Australia's Costly Drought
Strewth, It's Parched
Australia's prime minister, John Howard, has announced that irrigation supply to the Murray-Darling basin (eastern Australia's main water resource) will be cut off if the drought-afflicted region does not receive heavy rainfall over the next two months. Given that the region is Australia's most important agricultural area, accounting for around two-thirds of farm output by value, such a decision would not only add to the woes of Australia's extremely weak agricultural sector. It could also have wider economic repercussions by boosting food-price inflation & hurting agricultural exports. All this would in turn affect the political scene, with some voters likely to punish the current government in the election due to be held by January 2008.
Economic Implications
If it occurs, the suspension of irrigation in the Murray-Darling basin would have a devastating effect on Australian agriculture, creating a ripple effect throughout the economy. The failure of crops grown in the region - which accounts for around 85% of Australia's irrigated land - could cause the price of food products ranging from dairy to fruits & vegetables to rise sharply. The price of meat, however, would be likely to fall as lack of feed & water forced farmers to slaughter livestock for early sale. In turn, there would be some danger that higher food prices would push up overall inflation, which is already uncomfortably high (inflation climbed to 3.5% in 2006). Higher inflation could then prompt the central bank to raise interest rates, although Australia's finance minister, Peter Costello, has denied that the government would respond in this way.
A sharp drop in agricultural output, which accounts for 3.6% of Australian GDP, would inevitably slow the growth of the economy. In March 2007, before the announcement that irrigation supplies may be cut off, the Australian Bureau of Statistics was already estimating that drought conditions would result in a 23% drop in agricultural output in the 2006/07 fiscal year, which in turn would cut 0.6 percentage points from GDP growth. This estimate would be raised considerably if irrigation were suspended & widespread crop failures occurred as a result.
Australia's trade deficit would also widen, given that agriculture accounts for more than 20% of merchandise exports, according to Australia's Bureau of Agricultural & Resource Economics. Although agricultural exports would fall less sharply than output, as sales are made from built-up stocks, there would still be some impact. Other factors are also likely to exacerbate the external trade position. While the farm sector is weakening, buoyant consumer spending, strong business investment & a robust housing market continue to fuel non-farm imports. Meanwhile, the strength of the Australian dollar is further weakening exports & bolstering imports.
Political Implications
The economic effects of Australia's drought crisis are likely to spill over into politics, particularly if the decision to cut off irrigation supply is taken. A further drought-induced deterioration of the farm sector might have the positive effect of increasing support for Mr Howard's proposed A$10bn (US$8.3bn) water-management plan for the Murray-Darling basin. The spending is contingent on the states ceding their authority over water control to the federal government & the plan has been accepted by all states but Victoria.
The issue of water scarcity will also play a central role in the national elections due to be held by January 2008 (but likely to be held this year). Taxpayers, particularly those who feel the government has not done enough to prevent the depletion of water supply, are likely to resent the need for the government to divert spending to provide emergency drought-relief to people living in the area (the Australian government already pays out around A$2m a day in drought-assistance funds). The opposition Labor Party has been extremely critical of the Howard administration's handling of water issues, alleging that the government's ability to anticipate or alleviate the crisis has been hampered by a refusal to emphasise the link between Australia's water shortages & global climate change.
The seriousness of the economic & political fallout from the drought crisis will ultimately depend on the weather. Australia's farmers - not to mention Mr Howard - will be disappointed with the meteorological bureau's latest forecast, released on April 23rd, that the chance of above-average rainfall in the region before July is a hardly encouraging 50-60%.
- Courtesy of The Economist dated 24 April 2007 issue
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