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Joe Hockey on the big investment influences on Australia

The Honourable Joe Hockey is the former Australian Treasurer and retired Australian Ambassador to the United States. He was interviewed by Jon Howie, CEO of VGI Partners, as part of the VGI Advisory Council series. VGI’s Advisory Council provides a broader perspective to deepen VGI’s investment insights. Below is an edited extract of their discussion.

 

Howie: Joe, to borrow from a famous quote: “There are decades when nothing happens, and there are weeks when decades happen”, and it feels like there's a lot going on. Starting with your most recent experiences in the United States and roughly a year on from the presidential election, what are your perspectives on what's going on in that country and do you think that some of the divisions in that country are starting to heal?

Hockey: Well, there's no doubt that we've had some political stabilisation, and America was calling out for that. People were tired of the wild rides. But having said that, business certainly knew the direction of the Trump administration, which was essentially lower taxes, less regulation, and more tariffs. The market responded accordingly. But Donald Trump was a pretty wild ride.

If you were in Washington as I was, you could see first hand and, as you say, a decade would occur in a very short period of time. So, Joe Biden comes along, his administration is very stable, very predictable. His messaging is very controlled. The senior members of his administration are very low key. Certainly even Tony Blinken, Secretary of State, is probably the lowest key Secretary of State in many years. COVID might have had some impact on that, but you really don't hear much about the rest of his team. And Joe Biden's messaging is very controlled, even when people interact, senior people in the administration never have one-on-one phone calls, it's always two or three people on the line. They’re all cautious about doing anything inappropriate, following the Trump era.

So, having said that, they're rolling out a very aggressive agenda. And Joe Biden is predictably doing everything he can to appease the left without going too far. And in international relations he’s certainly, on both climate change and in the Indo-Pacific region, forging a more aggressive path towards some of America’s adversaries.

Howie: On his agenda, we've seen over the course of the last 12 months, and really over the last decade or so, a continuation of monetary policy which evolved into what has been called ‘unconventional policy’. It feels like that's continuing and that it’s hard for governments to walk back some of those measures, including the infrastructure bills.

Hockey: Well, the Republicans were meant to be the fiscal conservatives, and they weren't under Donald Trump, they weren't fiscal conservatives at all, in fact, until Joe Biden they had the biggest deficits in percentage terms of any administration, effectively since World War Two. So they were big spending at a time when they had high growth, low inflation.

Now, Joe Biden's elected, he has the first significant stimulus package and that's gone through and it wasn't a delayed package, it was money in people's pockets so it's an immediate fiscal stimulus. Then you've got the infrastructure package which is an additional stimulus. Now infrastructure is the slowest stimulus, but it's an increase in government expenditure. And now there's a third stimulus package, very significant, in excess of $3 trillion. And the US economy is roughly around $17-18 trillion, this is a big stimulus. And this is a recurrent stimulus so the first half of next year will be a monstrous year for money in the economy. The Fed keeps playing down any real increases in interest rates, and there's still not enough inflation in the American economy to be concerned, but I think inflation is coming.

Howie: Do you think COVID, perhaps coupled with the efforts being put towards the infrastructure build, has unleashed a productivity trend within the economy, an inflection point potentially bringing forward of consumption and technology?

Hockey: I don't know. I always had debates with Treasury when I was Treasurer about the definition of productivity, roughly, output per hour for effort. I said, well, I feel a lot more productive, everyone does, you know, cell phones, mobile phones have made us all more productive. I mean the plumbers, electricians, billing you on their way home instead of doing it at home, and spending hours trying to deal with their paperwork at night. And there's no doubt that Zoom, and the equivalent, has changed the interaction, but I'm deeply suspicious about whether you can truly replace human interaction by looking at someone on the screen. Personal communication is sophisticated. It's not just about the visual or the sound. There are inflections, there are changes of subject, there are shared moments that give you an insight into someone.

What do I mean by that? You know, I learned a lot about Donald Trump playing golf with him. We weren't in a Zoom call, you couldn't have been in a Zoom call. You actually learn a lot about someone's personality, you learn a lot about what interests them, you know their temper. You learn a lot about their character. You know, as they say, sport reveals character. And so, I'm not so sure about the whole remote engagement story, and whether that really does improve productivity.

I have an office in Washington DC, but we've been remote. We’ve got 10 people, half of them currently have COVID and I said to them, what do you want to do? Why am I paying say $30-40,000 a month to rent an office if you guys aren't going to turn up? They said, oh no, this is the flu, it’ll will pass, we want to interact with each other. So it’s a balancing act.

Howie: I'd be interested in your views on China's historical desire to open up their capital markets in a disciplined fashion. But more recently, their willingness to interfere in profit-making businesses, education being the most recent example. Is that a playbook for how western economies and the growth in government may evolve? And then, what are you seeing in China and what the next five years looks like?

Hockey: Well, in China there’s not so much government interference on the tax or income side. But gee, they're heavy-handed in the middle with the regulation and they can because they’ve got centralised power. So it's all regulation, whereas western economies traditionally control some industries by increased taxes or gambling taxes, whatever. Or you might control them on the income side with government contracts.

They know that enterprise is a big driver of prosperity in China. The challenge they have is trying to regulate enterprise in such a way that they don't have an uprising by the workers about the fundamental disadvantage of people, be it in western China or outside of the major cities. And, they use the heavy hand of Beijing, and Beijing is not afraid to use any tool at its disposal. A corruption crackdown basically means anyone who is wealthy that they don’t like, they can use the judicial system to impose heavy penalties.

A lot of businesses are pretty naïve about how it works in China. The sole focus of China is the sustainability of the Chinese Communist Party. It's right through all of its manifestos, it is the mantra. So much is focused on the sustainability of the Communist Party, it's about centralised power and controlling whoever you think represents a threat to the interests of Beijing. Having said that, China can't afford to have a recession because it has no welfare safety net. In many areas, the West is far more socialist than China but we have ingrown protections.

And in the case of China, they started to toy a little bit with the thought of democracy, and then, no, because Beijing was losing control. So Beijing comes back in, takes control, and it’s a managed economy. And anyone that does business needs to understand you need to have the institutions that will give you regulatory certainty in a volatile time.

Howie: Australia has had an increasing reliance on China over the last couple of decades and that relationship feels like it has been evolving over the past few years in particular. I’d be fascinated in your thoughts about our political and neighbourly relations across the region, with a focus on China over the next couple of years.

Hockey: Well, there's no doubt that Australia is more exposed to China than the US or many other countries primarily because, as a trading partner, it is three times larger than our next biggest trading partner, the United States. So we have such a skewed trading relationship and, bear in mind that we’re one of the few countries that have a trade surplus with China. Given all of that, you say to yourself, okay, how do we, you know, manage the shop, keep our biggest customer happy, but at the same time have a business partner that's fighting with them, our business partner being the United States. They're by far our biggest investor, they're unquestionably our key ally. How do we do it?

The fundamental point is that it's a balancing act. We're quite lucky in one sense that there's just a handful of businesses that really do make up a large part of the trade with China. And that's obviously in iron ore, and Western Australia does a pretty good job as well from the political perspective, managing the relationship with China. But overall, it's good to sell to China but you don't want to be beholden to them. Simple as that. Because you've got regulatory risks. Now, some people legitimately say we had regulatory risk with the United States. I get that. You’ve got regulatory risk everywhere. Here in Australia you have regulatory risk. But it's unpredictable and consistently volatile in China.

Howie: I’m interested in your thoughts about social media generally and how governments are thinking about it going forward.

Hockey: Social media makes the voice of the critic much louder than the voice of the advocate. So traditionally, particularly when you're in politics, you are able to mount an argument for particular reform. And you might have newspapers in favor of it, you might have televisions against, you might have talkback radio taking the pulse. Social media is really a sophisticated tool for the critic and it's a weak tool for the advocate. And so, you need to, from a business perspective, prepare a rescue case for a social media shellacking, in order to get your policy up. So you need to create a crisis that you then solve. Rather than having a solution that fixes a problem that no one knows about, you‘ve got to make sure everyone knows about the problem, then solve it.

Howie: How do you judge what's happening in the South China Sea and then more generally, how do you see technology evolving in the way nations compete and countries move into conflict with each other?

Hockey: From a Chinese perspective, so much of its prosperity relies on trade. And of its top 20 trading partners really only one is an ally. And that's Russia, which I think is number 12 or 13 on the list. And even then, we can't say that there are warm and fuzzy relations between China and Russia. They have a few skirmishes up there on the border. They’ve got a bit of a history.

The United States has, through its good values and its history, in the 20th century in particular, won a constellation of friends and allies. And in the Trump era, it took them for granted, not Australia, for various reasons, but essentially didn't treat those allies well. And then they started to drift, and China was too slow to pick up the opportunity. Now with the United States, you know, when 800-pound gorillas are dancing, someone's going to get trodden on, but Australia is there saying to the United States: Hey, don’t bully. Or other countries can say it, because they’re trusted friends. China hasn't got that and doesn't like that criticism either.

Trade is lifting the wealth of the average Chinese person. Trade is so important to China but 80% of its trade goes through the South China Sea, so they’re going, hang on, this is our lifeline, this is our blood and it's called the South China Sea by the way. It's not, you know, the Sea of Texas or northern Australia or whatever right. Therefore, this is our sea lane. And they are incremental, they're patient, they're incremental as they were on Hong Kong, as they'll be on Taiwan, as they’ll be on various other things. They’re in for the long haul. South China Sea is no different.

It's almost inevitable there'll be some challenge over Taiwan. Maybe in the next five years? That will sorely test the United States, because even if they've got a President that doesn't want to do anything about it, the mood in the Congress is very definitely stand by Taiwan. And they're very much equal powers, unlike the Prime Minister and the Parliament here in Australia, it's different.

Howie: I'm interested in your take on Afghanistan and what appears a relatively messy withdrawal on the US part, and whether that's changed the power structures within that region.

Hockey: Well, Afghanistan's a very hard country to govern. I’m mean, I’m stating the obvious, I know. Quite a few people have tried over the years. And you got Kabul and then you got a whole lot of warlords and provinces, some of which don't really recognise borders. The mysterious part of the evolution of the world over the last 150 years is that there are a large number of tribes in the world that never saw a boundary. You know, Africa is made up of tribes, so when the British or the French or other imperialists came along and said, here's a line that separates you from me, you think hang on, where’s that line? That's your land, this is your land, that's my land. I've been going there for 1000s of years to that water hole. Where’s the line? It's very much the case in Africa, but also in the Middle East and obviously, in Afghanistan.

And so, the American presence in Afghanistan did prevent terrorist attacks, but it had to come to an end at some point, because you can't continue to run a country on the other side of the world, where they aren't able to run themselves. And the argument being, you can't keep pouring money into it, and resources and blood. So, yes, there's no doubt, it was bungled. What struck me was the conviction of Joe Biden about getting out. He has massive American public support for getting out. The way he got out was very bad. There were many failures. And unlike Saigon, where they left, they didn't leave anyone behind, here they left tens of thousands behind.

Will it do big damage? Only if it's one of a series of events that give rise to a hostile and real threat to the American people or if it is part of a series of bungles in the administration. I don't think that's the issue. The issue in my mind about it will be the treatment of women. And I don't think the world, and particularly fueled by the #metoo movement, is going to sit back and watch women being treated today the way they were 25 years ago by the Taliban, or extremists of any sort. You’re going to see powerful, big-voiced and influential women, starting with the Vice President of the United States, but it could be celebrity women like Oprah or High Net Worth females, female business leaders. That's a problem for Joe Biden on the left. That's where he will get the anxiety.


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Howie: I'm conscious that we might want to just bring it home before we finish. I'm interested in your perspective, as a former treasurer, of the current treasurer having to navigate very challenging circumstances in the domestic economy, and COVID and support payments to keep everything going.

Hockey: Well, the difference between the private sector and government is you can print your own money and gee, they’re giving it a good whack. In Australia because we traditionally import capital, we're more constrained. And so, if government builds up debt, the only way we can pay off that debt or pay it down, is you can sell assets, which is what the Howard Government did and that was very successful. You can earn more, by having economic growth but usually that means you have to tax more. So that's not very popular. Or you can have inflation and inflation eats away at government debt. And traditionally, that's been a very powerful tool for governments.

So go right back to one of my first answers to you when I say I fear inflation, because, you know, for example, when the US Social Security system starts to run out of money. So they either have to increase taxes on fewer people effectively, or they're going to pay less to the most disadvantaged. Everything comes to an end at some point, we know that, that's inevitable. And if you keep printing, you have massive asset price inflation.

But I think also you’re going to have the two biggest drivers really of inflation, wage inflation and fuel, because that hits right across the economy. Wage inflation is already starting to pick up because we haven't got immigration. So we need immigration to provide a bigger pool of labour. We’re also going to start to see wages go up, and now we've got new workplace demands, but people want to earn the same as working five days a week. On fuel, the drive on green fuel, heavily subsidised by government, sooner or later there's going to be an inflationary impact there. We’ve seen coal prices go up dramatically, for example. And that's not even green, right, so green prices are heavily subsidised by government at the moment, but sooner or later that tap has to wear off. Then you start to see fuel prices go up to more realistic levels.

So, you know, I think there are two looming challenges on the economic front, which means you go into inflation, which means you start to look at what are the stocks, what are the investments that cope well with an inflationary environment. And sooner or later the central banks are going to stop printing. And they're going to stop with very low interest rates. The challenge is trying to pick the cycle. And, frankly, if I could do that, I'd be sitting on a boat in the Caribbean rather than sitting here with you, Jon.

 

This interview contains general information only and does not consider the circumstances of any investor. VGI Partners is a sponsor of Firstlinks. For articles and White Papers by VGI, including 'A Guide to Listed Investment Companies (LICs)', see here.

The Honourable Joe Hockey is the former Australian Treasurer and retired Australian Ambassador to the United States. Jon Howie is CEO of VGI Partners (manager of the listed vehicles ASX:VG1 and ASX:VG8). 

 

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