Whither Australia’s Animal Spirits?

There are two main parts to the Australian investment story.

First and foremost, there’s Australia’s abundance of resources, which helped the country prosper amid a decade-long commodities boom.

Second, Australia’s companies provide U.S. investors a more stable way of gaining exposure to fast-growing Asian emerging markets.

These two parts, of course, are inextricably linked. After all, it was China’s seemingly insatiable demand for commodities that helped fuel the resource boom, and it was Australia’s proximity to China that made the Land Down Under ideally situated to benefit from it.

But commodities have crashed, and China is in the midst of a slowdown. And now Australia’s policymakers have the unenviable task of trying to find growth in other sectors of the economy.

That’s what’s prompted the Reserve Bank of Australia (RBA) to cut rates to an all-time low of 2.25%. Rate-sensitive sectors such as finance and real estate will be the initial beneficiaries of this monetary largesse.

And the recent quarter-point rate cut in February has added further fuel to an already worrisome housing bubble.

But it’s unlikely that the RBA believes the economy can sustain itself on new asset bubbles alone. Indeed, the central bank has conceded that there’s a limit to what monetary policy can achieve for the broad economy.

A lower exchange rate is also helpful, especially for the country’s exporters. To that end, the Australian dollar currently trades just below USD0.78, down about 18% from the trailing-year high last July.

But the RBA would like to see the exchange rate go even lower. How low? Central bank chief Glenn Stevens has previously said that the fundamentals would support the aussie trading near USD0.75.

Stevens believes that a lower exchange rate will help the country’s products and services become more competitive in the global markets.

And with China’s once-torrid pace of growth steadily decelerating, Stevens sees the potential for the U.S. to become a bigger part of the country’s trade.

In his remarks on Friday before the American Chamber of Commerce in Australia, Stevens said, “For all of China’s great importance to Australia these days, a healthy U.S. economy should not be underestimated as a driver of business thinking and as a trend-setter for financial markets.”

Although the U.S. is Australia’s third-largest trading partner, two-way trade between the two countries is absolutely dwarfed by China.

In 2013, the countries’ two-way trade totaled USD36.3 billion, versus Australia’s USD141.6 billion worth of trade with China. And only a minority of Australia’s trade with the U.S. involves exports.

While there’s certainly room to grow, perhaps Stevens was thinking of the more indirect effect a resurgent U.S. economy might have on Australia. He’s famously lamented Australian companies’ lack of “animal spirits,” the sort of entrepreneurial risk-taking that spurs new growth.

A hard-charging, dynamic U.S. economy might help rewire the brains of still-cautious Australian executives.

That caution, by the way, brings us to a third part of the Australian investment story: The country’s companies tend to offer more generous dividends than their U.S. peers.

That seeming generosity has been further enhanced by companies’ unwillingness to invest for growth. Rather than risk new growth projects in an uncertain economic environment, companies are instead returning cash to shareholders at an incredible pace.

This year, according to Credit Suisse, the top 200 stocks on the Australian Securities Exchange are on track to return a record AUD90 billion to investors, up from AUD82.5 billion in 2014. About AUD80.5 billion of this sum will be distributed as dividends, while AUD9.3 billion will come in the form of share buybacks.

By contrast, capital spending is projected to fall by 12% over the coming year.

While that disparity underscores the gloomy psychology pervading the country’s C-suites, we’re always happy to collect more dividends, especially since the lower exchange rate has pared the value of the payouts we receive.

But we’d also like to see companies invest in future growth, so long as they’re not simply spending for the sake of spending.

With rates already at historic lows, another rate cut may not be quite the booster shot needed to revive animal spirits, but it should certainly increase the willingness to borrow in pursuit of growth.

Stevens has acknowledged that the central bank has discussed lowering rates even further.

Based on futures data aggregated by Bloomberg, a majority of traders are betting on another rate cut at the RBA’s May meeting. And a majority also expect the central bank’s benchmark cash rate will be as low as 1.75% by year-end.