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Climate Change

How much can Australia’s economy withstand?

Climate change is a risk to the success story of the Australian economy

Major natural catastrophes are a burden even to successful national economies like Australia’s. Data from 2017 indicates that 97% of disaster funding is spent on post-disaster relief and recovery, with only 3% on mitigating a disaster before it happens. Is Australia adequately prepared for potential risks of change?

18.11.2019

The development of the Australian economy is a remarkable success story. It has seen inflation-adjusted average growth of over 3% every year for the last 20 years. Though it did not emerge totally unscathed, Australia even weathered the global financial crisis without slipping into recession.

The country benefits from its wealth of natural assets and resources, particularly in the sectors of mining, tourism and farming. Iron ore and coal make up over one third of its total export volume. In fact, Australia is one of the world’s largest coal producers and exporters. However, these economic strengths are also what make the country so vulnerable when natural catastrophes occur. The situation is further compounded by a rising concentration of values in Queensland and Western Australia, and growing urbanisation in the coastal regions.

Australia hit hard by 2010/2011 floods

In late 2010 and early 2011, the Queensland floods, one of the costliest natural catastrophes ever to hit Australia, led to direct losses (also called direct tangible costs) of A$ 6.8bn. While this is equivalent to just 1% of Australia’s economic output, the overall economic effect of a natural catastrophe is not just the sum of direct damage to buildings, roads and mines. Indirect, secondary effects (i.e. indirect tangible costs) must also be taken into account, such as production losses in flooded mines or a reduction in coal exports. Roughly 25% of mines had to temporarily suspend operations altogether, another 60% suffered severe restrictions. The mining sector was hit hardest, with immediate production losses of A$ 6bn. Australian farming sustained crop losses of A$ 2bn while revenue losses in tourism came to A$ 400m. 
Flooded giant mining trucks in Brisbane/Australia © TORSTEN BLACKWOOD / Getty Images
The economic effect of a natural catastrophe is not just the sum of direct damage to buildings, roads and mines. Secondary effects such as business interruptions must also be taken into account.
And not to forget the so-called intangible costs which capture death, injury and impacts on health and well-being, as well as employment and education. Intangible costs are estimated to be as high – or even higher than – economic losses, but they are hard to quantify. According to the Australian Business Roundtable for Disaster Resilience & Safer Communities: Following the Queensland floods, victims in regional, remote and economically disadvantaged areas were more likely to report emotional impacts caused by the event. They were 5.3 times more likely to report poorer health than those not affected, and 2.3 times more likely to have post-traumatic stress disorder. By far the largest impact was attributed to mental health issues, where lifetime costs are estimated at A$ 5.9bn.

Major natural catastrophes take a lasting economic toll

The immediate effects of natural catastrophes on a country’s economic activities can be easily observed and measured, but what lasting impacts do natural catastrophes have? It is often assumed that natural catastrophes (notwithstanding the tragic human consequences) can have a positive effect on an economy because reconstruction acts as an economic stimulus.

Empirical studies show, however, that the indirect positive effects on overall prosperity do not make up for the indirect losses natural disasters cause. For example, “severe, devastating, major” natural catastrophes with over 100 fatalities and over US$ 250m (A$ 300m) in direct, inflation-adjusted losses were found to lead to a statistically significant reduction in real GDP of nearly 4% after five years, compared to real GDP growth without the catastrophe.

Stock market prices © mauritius images / Masterfile

The financial burden of natural catastrophes is not immediately evident in economic growth rates, for instance because the costs of recovery work in the wake of a disaster are subsequently posted as income. Nevertheless, the long-term repercussions should not be underestimated. This applies in particular to government finances. As data from the International Monetary Fund indicates, Australia’s general government debt, at 41% of GDP, is still relatively low by international standards, but has risen sharply since the global financial crisis. The debt level in 2007 was still below 10% of GDP. The objective of balancing the budget has not been achieved to this day, due not least to support payments made to private households and businesses, as well as government expenditure on replacement investment following the natural disasters of recent years.

The comparatively low public debt is a critical advantage in global competition, but it is not enough to rely solely on prudent fiscal policy. In the case of a natural catastrophe, the state usually has little alternative but to provide generous support to the affected regions. A future increase in the loss potential from natural hazard events – resulting from a continued rise in the concentration of values and the effects of climate change – would place a huge strain on the national budget and jeopardise this important competitive advantage.

Australia’s economy is far from immune

Australia has a stable, dynamic economy, a tried-and-tested natural disaster management system and a well-funded insurance industry. The country is therefore better equipped to cope with natural disasters than less developed nations. Nevertheless, events like the Queensland floods show that Australia is far from immune. This is true now more than ever, for although the growth outlook for the Australian economy is still positive, things are not looking quite as rosy as in past years, when the Australian economy was boosted considerably by the mining boom and the tremendous dynamism of the Chinese economy.

Accordingly, it will become more difficult for the Australian government and for private households to cushion the consequences of natural disasters. The coffers will not be quite so full.

Hardly a year goes by in which Australia is not hit by a relatively severe natural catastrophe, not to mention frequent minor to moderate events.

The Australian Business Roundtable published in 2017 that natural disaster costs are expected to double by 2038 and, by 2050, to be as high as A$ 39bn per year in real terms, even without considering the future impact of climate change.

Between 2010 and 2013, the Australian government spent A$ 11bn directly on recovery. This is around 10% of the total economic costs for natural catastrophes during that period. However, indirect tangible and intangible costs are not included in that calculation. For example, the government may lose taxation revenue if business continuity and employment are affected, and may face outlays on health and social services.

In 2018, a National Resilience Taskforce was established in order to reduce the impact and the financial burden of natural disasters on Australian communities and the economy. The prior aim is to develop a five-year national disaster mitigation framework to reduce the impact of natural disasters. Well-designed resilience measures in areas with high population and disaster risk are expected to reduce disaster costs significantly.

Public investments in cost-efficient resilience and disaster reduction measures could reduce natural catastrophe costs by more than 50% by 2050, as estimated by the ABR in June 2013.

Australia must arm itself against changing parameters

Should climate change greatly increase the frequency and/or intensity of events, the prevention and recovery costs will pose an immense economic challenge. In Australia, the increase in greenhouse gas concentrations over the last 50 years has already led to a significant rise in average temperatures. They are expected to rise further in this century. The consequences could be more frequent extreme heat and rainfall, which is associated with the flood risk in many locations.

Precisely because of the country’s impressive economic success story, Australia must arm itself against the changing parameters. Research shows that countries with higher insurance penetration suffer less from the economic impact of natural catastrophes. Insurance has an essential role to play in mitigating these adverse effects.

Expect the unexpected - Scientific facts and economic impacts of natural disasters (2015)
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