No quick fix for manufacturing

by Jim Minifie

Published by The Age, Sunday 15 December 2013

With Holden bowing out, the government must act to make manufacturing sustainable.

Some time in 2017 a final Holden will roll off each production line in GM’s plants in Elizabeth, South Australia, and Fishermans Bend, Victoria. For most of us it will be a nostalgic moment, the end of the iconic Australian car. But for 2900 redundant workers, there will be nothing bittersweet about it. Ford’s plants in Broadmeadows and Geelong will be long gone by then, and with them another 1200 jobs. Only Toyota, employing 2500 manufacturing workers, has not announced it is stopping production – yet.

But Australian auto production has long been in decline. We made 500,000 vehicles in 1970, behind tariff walls. By 2012, just 210,000 vehicles were made. Between 2001 and last year employment in car manufacturing halved to 11,000, as did employment in component production, to about 35,000.

Why is it so hard to make money building cars in Australia? Small production runs for small markets are costly. Global auto production has long been shifting to low-cost economies. And over the past decade, Australians turned away from big cars; the global recession hit export markets; and the banking and resources booms pushed up the exchange rate, making it more difficult for Australian producers to compete. Despite rising productivity (20 cars per worker, up from 16 in 2001), Ford and GM could not withstand these blows. Domestic sales of Australian-made cars almost halved from 2003 to last year.

The plant closures will be traumatic because the scale of redundancies is large, and there will be broader impacts on Elizabeth and Geelong in particular. Toyota and the component manufacturers may yet find a way to survive. But we may face a future where all that remains of the Australian car manufacturing industry are isolated design and engineering centres, and component producers selling to export markets, employing perhaps 15,000 people.

These impacts should not be diminished, but need to be seen in context. There are more than 11 million workers across the Australian economy, and more than 500,000 lose their jobs each year. And while a $5 billion auto industry contraction over several years in a slowing economy is challenging, it will not trigger a recession in the combined $435 billion Victorian and South Australian economies – provided that broader Australian growth can be maintained.

Many years of subsidies have not made the GM and Ford operations viable. GM received more than $2 billion in government support over the past dozen years; Ford and Toyota each more than $1 billion. At about $50,000 per direct job per year, it has been a bad deal for taxpayers.

Protection is costly: subsidising favoured sectors puts tax burdens and exchange rate pressures on others. And the costs of protection don’t stop there. Companies devote efforts to winning continued government handouts rather than regaining competitiveness. For example, expecting further support, unions and car makers agreed to a range of inefficient work practices. All this ultimately reduces living standards overall and job opportunities elsewhere.

Further, the notion that the auto industry is vital to other types of manufacturing doesn’t stack up. Vehicle and component production is just a twentieth of total manufacturing-sector employment and output. Mining and construction are much more important customers for other manufacturers than the auto sector.

And, indeed, the broader manufacturing industry is faring somewhat better than the auto sector. In most high-income economies, manufacturing has declined as a share of GDP, and in Australia it has been under further pressure from the resources boom. But overall manufacturing output is larger now than in the early 2000s in absolute terms, even as the auto sector has declined.

Despite losing about 100,000 jobs since the mid-2000s, 900,000 people still work in manufacturing. It contributes more to GDP than agriculture and tourism combined, and accounts for 40 per cent of non-mining exports.

So what should government do to support sustainable growth in manufacturing? First, it needs to manage the GM and Ford transitions. There are established procedures for workers who are made redundant in large plant closures. They work reasonably well when the economy is growing strongly.

Beyond this, the government needs to be realistic about the role the auto industry can play in maintaining growth in Australia. Further subsidies are unlikely to put the sector on a sustainable footing. Neither will they do much to support economic growth.

Second, the priority must be to support growth in the non-mining economy as the boom fades. Tight budgets and low interest rates will tend to bring the dollar down, directing growth to manufacturing and other trade-exposed sectors such as tourism and education. Wage restraint, too, will be needed to convert a lower dollar into a lower cost base.

Achieving that lower exchange rate is difficult because the main policy levers seem constrained. Interest rates are already exceptionally low. And while the exchange rate, at US90¢, is well back from its highs of about $US1.10, manufacturing may bounce back only weakly unless the exchange rate drops lower. The Reserve Bank seems reluctant to further cut interest rates, fearing it will trigger excessive home lending, so new regulations may be needed to keep the lid on house prices while permitting low rates to be maintained.

Budget policy, too, is in a bind. Loose government budgets through the boom have increased cost pressures; but government will be tempted to postpone tightening to support growth. That may yet prove necessary; but until it does, continued budget prudence will keep pressure off the exchange rate. But even supportive budgets and interest rates can only do so much. No one in manufacturing expects to return to the cost base we had before the resources boom. The only path forward is the hard slog of reform for productivity growth. There are no quick fixes.