Australia''s unorthodox recipe for beating recession

By Mark Bendeich - Analysis

SYDNEY (Reuters) - Australia has surprised the world and avoided recession, but some of the reasons for its remarkable achievement are far from flattering.

In fact, Australia appears to have turned economic vices into virtues, providing a case study of how an economy can actually prosper because of its weaknesses, not despite them.

Australia''s poor savings record, its under-competitive banking system and its heavy reliance on the most basic of exports -- such as coal and iron ore -- have all been cited as explanations for some of the "lucky country''s" good fortune.

Those observations are difficult to be heard over the self-congratulation that greeted this month''s remarkable news that the economy grew by 0.4 percent in the first quarter, but the signs are clear enough.

Former Reserve Bank of Australia governor Ian Macfarlane was the first to speak an uncomfortable truth when he told a conference this year that Australia''s meager savings rate and less-than-aggressive banks had both helped it weather the storm.

In explaining how Australia''s big banks had dodged disaster, without suffering so much as a credit downgrade, Macfarlane said the banks'' lack of competition and high profitability had kept them off the risky path that led foreign rivals to the precipice.

In addition, he said, a long-standing government policy forbidding mergers among the four major local banks meant that they could graze contentedly on the home market, untroubled by predators, while elsewhere the feast was about to turn to famine.

"It''s hard to avoid the conclusion that the difference was that there was no competition for corporate control in Australia, which saved us from the worst excesses that characterized banking systems overseas," Macfarlane said.

The so-called "Four Pillars" policy, originally designed to boost competition but instead blamed for preserving a banking oligopoly, is now seen as more entrenched than ever, thanks to its perceived role in preventing a crisis.

Australia''s banks have acted as a circuit-breaker for the economy, but they have at least one major weakness that cannot be happily ignored: their offshore debts, which amount to more than 40 percent of gross domestic product, according to Fitch data.

The government moved swiftly at the height of the global financial crisis to guarantee all of the banks'' offshore debt. With their liabilities guaranteed, and their assets held well away from the sub-prime fire, they were the economy''s linchpin.

SAVING THE DAY, BY NOT SAVING

Australia''s household savings record is also among the worst of rich countries, but Macfarlane, now a director for No. 4 local lender Australia and New Zealand Banking Group, says that, too, helped save the day for local banks.

Households saved around 2.7 percent of disposable income in the year to March 2009, up from 1.4 percent in the previous 12 months but still near the bottom of the world savings ladder.

Fortunately, as it turned out, this meant Australian banks did not have a rapidly growing surplus of deposits and had little temptation to invest them offshore -- such as in sub-prime debt, then the craze among European rivals with much fuller pockets.  Continued...