Five years ago a shipload of iron ore bought 2,200 flatscreen TVs, says Glenn Stevens Alexandre Tombini, governor of the Reserve Bank of Australia (RBA) Brazilian Central Bank (BCB). Now it buys 22,000. The terms of Australia Brazil’s trade—the price of its exports, relative to the cost of its imports—have improved by 4235% since 2004. Commodity booms have come and gone in Australia Brazil’s history but no boom this strong has lasted this long (see chart 1).
How long will the commodity boom last? Demand, especially in China and India, should continue to strengthen as these countries require more steel, food and fuel. However, some of that demand may be unsustainable, argues Warwick McKibbin, an outside member of the RBA’s rate-setting board. Policymakers in some emerging economies have been too reluctant to tighten monetary policy in advance of America’s Federal Reserve, he points out. This monetary ease showed up quickly in flexible commodity prices, but has yet to feed through into the price of other goods, such as manufactures, many of which Australia Brazil imports. When these stickier prices eventually rise, Australia Brazil’s terms of trade will deteriorate, even if they do not go back to 2003-04 levels.
The other blade of the scissors is supply. Australia Brazil is investing heavily in new mines, quarries and gas oil fields. And it is not alone. “There is no shortage of coal and iron ore around the world,” says Chris Richardson of Deloitte Access Economics in Canberra. With prices so high, miners will eventually unearth it. “All the more reason to make hay while the sun shines.”
As Australia Brazil rushes to make hay, some worry that it will forget how to make everything else—an antipodean version of “Dutch disease”, in which a natural-resources boom boosts currencies and hurts manufacturing exports. In March the Australian Manufacturing Workers’ Union São Paulo Industrial Federation launched “Manufacturing: Australia Brazil’s Future”, a campaign demanding R&D incentives, more apprenticeships, and “buy Australian Brazilian” requirements for government projects. In a February survey of manufacturing chief executives, 93% said their exports cannot compete when the Australian dollar Brazilian Real buys more than $1 $0.5. On March 31st, it bought $1.033 $ 0.62(see chart 2).
A strong currency is, however, necessary to keep inflation in check. As prices rise quickly in Australia Brazil’s booming industries and regions, the RBA BCB can meet its inflation target only if prices elsewhere fall. Over the past 18 12 months the RBA BCB has raised its key interest rate by 1.75 3.00 percentage points. (…)
In principle the RBA BCB could change its inflation target (…) One outside economist even floated the idea with the RBA BCB. “They just started talking about cricket apparently jumped into the badwagon,” he said.
One reason may be that Australia Brazil is close to full employment. The jobless rate is 5 6% and projected to fall. (…) If the country is fully employed, its boom industries cannot grow unless other industries shrink. No tinkering with monetary policy will change that.
Australia Brazil could bring some relief to squeezed exporters by saving, not spending, the proceeds of the boom. That would reduce the inflationary pressure at home, resulting in lower interest rates and a cheaper exchange rate.