I HAVE previously suggested that the Australian dollar is valued too high and needs to come down significantly to improve the international competitiveness of Australian industries including agriculture.
I am often surprised by the reactions that my commentary invoke, but perhaps the most obtuse is the aggressive assertion that Australian farmers would in fact be better off with a higher Australian dollar. I am unsure if this view is widespread. I am also unsure if it is just an objection for objection’s sake or, more terrifyingly, a considered opinion. I am sure, however, that it is wrong.
Most Australian agricultural products are affected by global agricultural markets. We generally receive a commodity price that reflects either import or export parity. A basic explanation of these terms would be that export parity is the international price minus the freight differential and associated insurance handling and tariff charges to the destination port, while import parity is the international price plus the freight differential, handling and tariff charges to your nearest port.
I acknowledge there is a distortion that occurs in pricing to producers in Australia where excessive market power exists in sectors of the supply chain that control access to the market. Typically, this price distortion occurs when there is little or no effective competition in a given region. The structures that can control market access either on a regional or even national basis in fresh produce would be supermarkets, in meat would be processors and in grains it would be the bulk handling port operators.
Notwithstanding the influence of actual price to farmers be these potential monopolistic structures, our commodities are generally priced with a reasonably strong link to the international market.
International trade is based on a common international currency which for many years has been the US dollar. In turn the amount of Australian dollars we are paid for our commodities is affected by the exchange rate.
For the purpose of the argument I will use a wheat analogy. So, if a tonne of wheat is worth US$270 per tonne and the Aussie dollar is worth 94 US cents then a tonne of wheat is worth A$287. If the exchange rate rose and was worth 110 US cents again then we would only get A$245 per tonne. If the exchange rate fell so that an Aussie dollar was only worth 80 US cents then our tonne of wheat would be worth A$337.
Now the Chicken Littles are saying that I am being simplistic because when the dollar goes down the cost of our imported inputs goes up and we will pay more for fertiliser and tractors and fuel. Some assert that it won’t make any difference to our income because the rise in imported inputs offsets the Australian dollar rise in commodity prices with a falling dollar. Some even assert that we will be worse off if our dollar goes down because of these rising costs.
Well for all the Chicken Littles out there I have some terrific news. Not all of our input costs are derived from imported inputs or linked to currency exchange rates.
A great example of this is labour cost. Labour awards are not linked to exchange rates and so the labour unit cost does not increase as the dollar comes down. We certainly did not see labour awards decrease as the dollar rose and generally employment contracts are negotiated in Australian dollars.
I acknowledge that different sectors have different exposure to the labour market and intensive industries incur greater direct labour costs, but the relief in the relative labour costs is realised in indirect labour costs also. This means the cost of labour for all of the businesses that supply goods and services to us is relatively lower also.
For example, if a mechanic is charging say $90 per hour and wheat is worth $287/t and the Aussie dollar is worth 94 US cents, an hour of the mechanic’s time is worth a little over 300kg of wheat per hour today. If the Australian dollar fell in value to 80 US cents then the mechanic would be worth a little under 270kg of wheat per hour. If the dollar rose in value back to 110 US cents then an hour of the mechanic’s time would cost a little under 340kg of wheat.
In relation to the notion that you may be worse off because imported input prices rise with a declining dollar, let us consider fuel. For the sake of the argument we will assume that the price of fuel does change proportionally with changes in exchange rate. The current average retail diesel price in Australia is around A$1.60 per litre.
No two farms or enterprise mixes are the same, but let’s assume we use 50,000 litres of diesel per annum and we produce 2500 tonnes of wheat per annum. These numbers will not change based on changes in the exchange rate.
If the Aussie dollar is worth 94 US cents then we spend $80,000 on fuel relative to a gross income of $717,500. If the Aussie dollar is worth 80 US cents then fuel costs $1.88/L and we spend $94 000 dollars on fuel relative to a gross income of $843 000. If the Aussie dollar rises to 110 US cents then fuel costs $1.37/L and we spend $68,364 on fuel relative to a gross income of $613,136.
So if the dollar goes to 80 US cents our operating margin on fuel costs improves by $111,500 and if the dollar rises to 110 US cents our operating margin falls by $92,728.
In the interests of time I won’t try to demonstrate every comparative impact of lowering the value of the dollar for Australian agriculture, save to say that the only situation where lowering the dollar can result in a reduction in the real income of an Australian farmer is when the product they produce has no international price linkage and the Australian dollar price of their produce does not rise as the dollar falls.