ColinTwiggs, Author at the patient investor

April 12, 2017

Australia: Financial Stability | RBA

Extract from the latest Financial Stability Review by the RBA:

….In Australia, vulnerabilities related to household debt and the housing market more generally have increased, though the nature of the risks differs across the country. Household indebtedness has continued to rise and some riskier types of borrowing, such as interest-only lending, remain prevalent. Investor activity and housing price growth have picked up strongly in Sydney and Melbourne. A large pipeline of new supply is weighing on apartment prices and rents in Brisbane, while housing market conditions remain weak in Perth. Nonetheless, indicators of household financial stress currently remain contained and low interest rates are supporting households’ ability to service their debt and build repayment buffers.

The Council of Financial Regulators (CFR) has been monitoring and evaluating the risks to household balance sheets, focusing in particular on interest-only and high loan-to-valuation lending, investor credit growth and lending standards. In an environment of heightened risks, the Australian Prudential Regulation Authority (APRA) has recently taken additional supervisory measures to reinforce sound residential mortgage lending practices. The Australian Securities and Investments Commission has also announced further steps to ensure that interest-only loans are appropriate for borrowers’ circumstances and that remediation can be provided to borrowers who suffer financial distress as a consequence of past poor lending practices. The CFR will continue to monitor developments carefully and consider further measures if necessary.

Conditions in non-residential commercial property markets have continued to strengthen in Melbourne and Sydney, while in Brisbane and Perth high vacancy rates and declining rents remain a challenge. Vulnerabilities in other non-financial businesses generally appear low. Listed corporations’ profits are in line with their average of recent years and indicators of stress among businesses are well contained, with the exception of regions with large exposures to the mining sector. For many mining businesses conditions have improved as higher commodity prices have contributed to increased earnings, though the outlook for commodity prices remains uncertain.

Australian banks remain well placed to manage these various challenges. Profitability has moderated in recent years but remains high by international standards and asset performance is strong. Australian banks have continued to reduce exposures to low-return assets and are building more resilient liquidity structures, partly in response to regulatory requirements. Capital
ratios have risen substantially in recent years and are expected to increase further once APRA finalises its framework to ensure that banks are ‘unquestionably strong.’

Risks within the non-bank financial sector are manageable. At this stage, the shadow banking sector poses only limited risk to financial stability due to its small share of the financial system and minimal linkages with the regulated sector, though the regulators are monitoring this sector carefully. Similarly, financial stability risks stemming from the superannuation sector remain low.

While the insurance sector continues to face a range of challenges, profitability has increased of late and the sector remains well capitalised.

International regulatory efforts have continued to focus on core post-crisis reforms, such as addressing ‘too big to fail’, as well as new areas, such as the asset management industry and financial technology. While the goal of completing the Basel III reforms by end 2016 was not met, discussions are ongoing to try to finalise an agreement soon. Domestically, APRA is continuing its focus on the risk culture in prudentially regulated institutions and will review compensation policies and practices to ensure these are prudent.

Reading between the lines:

household debt is too high
apartments are in over-supply and prices are falling
we have to maintain record-low interest rates to support the housing bubble
APRA is “taking steps” to slow debt growth but also has to be careful not to upset the housing bubble
the Basel committee has been dragging its feet on new regulatory guidelines and we cannot afford to wait any longer

Source: RBA Financial Stability Review PDF (2.4Mb)

April 11, 2017

Consider Republicans’ tax plan | Ross Garnaut

From Patrick Hatch:

“Our existing tax base for the corporate income tax is in deep trouble,” Professor Garnaut told the Melbourne Economic Forum on Tuesday. “It’s subject to egregious avoidance or evasions, with two of the main instruments of avoidance being arbitrary use of interest on debt to reduce taxable income and, more importantly, arbitrary use of payment for import of services as deductions.

“You have a lot of what must be fundamentally some of the most profitable enterprises in Australia paying no corporate income tax.

“Google and Microsoft and Uber, they manage to generate very large sales in Australia … but somehow make no profit from it because of payment for intellectual property, payments for services.”

Cutting rates while broadening the base is a step in the right direction. But the broader base has to offset the rate cut, so that tax revenues are not depleted.

One of the oldest tricks in the tax avoidance industry is to set up a structure where A receives a deduction for an expense while the receiving party (B) is either tax exempt or is resident in a tax haven, and does not pay tax on the income. The effect is to substantially reduce tax payable by A.

Disallowing all deductions would unfairly penalize legitimate transactions. A simpler method would be to require A to collect a withholding tax on the payment to B (or B provides a tax file number showing that the income will be taxed in Australia) else the deduction by A will be disallowed.

Source: Consider Republicans’ tax plan, says economist Ross Garnaut

April 9, 2017

Australia: Warning signs of a contraction

Australia faces shrinking inflationary pressures.

Inflation

Wage growth is falling.

Wage Price Index

Credit growth is shrinking.

Inflation

Growth of currency in circulation is also slowing. The fall below 5% warns of a contraction.

Currency in Circulation: Growth

One piece of good news is that Chinese monetary policy seems to be easing. After a sharp contraction of M1 money stock growth in January, February shows a partial recovery. Collapse of the Chinese property bubble may be deferred a while longer.

China M1 Money Stock

Which is good news for iron ore exporters. At least in the short-term.

April 9, 2017

Inflation surges

Inflation is rising, with CPI climbing steeply above the Fed’s 2% target. But core CPI excluding energy and food remains stable.

Consumer Price Index

Job gains were the lowest since May 2016.

Job Gains

But the unemployment rate fell to a low 4.5%.

Unemployment

Hourly wage rate growth has eased below 2.5%, suggesting that underlying inflationary pressures are contained.

Average Hourly Earnings Growth

The Fed is unlikely to accelerate its normalization of interest rates unless we see a surge in core inflation and/or hourly earnings growth.

April 9, 2017

Why we need to worry about the level of Australian household debt

From Elizabeth Knight:

The balance sheets of Australian households with a mortgage are dangerously exposed to any fall in house prices.

It isn’t just that household debt relative to disposable incomes has reached a record high of 189 per cent, it’s that households’ ability to service that debt is potentially a ticking time bomb…..

A recent Digital Finance Analytics survey found that of the 3.1 million mortgaged households, an estimated 669,000 are now experiencing mortgage stress.

“This is a 1.5 per cent rise from the previous month and maintains the trends we have observed in the past 12 months,” it found. “The rise can be traced to continued static incomes, rising costs of living, and more underemployment; whilst mortgage interest rates have risen thanks to out-of-cycle adjustments by the banks and bigger mortgages thanks to rising home prices.”

Source: Why we need to worry about the level of Australian household debt

April 7, 2017

Dow consolidation

Dow Jones Industrial Average is consolidating in a narrow band between 20400 and 20800. Narrow bands in an up-trend signal accumulation and breakout above 20800 would signal another advance.

Dow Jones Industrial Average

Declining 21-day Twiggs money Flow is typical of a consolidation, provided it respects the zero line. A trough above zero confirms medium-term buying pressure.

April 7, 2017

ASX 200 faces bank headwinds

The ASX 300 Banks Index continues to test support at 9000. Declining Twiggs Money Flow warns of selling pressure and reversal below 8900 would warn of a correction.

ASX 300 Banks

The ASX 200 continues its advance towards 6000, with rising Twiggs Money Flow signaling buying pressure. But it is vulnerable to a correction in the Banks Index, the largest sector in the broad index.

ASX 200

* Target medium-term: 5800 + ( 5800 – 5600 ) = 6000

The economy is still exposed to a property bubble and APRA is likely to keep the pressure on banks to increase their capital reserves, which would lower their return on equity.

April 7, 2017

Gold meets resistance

Spot Gold continues to test support at $1240/$1250 an ounce. Respect, indicated by recovery above $1260, is likely and would signal an advance to $1300.

Spot Gold

April 7, 2017

Jobs, Inflation & the Fed | ECRI

From Lakshman Achuthan at ECRI:

Headline jobs growth came in well below expectations, and weather played some part in suppressing job growth, both in construction and retail.

But the jobless rate dropped to 4.5%, its lowest reading since 2007, so the Fed’s “full-employment” mandate has been met.

Their other mandate is on inflation, and over the past year I’ve discussed our U.S. Future Inflation Gauge, which anticipated the inflation cycle upturn shown by the chart. Today the forward looking USFIG remains near an 8¾ -year high.

The chart shows the year-over-year PCE inflation rising sharply to a 5-year high, and breaching the Fed’s 2% inflation target which is defined by this inflation measure.

For those who might think this is just about oil prices, please note that core PCE inflation, ex-food and energy, has also been rising, and now above 1¾%, the highest reading in over 2½ years.

This is what a cyclical upswing in inflation looks like.

Moreover, the U.S. economy has a good tailwind from rising global growth.

All of this helps explain why the Fed is finally able to implement a full-fledged rate hike cycle.

Source: Jobs, Inflation & the Fed | News | News and Events | ECRI

April 7, 2017

Navigating Great Power Rivalry in the 21st Century

Michael J. Mazarr is senior political scientist at the nonprofit, nonpartisan RAND Corporation and associate director of the Strategy, Doctrine and Resources Program of the RAND Arroyo Center:

The configuration of power in the international system is changing, which is precisely why revisionist powers such as Russia and China feel empowered to challenge American primacy. The United States and its great power rivals do not accept a common set of global rules. Moscow and Beijing are challenging the norms that Washington prefers, from non-aggression in Eastern Europe to freedom of navigation in the South China Sea. The ideological differences between the great powers are far less severe than they were during the Cold War, but the cleavage between the world’s leading democracy and its two foremost authoritarian powers is significant enough to be a source of conflict. And finally, more than 70 years after the last great power war, there does not appear to be any commonly perceived threat powerful enough to overcome these other factors and compel sustained cooperation. The focus of many great powers today seems to be on a opportunistic grab for influence rather than an urgent fear that disaster will befall them if they cannot find ways to coordinate their actions with others.

Efforts to form a great power concert are thus likely to prove unavailing; making concessions to Russia or China in hopes of drawing them into such a concert could well be more destabilizing than stabilizing. But managing these relationships — and doing so while preserving the greatest degree of stability possible — remains an urgent task for the United States…..

Source: Navigating Great Power Rivalry in the 21st Century