Archive | Australia

Leading banker takes Australian politicians to task on governance, finance, infrastructure, urban prospects

Australian politicians’ ears must have been burning when bank chief Ken Henry addressed the country’s Committee for Economic Development in Canberra on Thursday, because he wasted no words in portraying the destruction – instead of construction – of a sound future they continued to guarantee.

The Unconventional economist on MacroBusiness, Leith van Onselen, wrote: “Dr Henry pulled no punches in admonishing the Government’s negligence in managing Australia’s mass immigration programme.”

Mr van Onselen also raised questions arising from Australian Productivity Commission reports, including An ageing Australia: Preparing for the future.

But migration & age were just 2 of the questions raised by Dr Henry, who chairs the National Australia Bank. He talked about the notion that endless growth was a practical proposition for Sydney & Melbourne, how every proposal for major infrastructure was drowned in political wrangling and – in the sector he knows best – how every tax reform proposal of the last decade had failed.

Below are some excerpts from his speech:

Business at odds with community

“According to our research, Australian businesses see our strong rate of population growth as a positive. …. In the broader community, there is considerably less support for a larger population. People are concerned about the impact of a growing population on traffic congestion, urban amenity, environmental sustainability & housing affordability. And they worry about our ability to sustain Australian norms of social & economic inclusion. These concerns are understandable.

“Australia’s business leaders have to accept responsibility for ensuring that strong population growth, and the investment opportunities that go with it, lift economic & social opportunity for all, without damaging the quality of the environment we pass to future generations. That means that we have to take an interest in traffic congestion, housing affordability, urban amenity & environmental amenity, including climate change mitigation & adaptation….

“If we want better access to skilled domestic workers, then we are going to have to offer those workers the prospect of better lives. If we want modern & efficient infrastructure, then we are going to have to take an interest in the design of our cities; we are going to have to take an interest in regional development; and we are going to have to take an interest in the planning of new urban centres.

“If we want less red tape & less regulation, then we are going to have to demonstrate that regulation is not necessary….

“Meanwhile, our politicians have dug themselves into deep trenches from which they fire insults designed merely to cause political embarrassment. Populism supplies the munitions. And the whole spectacle is broadcast live via multimedia, 24/7. The country that Australians want cannot even be imagined from these trenches….

“Almost every major infrastructure project announced in every Australian jurisdiction in the past 10 years has been the subject of political wrangling. In the most recent federal election campaign, no project anywhere in the nation – not one – had the shared support of the Coalition, Labor & the Greens.

“Every government proposal of the last 10 years to reform the tax system has failed.

“And the long-term fiscal, economic growth & environmental challenges identified in 4 intergenerational reports over the past 15 years?  The opportunities identified in the White paper on Australia in the Asian century? Simply ignored.

“The reform narrative of an earlier period has been buried by the language of fear & anger. It doesn’t seek to explain; rather, it seeks to confuse & frighten.

“Meanwhile, the platform burns.”

Growing Sydney & Melbourne

Dr Henry also spoke about the Australian budget & tax system, a strongly growing but aging population, climate change & energy security, and making the most of the Asian century.

“How will we fund the biggest infrastructure build in our history? And what about infrastructure planning?” he asked, before questioning the sense in adding 7 million people to the populations of Sydney & Melbourne:

“On the basis of official projections of Australia’s population growth, our governments could be calling tenders for the design of a brand new city for 2 million people every 5 years; or a brand new city the size of Sydney or Melbourne every decade; or a brand new city the size of Newcastle or Canberra every year. Every year.

“But that’s not what they are doing. Instead, they have decided that another 3 million people will be tacked onto Sydney and another 4 million onto Melbourne over the next 40 years.

“Already, both cities stand out in global assessments of housing affordability & traffic congestion.

“And even if we do manage to stuff an additional 7 million people into those cities, what are we going to do with the other 9 million who will be added to the Australian population in that same period of time? Have you ever heard a political leader addressing that question? Do you think anybody has a clue?

“At the very least, we are going to have to find radical new approaches for infrastructure planning, funding & construction. And that includes energy infrastructure, critical to our economic performance and our quality of life.

“The biggest challenge confronting the energy sector is that climate change policy in Australia is a shambles. At least 14 years ago, our political leaders were told that there was an urgent need to address the crisis in business confidence, in the energy & energy-intensive manufacturing sectors, due to the absence of credible long-term policies to address carbon abatement. It is quite extraordinary, but nevertheless true, that things are very much worse today.”

  • Dr Henry was Secretary of Australia’s Treasury Department from 2001-11, and was appointed a director of the National Australia Bank in November 2011 and chair in December 2015. From June 2011-November 2012, he was special advisor to the prime minister with responsibility for leading the development of the white paper on Australia in the Asian century. He’s a former member of the board of the Reserve Bank of Australia, the Board of Taxation, the Council of Financial Regulators, the Council of Infrastructure Australia and chaired both the Howard government’s tax taskforce in 1997-98 and the Rudd government’s review of the tax system in 2008-09, and he’s governor of the organisation he was addressing above, CEDA.

Links:
23 February 2017: NAB chair Ken Henry’s full speech at CEDA
Unconventional economist on MacroBusiness, 24 February 2017: Australia can’t build its way out of population ponzi
Unconventional economist, 24 February 2017: Bigger cities are engines for inequality
Australian Productivity Commission, November 2013: An ageing Australia: Preparing for the future
Committee for Economic Development of Australia

Attribution: NAB, CEDA, MacroBusiness.

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Australian reserve bank holds rate, might look at cut

Published 3 July 2013
The Reserve Bank of Australia decided yesterday to leave its cashrate unchanged at 2.75%, but said it might look at a cut to boost demand.

Bank governor Glen Stevens said the board “judged that the easier financial conditions now in place will contribute to a strengthening of growth over time, consistent with achieving the inflation target. It decided that the stance of monetary policy remained appropriate for the time being. The board also judged that the inflation outlook, as currently assessed, may provide some scope for further easing should that be required to support demand.”

In his background to the decision, Mr Stevens said: “Recent information is consistent with global growth running a bit below average this year, with reasonable prospects of a pickup next year. Commodity prices have declined further but, overall, remain at high levels by historical standards. Inflation has moderated over recent months in a number of countries.

“Globally, financial conditions remain very accommodative. However, a reassessment by the market of the outlook for monetary policy in the US has seen a noticeable rise in sovereign bond yields from exceptionally low levels. Volatility in financial markets has increased and there has been some widening of credit spreads.

“In Australia, the recent national accounts confirmed that the economy has been growing a bit below trend over the recent period. This is expected to continue in the near term as the economy adjusts to lower levels of mining investment. The unemployment rate has edged higher over the past year and growth in labour costs has moderated. Inflation has been consistent with the medium-term target and is expected to remain so over the next 1-2 years, notwithstanding the effects of the recent depreciation of the exchange rate.

“The easing in monetary policy over the past 18 months has supported interest-sensitive spending & asset values and further effects can be expected over time. The pace of borrowing has remained relatively subdued, though recently there are signs of increased demand for finance by households. The $A has depreciated by around 10% since early April, although it remains at a high level. It is possible that the exchange rate will depreciate further over time, which would help to foster a rebalancing of growth in the economy.”

Attribution: Bank release.

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Australian growth close to trend, cashrate cut

Published 2 October 2012

The Reserve Bank of Australia cut its cashrate by 25 basis points today to 3.25%, after 25-point cuts in May & June.

Apart from the obvious international concerns, bank governor Glenn Stevens noted the sharp decline in Australia’s terms of trade but said the country’s banks were having no trouble accessing funds, including unsecured. He was probably more optimistic than realistic in saying the expected peak in resource spending next year “may” be lower than earlier expectations. Mr Stevens commented:

“The outlook for growth in the world economy has softened over recent months, with estimates for global GDP being edged down, and risks to the outlook still seen to be on the downside. Economic activity in Europe is contracting, while growth in the US remains modest. Growth in China has also slowed and uncertainty about near-term prospects is greater than it was some months ago. Around Asia generally, growth is being dampened by the more moderate Chinese expansion and the weakness in Europe.

“Key commodity prices for Australia remain significantly lower than earlier in the year, even though some have regained some ground in recent weeks. The terms of trade have declined by over 10% since the peak last year and will probably decline further, though they are likely to remain historically high.

“Financial markets have responded positively over the past few months to signs of progress in addressing Europe’s financial problems, but expectations for further progress remain high. Low appetite for risk has seen long-term interest rates faced by highly rated sovereigns, including Australia, remain at exceptionally low levels. Nonetheless, capital markets remain open to corporations & well rated banks, and Australian banks have had no difficulty accessing funding, including on an unsecured basis. Share markets have generally risen over recent months.

“In Australia, most indicators available for this (board) meeting suggest that growth has been running close to trend, led by very large increases in capital spending in the resources sector. Consumption growth was quite firm in the first half of 2012, though some of that strength was temporary. Investment in dwellings has remained subdued, though there have been some tentative signs of improvement, while non-residential building investment has also remained weak.

“Looking ahead, the peak in resource investment is likely to occur next year, and may be at a lower level than earlier expected. As this peak approaches it will be important that the forecast strengthening in some other components of demand starts to occur.

“Labour market data have shown moderate employment growth and the rate of unemployment has thus far remained low. The bank’s assessment, though, is that the labour market has generally softened somewhat in recent months. 

“Inflation has been low, with underlying measures near 2% over the year to June, and headline CPI inflation lower than that. The introduction of the carbon price is affecting consumer prices in the current quarter, and this will continue over the next couple of quarters. Moderate labour market conditions should work to contain pressure on labour costs in sectors other than those directly affected by the current strength in resources. This & some continuing improvement in productivity performance will be needed to keep inflation low as the effects of the earlier exchange rate appreciation wane. The bank’s assessment remains, at this point, that inflation will be consistent with the target over the next 1-2 years.

“Interest rates for borrowers have for some months been a little below their medium-term averages. There are tentative signs of this starting to have some of the expected effects, though the impact of monetary policy changes takes some time to work through the economy. However, credit growth has softened of late and the exchange rate has remained higher than might have been expected, given the observed decline in export prices and the weaker global outlook.”

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Attribution: Bank release, story written by Bob Dey for the Bob Dey Property Report.

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Australian cashrate stays at 3.5%

Published 4 September 2012

The Reserve Bank of Australia decided today to leave its cashrate unchanged at 3.5%.

There seems to have been some surprise that Australian commodities, particularly iron ore, have dropped sharply in price recently. However the bank’s governor, Glenn Stevens, said Australia’s terms of trade peaked a year ago.

Mr Stevens gave his assessment of the world’s economies:

“Having picked up in the early months of 2012, growth in the world economy has since softened. Current assessments are that global gdp will grow at no more than average pace in 2012, with risks to the outlook still on the downside. Economic activity in Europe is contracting, while growth in the US is only modest. Growth in China remained reasonably robust in the first half of this year, albeit well below the exceptional pace seen in recent years. Some recent indicators have been weaker, which has added to uncertainty about near-term growth. Around Asia generally, growth is being dampened by the more moderate Chinese expansion and the weakness in Europe.

“Markets for key natural resources are adjusting accordingly. Some commodity prices of importance to Australia have fallen sharply in recent weeks. The terms of trade peaked a year ago and have declined significantly since then, though they remain historically high.

“Financial markets have responded positively over the past couple of months to signs of progress in addressing Europe’s financial problems, but expectations for further progress are high. Low appetite for risk has seen long-term interest rates faced by highly rated sovereigns, including Australia, remain at exceptionally low levels. Nonetheless, capital markets remain open to corporations & well rated banks, and Australian banks have had no difficulty accessing funding, including on an unsecured basis. Share markets have generally risen over the past couple of months, on very light volumes.

“In Australia, most indicators available for this meeting suggest growth has been running close to trend, led by very large increases in capital spending in the resources sector. Consumption growth was also quite firm in the first half of the year, though some of that strength was temporary. Labour market data have shown moderate employment growth, even with job-shedding in some industries, and the rate of unemployment has thus far remained low.

“Inflation remains low, with underlying measures near 2% over the year to June, and headline CPI inflation lower than that. The introduction of the carbon price is starting to affect consumer prices in the current quarter, and this will continue over the next couple of quarters. The bank’s assessment is that inflation will be consistent with the target over the next 1-2 years. Maintaining low inflation will, however, require growth in domestic costs to remain contained as the effects of the earlier exchange rate appreciation wane.

“As a result of the sequence of earlier decisions, interest rates for borrowers are a little below their medium-term averages. The impact of those changes is still working its way through the economy, but dwelling prices have firmed a little and business credit has picked up this year. The exchange rate has declined over the past month or 2, though it has remained higher than might have been expected, given the observed decline in export prices and the weaker global outlook.

“At today’s meeting, the board judged that, with inflation expected to be consistent with the target and growth close to trend, but with a more subdued international outlook than was the case a few months ago, the stance of monetary policy remained appropriate.”

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Attribution: Bank release, story written by Bob Dey for the Bob Dey Property Report.

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Stevens focuses on housing affordability as he examines “the lucky country”

Published 30 July 2012

Australian Reserve Bank governor Glenn Stevens said last week – in a speech where housing affordability was a key feature – a common theme in doubts over Australia’s continuing strong economic performance was that it was the result of luck, “and that our luck may be about to turn”.

What if the Chinese economy suffers a serious downturn?

Australia saw a large run up in dwelling prices and household borrowing until a few years ago. Some other countries that saw this subsequently suffered painful corrections & deep recessions, associated with very stressed banking systems. Could Australia escape the same outcome?

“A further theme is the focus on the funding position of Australian financial institutions, insofar as they raise significant amounts of money offshore. Could this be a weakness, in the event that market sentiment turns? Actually, this is another version of the old concern about the current account deficit: what will happen if markets suddenly do not want to fund our deficit?

“It has long been a visceral fear among Australian officials & economists that global investors will suddenly take a dim view of us. The same sorts of concerns of organisations such as the International Monetary Fund and the ratings agencies seem to lie behind a perpetual question mark about Australia & its financial institutions.

“It is unlikely we will ever be able to change definitively the views of all the sceptics. And – let us be clear – we should welcome the sceptics. Perhaps some of their concerns are valid. The Reserve Bank gives a lot of thought to these issues; we certainly do not dismiss them. We should always be wary of the conventional wisdom being too easily accepted. We should never, ever, assume that ‘it couldn’t happen here’.”

At the Anika Foundation luncheon in Sydney on 24 July, Mr Stevens said he wanted to pose a set of questions thrown up by these sceptical views. In particular:

How much of the recent relatively good performance was due to luck? To what extent did we improve our luck by sensible policies, across a range of economic and financial fronts?Are there signs of any of the things going wrong that people typically worry about?And if there are, or were to be, such signs, could we do anything about it?

Mr Stevens began by asking: “Why was it that Australia did not have a deep downturn in 2009 when so many other countries did? And why was it that we have returned to reasonable growth, when others have struggled to do so? This question has been answered on numerous occasions. There are several elements.

“First, the Australian banking system went into the crisis in reasonable shape. To be sure, there were some poor lending decisions during the preceding period of easy credit and there was, in hindsight, too much reliance on wholesale funding. But among major institutions, credit quality issues have turned out to be manageable. Asset quality was not as good among some of the regional banks, and even less so among some foreign banks operating in Australia, but the problems have not been insurmountable.

“Some observers might counter that the banks received assistance with wholesale fund-raising in the form of the government guarantee. But the banks paid for that, and it was an appropriate response at a time of massive market dislocation when all their peers were receiving like assistance – and much more. Moreover the banks have neither had, nor needed, access to this for some time now and the stock of guaranteed liabilities outstanding has fallen by about half from its peak level, as issues mature or are repurchased.

“So our banking system, while not entirely free from blemishes, was nonetheless in pretty good shape overall. Banks were able to raise capital privately in the depths of the crisis. The lowest rate of return among any of the major banks over a year during the crisis period was about 10%. The Australian Government has not needed to take an ownership stake in a financial institution.

“Second, Australia had scope for macroeconomic policy stimulus, which was used promptly & decisively. Interest rates were lowered aggressively, from a high starting point, lowering debt servicing burdens at a rapid rate. The fiscal stimulus was one of the larger ones, as a percentage of gdp, among the various countries with which we can make comparisons. The evidence suggests that these macroeconomic measures were effective in sustaining growth.

“Thirdly, the rapid return to growth of the Chinese economy saw demand for energy & resources strengthen again after a brief downturn in late 2008 and the first couple of months of 2009. This reversed the fall in Australia’s terms of trade, and in fact pushed them to new highs, which led to a resumption of the historic investment build-up that had already begun. It benefited the whole of Asia, which staged a very pronounced V-shaped recovery on the back both of the Chinese measures and things other countries did themselves.

“A fourth element that many people add is that the exchange rate fell sharply, which was an expansionary impetus for the economy. But of course the exchange rate was responding endogenously to the various shocks & policy responses, and has since reversed the fall. It was doing what it was supposed to do. Perhaps the real point is that the right exchange rate system was implemented nearly 30 years ago, and that it was allowed to work.

“So Australia had these things going for it. Was this all just luck?

“We could not deny that our geography – thought for much of our history to be a handicap because of the distance from European & American markets – combined with our natural resource endowment has provided a basis for the country to ride the boom in Asian resource demand. We did not create that, though we still have to muster the capability to take sustained advantage of it.

“But a well managed & well supervised banking system is not an accident. Years of careful work both by banks & APRA (the Australian Prudential Regulation Authority) went into that outcome. Nor was the ability to respond forcefully, but credibly, with macro-economic policy just luck. You don’t suddenly acquire the credibility needed to ease monetary policy aggressively while the exchange rate is heading down rapidly. Authorities in lots of countries would not feel they could do that. At an earlier point in time we probably would not have felt we could have done it either. The credibility needed to do it comes from having invested in a well structured framework, and having built a track record of success in containing inflation, over a long period. The floating exchange rate is an integral part of that framework.

“Likewise, you can’t have a major fiscal easing and expect it to be effective if there are concerns about long-run public debt dynamics, as recent debate elsewhere in the world shows. You need to have run a disciplined budget over a long period beforehand, so the amount of debt you have to issue in a crisis does not raise questions about sustainability. In both the monetary & fiscal areas, of course, having used the scope we had so aggressively, it was also necessary, as I argued in 2009, to re-invest in building further scope, by returning settings to normal once the emergency had passed.

“So, yes, Australia has had its share of luck. But to explain the outcomes, we need also to appeal to factors that didn’t just happen by accident. Of course, that doesn’t mean we still couldn’t have problems. Even if success to date hasn’t been due to luck alone, perhaps our luck could turn so bad that all our efforts at good policy-making could be overwhelmed.”

Mr Stevens then looked at the Chinese economy. You can check that part of his speech by clicking the link below. Next he turned to dwelling prices.

“As everyone knows, dwelling prices rose a great deal over the decade or more from 1995, and not just in Australia. This occurred globally. The fact that it was a widespread phenomenon is a hint that we should be wary of explanations that are solely domestic in their focus. It suggests that the global dwelling price dynamic had a lot to do with financial factors – and there is little doubt that finance for housing became more readily available.

“In various countries prices have subsequently fallen. In the US, for example, prices are down by about 30% from their peak, though they look like they have now reached bottom. In the UK, the fall was smaller – at about 15–20%. In Australia, the decline since the peak has been about 5-10%, depending on the region. There are of course prominent examples of particular localities or even individual dwellings where price falls have been much larger.

“Scaled to measures of income, Australian dwelling prices on a national basis have in fact declined and are now about where they were in 2002. That is, housing has become more ‘affordable’. 4 or 5 years ago we supposedly had a housing affordability ‘crisis’. Now it seems that the problem some people fear is that of housing becoming even more affordable.

“Are dwelling prices overvalued? It’s very hard to be definitive on that question. There are 2 aspects to the claim that they might be. The first is that prices relative to income are higher than they were 15 or 20 years ago. If this ratio is somehow mean-reverting, then either incomes must rise a lot or prices must fall. It could be that this analysis is correct, but the problem is that there is no particular basis to think that the price:income ratio 20 years ago was ‘correct’. There are reasons that might be advanced for why the ratio might be expected to be higher now than then – that the mean has shifted – though again there is little science to any quantification for such a shift. In any event, arguments that appeal to historical averages for such ratios lose potency the longer the ratio stays high. In Australia’s case the ratio of prices:income on a national basis has been apparently at a higher mean level – about 4-4½ – for about a decade now.

“The second support for the claim that dwelling prices are overvalued is the observation that they seem high in comparison with other countries. In seeking to make such comparisons, though, there are serious methodological challenges. The key difficulty is in sourcing comparable data on the level of prices across countries. Such data are, at best, pretty sketchy. With that caveat very clearly in mind, consider the following 2 charts.

“Simply comparing Australia & the US, it is hard to avoid the impression that gravity will inevitably exert its influence on Australian dwelling prices. But if we put these 2 lines on a chart with a number of other countries with which we might want to make comparisons, the picture is much less clear. To the extent that we can make any meaningful statements about international relativities, the main conclusion would be that Australian dwelling prices, relative to income, are in the pack of comparable countries. In this comparison, the US seems the outlier.

“None of this can be taken to say definitively that Australian dwelling prices are ‘appropriate’, or that there is no possibility they will fall. It is a very dangerous idea to think that dwelling prices cannot fall. They can, and they have. The point is simply that historical or international comparisons, to the extent they can be made, do not constitute definitive evidence of an imminent slump. At the very least, the complexity of making these comparisons suggests we ought to look at some other metrics in thinking about the housing market.

“One would be the performance of the associated mortgages. Here, the main story is that not much has changed. Arrears remain low and, if anything, have been edging down over the past year. That in turn is not altogether surprising given that debt servicing burdens have declined.

“As a result of lower house prices and therefore lower loan sizes, somewhat lower interest rates and a good deal of income growth, the repayment on a new loan on a median-priced house as a share of average income is now at its lowest for a decade (except for the ‘emergency’ interest rate period in 2009).

“It is true that a low unemployment rate is a key factor helping here, but it is also true that the proportion of households that are ahead on their mortgage payments is also high – with some evidence pointing to over half – which would provide a buffer of some months for those households in the event a period of lower income was experienced. If we look at applications for possessions of dwellings, they have been running at about 0.15% of dwellings on an annualised basis. Such applications have actually declined since their peak in both NSW & Victoria, though they have risen over the past couple of years in WA & Queensland. In the US, the most comparable figure for repossessions – ‘foreclosures started’ – peaked at over 2% of dwellings.

“The conclusion? We should never say a crash couldn’t happen here, and the Reserve Bank continues to monitor property markets and the performance of mortgages quite closely, as we have for many years. But it has to be said that the housing market bubble, if that’s what it is, seems to be taking quite a long time to pop – if that’s what it is going to do. The ingredients we would look for as signalling an imminent crash seem, if anything, less in evidence now than 5 years ago.

“What then about funding vulnerabilities?

“The pre-crisis period saw too much ‘borrowing short to lend long’, and too much reliance on the assumed availability of market funding. Banks everywhere have been adjusting away from that model over recent years, Australian banks among them. The share of offshore funding has fallen, and its maturity has been lengthened).

“The flip side of this is of course the rise in domestic deposit funding, which has occasioned such competitive behaviour in the market for deposits.

“Interestingly enough, while we have been told over the years how Australian banks were doing the country a favour by arranging the funding of the current account, they have stopped doing this over the past year without, apparently, any dramatic effects. As measured in the capital account statistics, there has been a net outflow of private debt funding over the past 2 years, offset roughly by increased inflow of foreign capital into government obligations. This has occurred with a net decline in government debt yields and a net rise in the exchange rate. The current account deficit has, in other words, been easily ‘funded’ without the assistance of banks borrowing abroad – in fact, while they have been net re-payers of funds borrowed earlier.

“A reasonable conclusion is that the degree of vulnerability to a global panic of any given magnitude appears to have diminished, rather than grown, over the past few years. It hasn’t completely disappeared, and it would not be sensible to expect it would, unless we were pursuing a policy of financial autarky. But there is little reason to assume that Australian institutions are somehow unusually exposed to these risks compared with most of their counterparts overseas.

“In the end, of course, any bank’s ability to maintain the confidence of its creditors is mainly about its asset quality. That brings us back to lending standards, the macro-economic environment, and so on. One would think that, overall, things look relatively good in Australia, compared to the world’s trouble spots. Think for just a moment about the holdings of government debt on the books of banks in any number of other countries, and about the state of public finances of many of those countries.

“The arguments I have presented amount to saying that some necessary adjustments have been occurring gradually & reasonably smoothly. China’s growth had to moderate. It has slowed, but it hasn’t collapsed. Housing values & leverage in Australia couldn’t keep rising. They haven’t. Dwelling prices have already declined, relative to income, and it is in fact not obvious that they are particularly high compared with most countries. Housing ‘affordability’ has improved significantly; over 99% of bank-held mortgages are being serviced fully.

“Banks have reduced their need for the sort of funding that might be difficult to obtain in a crisis situation. The current account deficit is being funded by a combination of direct equity investment and flows into high-quality Australian dollar-denominated assets, the latter at costs that have been falling. In fact, the Commonwealth of Australia, and its constituent states, are at present able to borrow at about the lowest rates since federation.

“Markets do not, then, seem to be signalling serious concerns about Australia’s solvency or sustainability. But markets can be wrong sometimes. They can sometimes be too optimistic (and other times too pessimistic). So even though we don’t face immediate problems, we should ask: what if something went wrong? Below I consider a few possibilities.

“If the thing that goes wrong is a major financial event emanating from Europe, the most damaging potential transmission channel would be if there were a complete retreat from risk, capital market closure & funding shortfalls for financial institutions. Let me emphasise, importantly, that this is not occurring at present and if it did occur it would be a problem for a great many countries, not just Australia. But in that event, the $A might decline, perhaps significantly. We might find that, in an extreme case, the Reserve Bank – along with other central banks – would need to step in with domestic currency liquidity, in lieu of market funding.

“The vulnerability to this possibility is less than it was 4 years ago; our capacity to respond is undiminished and, if not actually unlimited, is not subject to any limit that seems likely to bind. An alternative version of this scenario, if it involved the sort of euro break-up about which some people speculate, could be a flow of funds into Australian assets. In that case our problem might be not being able to absorb that capital. But then the banks would be unlikely to have serious funding problems.

“If the thing that goes wrong is a serious slump in China’s economy, the $A would probably fall, which would provide expansionary impetus to the Australian economy. But more importantly, we could expect the Chinese authorities to respond with stimulatory policy measures. Even if one is concerned about the extent of problems that may lurk beneath the surface in China – say in the financial sector – it is not clear why we should assume that the capacity of the Chinese authorities to respond to them is seriously impaired. And in the final analysis, a serious deterioration in international economic conditions would still see Australia with scope to use macro-economic policy, if needed, as long as inflation did not become a concern, which would be unlikely in the scenario in question.

“If dwelling prices in Australia did slump, then there would be obvious questions about how that dynamic could play out. In such circumstances people typically worry about 2 consequences. The first is a long period of very weak construction activity, usually because an excess of stock resulting from previous over-construction needs to be worked off. But we have already had a fairly protracted period of weak residential construction; it’s hard to believe it will get much weaker, actually, at a national level.

“The second potential concern is the balance sheets of lenders. This scenario is among those routinely envisaged by APRA’s stress tests over recent years. The results of such exercises always show that even with substantial falls in dwelling prices, much higher unemployment and associated higher levels of defaults, key financial institutions remain well & truly solvent.

“Of course, it can be argued that the full extent of real-life stresses cannot be anticipated in such exercises. That’s a reasonable point. But we actually had a real-life stress event in 2008 & 2009. The financial system shows a few bruises from that period, but its fundamental stability was maintained.

“In conclusion, most Australians I encounter who return from overseas remark how good it is to be living & working here. We are indeed ‘lucky’ in so many ways, relative economic stability being only one of them.

“But what matters more is what we do with what we have. Not every good aspect about recent performance is down to luck. By the same token there are things we can do to improve our prospects – or, if you will, to make a bit of our own future luck. Some of the adjustments we have been seeing, as awkward as they might seem, are actually strengthening resilience to possible future shocks. Higher – more normal – rates of household saving, a more sober attitude towards debt, a re-orientation of banks’ funding and a period of dwelling prices not moving much come into this category.

“The years ahead will no doubt challenge us in various ways, including in ways we cannot predict. But what’s new about that? Even if the pessimists turn out to be right on one or more counts, it doesn’t follow that we would be unable to cope. Acting sensibly, with a long-term focus, has as good a chance as ever of seeing us through whatever comes our way.”

Link: The lucky country, full speech by Reserve Bank of Australia governor Glenn Stevens

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Attribution: Speech notes, story written by Bob Dey for the Bob Dey Property Report.

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Australia holds cashrate as economy continues to grow

Published 3 July 2012

The Reserve Bank of Australia left its cashrate unchanged at 3.5% today, after 4 cuts since last October.

Bank governor Glenn Stevens said the domestic economy continued to grow this year and the growth of domestic costs would have to slow to keep inflation in check in the longer term.

Mr Stevens said: “Growth in the world economy picked up in the early months of 2012, having slowed in the second half of 2011. But more recent indicators continue to suggest weakening in Europe and a slower pace of growth in China. Conditions in other parts of Asia have recovered from the effects of last year’s natural disasters, but the ongoing trend is unclear and could be dampened by the effects of slower growth outside the region.

“The US continues to grow at a modest pace. Commodity prices have declined, which is helping to reduce inflation and providing scope for some countries to ease macro-economic policies. Australia’s terms of trade have peaked, though they remain historically high.

“Financial markets have initially responded positively to signs of further progress towards longer-term sustainability in European financial affairs, but Europe will remain a potential source of adverse shocks for some time. While capital markets remain open to corporations & well rated banks, low appetite for risk has seen long-term interest rates faced by highly rated sovereigns, including Australia, decline to exceptionally low levels. Share markets have remained volatile.

“In Australia, recent data suggest that the economy continued to grow in the first part of 2012, at a pace somewhat stronger than had been earlier indicated. Labour market conditions also firmed a little, notwithstanding job shedding in some industries; the rate of unemployment remains low.

“There have been no changes to the bank’s outlook for inflation. Over the coming 1-2 years, and abstracting from the effects of the carbon price, inflation is expected to be consistent with the target. Maintaining low inflation over the longer term will, however, require growth in domestic costs to slow as the effects of the earlier exchange rate appreciation wane.

“Interest rates for borrowers have declined, to be a little below their medium-term averages. Business credit has increased more strongly in recent months, though credit growth remains modest overall. The housing market remains subdued. The exchange rate has been volatile recently, but overall remains high.

“As a result of the sequence of earlier decisions, there has been a material easing in monetary policy over the past 6 months. At today’s meeting, the board judged that, with inflation expected to be consistent with the target and growth close to trend, but with a more subdued international outlook than was the case a few months ago, the stance of monetary policy remained appropriate.”

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Attribution: Bank release, story written by Bob Dey for the Bob Dey Property Report.

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Australian cashrate cut again on low inflation risk

Published 5 June 2012

The Reserve Bank of Australia cut its cashrate by 25 basis points to 3.5% today – the fourth cut since last October.

The decision followed a week of worsening economic news across the Tasman – in the housing sector, sales volume fell below 400,000/year for the first time since 1997, housing approvals started falling a year ago and slipped below 145,000/year in March and the 5-year moving average of housing finance commitments is down to the level of 10 years ago.

The Australian central bank raised its rate by 25 points to 4.75% in November 2010, then started cutting a year later. It took 25 points off twice at the end of 2011 and 50 more last month.

Bank governor Glenn Stevens gave his reasons for the latest cut today: “Growth in the world economy picked up in the early months of 2012, having slowed in the second half of 2011. But more recent indicators suggest further weakening in Europe and some further moderation in growth in China. Conditions in other parts of Asia have largely recovered from the effects of last year’s natural disasters, but the ongoing trend is unclear and could be dampened by slower Chinese growth. The US continues to grow at a moderate pace. Commodity prices have declined lately, though they are mostly still high. Australia’s terms of trade similarly peaked about 6 months ago, though they remain historically high.

“Financial market sentiment has deteriorated over the past month. The board has noted previously that Europe would remain a potential source of adverse shocks. Europe’s economic & financial prospects have again been clouded by weakening growth, heightened political uncertainty and concerns about fiscal sustainability & the strength of some banks. Capital markets remain open to corporations & well rated banks, but spreads have increased. Long-term interest rates faced by highly rated sovereigns, including Australia, have fallen to exceptionally low levels. Share markets have declined.

“In Australia, available indicators suggest modest growth continued in the first part of 2012, with significant variation across sectors. Overall labour market conditions firmed a little, notwithstanding job shedding in some industries, and the rate of unemployment remains low. Nonetheless, both households & businesses continue to exhibit a degree of precautionary behaviour, which may continue in the near term.

“There have been no new data for inflation since the previous meeting. Over the coming 1-2 years, and abstracting from the effects of the carbon price, inflation is expected to be in the 2–3% range. In the near term, it is likely to be in the lower part of that range, though maintaining low inflation over the longer term will require growth in domestic costs to slow as the effects of the earlier high exchange rate wane.

“As a result of earlier changes to monetary policy, interest rates for borrowers have declined to be a little below their medium-term averages. Business credit has increased more strongly in recent months, though credit growth remains modest overall. Housing prices had shown some signs of stabilising around the turn of the year, but have recently declined again. Generally, the housing market remains subdued. The exchange rate has declined over recent weeks, reflecting lower commodity prices, heightened risk aversion and expectations of lower interest rates.

“At today’s meeting, the board judged that, with modest domestic growth and a weaker & more uncertain international environment, the outlook for inflation afforded scope for a more accommodative stance of monetary policy.”

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Attribution: Bank release, story written by Bob Dey for the Bob Dey Property Report.

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Australian cashrate cut by 50 points as commodity index dips again

Published 2 May 2012

The Reserve Bank of Australia lowered its cashrate by 50 basis points to 3.75% yesterday, effective today.

The bank cut the rate to 4.25% in December after a 25-point cut the previous month. It had held the rate at 4.75% for a year before that.

Bank governor Glenn Stevens said the bank based yesterday’s decision on information over the past few months suggesting economic conditions had been somewhat weaker than expected, while inflation had moderated.

Putting the interest rate cut in context, the bank also released preliminary estimates for its commodity price index for April, which indicated that index had fallen again after a small rise in March halted a decline that began in mid-2011.

On the interest rate, Mr Stevens said: “Growth in the world economy slowed in the second half of 2011 and is likely to continue at a below-trend pace this year. A deep downturn is not occurring at this stage, however, and in fact some forecasters have recently revised upwards their global growth outlook.

“Growth in China has moderated, as was intended, and is likely to remain at a more measured & sustainable pace in the future. Conditions in other parts of Asia softened in 2011, partly due to natural disasters, but have recently shown some tentative signs of improving. Among the major countries, conditions in Europe remain very difficult, while the US continues to grow at a moderate pace.

“Commodity prices have been little changed, at levels below recent peaks but which are nonetheless still quite high. Australia’s terms of trade similarly peaked about 6 months ago, though they too remain high.

“Financial market sentiment has generally improved this year, and capital markets are supplying funding to corporations & well rated banks. At the margin, wholesale funding costs have declined over recent months, though they remain higher, relative to benchmark rates, than in mid-2011. Market sentiment remains skittish, however, and the tasks of putting European banks & sovereigns on to a sound footing for the longer term, and of improving Europe’s growth prospects, remain large. Hence Europe will remain a potential source of adverse shocks for some time yet.

“In Australia, output growth was somewhat below trend over the past year, notwithstanding that growth in domestic demand ran at its fastest pace for 4 years. Output growth was affected in part by temporary factors, but also by the persistently high exchange rate. Considerable structural change is also occurring in the economy. Labour market conditions softened during 2011, though the rate of unemployment has so far remained little changed at a low level.

“Recent data for inflation show that after a pick-up in the first half of last year, underlying inflation has declined again and was a little over 2% over the latest 4 quarters. CPI inflation has also declined, from about 3½% to a little over 1½% at the latest reading, as the weather-driven rises in food prices in the first half of last year have, as expected, now been fully reversed. Over the coming 1-2 years, and abstracting from the effects of the carbon price, inflation will probably be lower than earlier expected, but still in the 2–3% range.

“As a result of changes to monetary policy late last year, interest rates for borrowers have been close to their medium-term averages over recent months, albeit tending to increase a little as lenders passed on the higher costs of funding their books. Credit growth remains modest overall. Housing prices have shown some signs of stabilising recently, after having declined for most of 2011, but generally the housing market remains subdued. The exchange rate remains high even though the terms of trade have declined somewhat.

“Since it last changed the cash rate in December, the board has maintained the view that the setting of policy was appropriate for the time being, but that the inflation outlook would provide scope for easier monetary policy, if needed, to support demand. The accretion of evidence over recent months suggests that it is now appropriate for a further step in that direction.

In considering the appropriate size of adjustment to the cashrate at today’s meeting, the board judged it desirable that financial conditions now be easier than those which had prevailed in December. A reduction of 50 basis points in the cashrate was, in this instance, therefore judged to be necessary in order to deliver the appropriate level of borrowing rates.”

On the commodity price index, Mr Stevens said preliminary estimates for April indicated the index fell by 1.6% (on a monthly average basis) in SDR (International Monetary Fund special drawing rights) terms, after rising by 0.5% in March (revised). The largest contributors to the fall in April were decreases in the prices of coal, oil, gold & aluminium. In $A terms, the index rose by 0.4% in April.

“Over the past year, the index has fallen by 4.2% in SDR terms. Much of this fall has been due to falls in the prices of metallurgical coal, iron ore, aluminium & wheat. The index has fallen by 5.2% in $A terms over the past year.”

The SDR index peaked at 149.8 in July 2011, slipped to 136.6 in December, rose to 140 over the next 3 months then slipped to 137.8 in April. The bank also measures movements in $A & $US terms, which have shown similar shifts, though occasionally with different timing.

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Attribution: Bank releases, story written by Bob Dey for the Bob Dey Property Report.

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Quest for mature chat about structure of Australian economy

Published 20 March 2012

Blogger Delusional Economics suggested in a 3-part series run on the MacroBusiness website over the past week that Australia needed to have a more mature conversation about the structure of its economy to set the agenda for the future.

In his first article, on 13 March, Delusional Economics wrote: “For some reason this country appears to be unable to have an adult conversation about what is actually happening in the economy. The government refuses to acknowledge the structural weaknesses, preferring to blame the mining sector, while the media stands by with flaccid analysis of the major issue. The major structural issue with the economy is that for the last 2 decades fiscal policy has been used to steer national income towards housing.”

 

In the second article, he wrote about balance of payments data.

In the third article, he wrote that the government push for surplus was putting downward pressure on national income, while the private sector was attempting to push its balance sheet towards more saving: “This is leading to a fall in government income via consumption-related taxation, and so, every couple of months Wayne Swan has to re-inform the public that yet another couple of billion has suddenly disappeared from the government coffers. Lately he has been using the excuse that ‘mining boom II isn’t the rivers of gold of boom I’.

“As you may now understand, that is nothing like a valid explanation of what is happening in the economy.”

The argument is relevant to New Zealand: If Australia does have this mature conversation, its economy ought to be restructured and then pick up more strongly than if it continues its haphazard course, which would be to the economic advantage of New Zealand while also probably pushing Australia ahead of New Zealand. And if Australia doesn’t restructure, the poor performance will be reflected here while also giving a potentially more independent New Zealand the opportunity to catch up with its neighbor.

Links: MacroBusiness

An adult conversation about the economy, please!

A balanced conversation about the economy

Understanding the Australian economy, 3

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Attribution: MacroBusiness, story written by Bob Dey for the Bob Dey Property Report.

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Australian reserve bank holds cashrate

Published 7 March 2012

The Reserve Bank of Australia held its cashrate at 4.25% yesterday.

Bank governor Glenn Stevens said: “Recent information is consistent with the expectation that the world economy will grow at a below-trend pace this year, but does not suggest that a deep downturn is occurring. Several European countries will record very weak outcomes, but the US economy is continuing a moderate expansion.

“Growth in China has moderated as was intended, but on most indicators remains quite robust overall. Conditions around other parts of Asia softened in 2011, partly due to natural disasters, but are not showing signs of further deterioration. Some moderation in inflation has allowed policymakers in the region to ease monetary policies somewhat. Commodity prices declined for some months and are noticeably off their peaks, but over the past couple of months have risen somewhat and remain at quite high levels.

“The acute financial pressures on banks in Europe have been alleviated considerably by the actions of policymakers, though there is more to do to put European banks & sovereigns onto a sound footing for the longer term, and Europe will remain a potential source of shocks for some time yet. Financial market sentiment has continued to improve in recent weeks and capital markets are again supplying funding to corporations & well rated banks, albeit at costs that are higher, relative to benchmark rates, than in mid-2011.

“Most information on the Australian economy continues to suggest growth close to trend overall, with differences between sectors and considerable structural change. Labour market conditions softened during 2011 and the unemployment rate increased slightly in mid-year, though it has been steady over recent months. CPI inflation has declined as expected and will fall further over the next quarter or 2. In underlying terms, inflation is around 2½%. Over the coming 1-2 years, and abstracting from the effects of the carbon price, the bank expects inflation to be in the 2–3% range. This forecast embodies an expectation that productivity growth will improve somewhat as a result of the structural change occurring in the economy.

“Interest rates for borrowers have generally risen slightly since the board’s previous meeting, but remain close to their medium-term average. Credit growth remains modest. Housing prices have shown some sign of stabilising recently, after having declined for most of 2011, but generally the housing market remains soft. The exchange rate has risen over recent months, even though the terms of trade have declined.

“With growth expected to be close to trend and inflation close to target, the board judged that the setting of monetary policy remained appropriate for the moment. Should demand conditions weaken materially, the inflation outlook would provide scope for easier monetary policy. The board will continue to monitor information on economic & financial conditions and adjust the cashrate as necessary to foster sustainable growth & low inflation.”

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Attribution: Bank release, story written by Bob Dey for the Bob Dey Property Report.

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