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Clever use of debt enriches debtors

By Nicholas Gruen - posted Thursday, 28 February 2008

It seems certain beliefs come hard wired - from the idea that imports destroy jobs (in the long run they help create them) to the idea that “the government should do something” in response to every possible social and economic ill.

Yet economic reform has taken on those fallacies. As a result we don’t regulate rents, imports, bank interest rates or fees, or shopping hours. And we’re much richer for it.

But though an informed economic framework has triumphed generally, in one area policies have gone backwards - driven by plausible populist economic fallacies.


This is the reflex aversion to debt.

Of course other things equal who’d want to owe someone money? But we borrow not for the sake of it, but to achieve greater benefits than the cost of the loan. Who would escape their mortgages by selling their home?

Governments used to do what companies and households still do - borrow to build assets. Of course the scope to spend money with future generations paying the bill can tempt governments into bad projects and unsustainable borrowing to consume.

But rather than build the institutions to independently vouchsafe that debt is funding high quality assets rather than consumption or pork barrelling we simply got a bi-partisan political reaction which anathematised debt.

That’s produced debt reduction strategies variously good, bad and ugly.

Governments sold some assets - which is good where the private sector is a better manager. But reducing debt by under-investing in infrastructure is bad. And things turn ugly when governments use Enron-style accounting to push debt off the books with private financing which involves higher future payments of taxes or charges, inadequate risk transfer and/or dodgy undertakings - for instance to divert traffic onto new privately funded roads. Quick trip under the city anyone?


The Owen Report recently recommended substantial privatisation of the electricity industry. When approached by the New South Wales unions, we insisted that we wouldn’t oppose this recommendation per se, but that we were as ropable as they were about one of the arguments used to justify it.

Remember how we were reducing state debt? Well debt’s now increasing - but we still haven’t institutionally safeguarded the extent of borrowings or the soundness of the projects it’s used to finance.

Instead we’ve got the State government’s commitment to retaining its AAA credit rating. In fact it’s clear that NSW can hang onto that rating as well as the electricity assets it already owns. It can very probably fund the industry’s $12 billion expansion as well. And if it was unsure it could either have this privately supplied or build new assets in a form that could be sold if and when it became necessary to protect NSW’s credit rating.

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Dr Nicholas Gruen appeared before the Unsworth Committee on Monday. His visit was funded by Unions NSW. First published in the Sydney Morning Herald on February 27, 2008.

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About the Author

Dr Nicholas Gruen is CEO of Lateral Economics and Chairman of Peach Refund Mortgage Broker. He is working on a book entitled Reimagining Economic Reform.

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