance with the US Empire) overseas troop contingent but I'm not sure how to read the rest -- is Bruce really suggesting we mobilize our economy 1930s style to prepare for some (looking at his words, inevitable?) upcoming war? This won't protect jobs. This won't create wealth. Times are only uncertain because people such as Bruce are advocating full-on socialism as a response to the continued failures of the state!

The government needs to regulate the banking industry and get back into the business of banking. It needs to take over Telstra, railway infrastructure and rolling stock and providing an air service in remote Australia. The tyranny of distance demands it. User pays has failed, particularly in rural Australia.

No, the government has had its turn at running banking, telecommunications and public transport into the ground. It needs to remove ANY and ALL involvement in these industries as soon as possible. It needs to remove the red tape completely. It needs to stop creating monopolies through regulation and laws. It needs to let people decide what they want!

The federal government needs to take over the management of water and abolish water licences, as a short and long term stimulator of the economy, particularly the rural economy.

The water debacle is a creation of the government. How will more involvement solve anything? This is a touchy one though, because the state is so involved already (massive property rights issues) you can't just privatise the whole thing in an instant.

The private schools must fend for themselves, that's what private used to mean and the funding of public education significantly increased, particularly in the area of skill creation. Pulling out of depression will require it.

Here's an idea: cut all funding for schools and return the tax dollars used in it back to the parents. As with all of the above, spending needs to be cut dramatically and the market needs to be allowed to provide these services. Private schools can fend for themselves perfectly well -- that is, of course, unless they're competing with these "super schools" with endless pockets and no profit motive!

Import replacement needs to be encouraged and funded, directly, and from loans through the government bank.

Absolutely not. People should be free to choose where they buy their goods from. If there's a market for it, and people really care as much as you think about saving local jobs, then there will be an opportunity for profit (by charging premiums for "made in Australia" products) that entrepreneurs will capitalise on. Why should the government make this decision for us, at our expense? We need to remove all tariffs, subsidies and "import replacement" schemes as soon as possible.

This depression is a direct result of Globalisation. Australia should seek future protection from the buffeting of overseas financial institutions by exercising more control, discipline, stimulus and protection of its own economy.

You're right -- the U.S. Federal Reserve is the key culprit in this crisis, fuelling banks across the world with cheap credit and encouraging consumer debt. But we should not, under any circumstances, revert to a protectionist state-run economy. This cannot work and will serve only to lower our standard of living considerably. We can insulate ourselves against this sort of thing by abolishing the RBA, significantly shrinking the size and involvement of the state, and allow free banking (in other words, let banks create their own currency, backed by commodities of the markets choosing).

Despite what he says, Bruce obviously hasn't learnt anything from the past failures of the policies he advocates.

What do you get when you cross a Labour government and a recession? Unions coming out of the woodwork. Their bullying tactics act to serve their particular interest group(s) at the expense of the rest of the nation. The belief that they increase wages over the long run is completely misguided and is one of the greatest fallacies that we've failed to deal with (adequately) for centuries. Wages are determined by productivity -- artificially propping up wages above the market level by embracing short-sighted antisocial policies brought about through intimidation or coercion (i.e. government support) will only serve to increase unemployment.

As Barack Obama's top aide Rahm Emanuel recently put it,

"You never want a serious crisis to go to waste. It's an opportunity to do things you could not do before."

He was implying of course that a crisis is the perfect time to increase the size of government. Likewise, unions take this opportunity to further restrict competition in their own sector of the labour market to raise wage rates. Unions don't allow competition from non-union workers and have a generally limited number of places or strict requirements for entry. For the people who don't join the unions (whether it's their choice or they are rejected), they must look elsewhere or remain unemployed. This will increase the supply of labour in the un-unionised sectors driving down wages and/or increasing unemployment. The unions, however, don't care what happens to these people -- their only interest is in serving their own, selfish interests, reducing the wealth of the nation as a whole.

Master Builders Association (MBA) executive director John Miller says the Government should slash planning red tape so that Canberra's schools can benefit from the Commonwealth stimulus package.

The Greens and the Liberals oppose the plan, but Mr Miller says it is necessary to cut planning red tape to ensure the territory meets Commonwealth deadlines and schools don't miss out.

"The Government's hell bent on making sure that we can actually get this work rolling out the door," he said.

"This is the situation, it's use it or lose it, we just can't afford to lose this work in an economic environment where we're potentially facing redundancies, particularly in the building construction industry."

He says the move would also help avoid job losses in the building industry. -- Source

Unions function through 'emotional economics', tugging on the heartstrings of the people and always portraying themselves as the victims. Take the above as an example: no matter what the situation, they're always seeking to "avoid job losses" in their respective industry. All this does is keep labour occupied in unproductive, wasteful sectors of the economy. If labour is artificially held in these industries all it does is slow down the development of more productive industries by increasing the price of labour. In effect, everyone else is subsidising these people.

One-hundred and seventy Victorian workers at a protective clothing supplier face an uncertain future after the appointment of administrators.

Staff of Melba Industries, which makes clothing for the Country Fire Authority and the Metropolitan Fire and Emergency Services Board (MFB), are being briefed by the administrators.

Melba Industries has 120 staff in Geelong and 50 in Thomastown.

The company also supplies protective clothing for the armed services and components for the car industry.

The administrators say they will be seeking government help to keep the company afloat. -- Source

The government should not keep this company afloat. Their failure is obviously a result of a misallocation of resources during the recent boom -- their business model appeared to be profitable thanks to easy credit bought on by government and the RBA (interest rates below market rates) when in fact it wasn't. It needs to 'die' and free up the capital for other entrepreneurs. We have to avoid 'emotional economics' at all costs -- all it does is hurt the very people they're trying to protect, Australians.