The most worrying aspect of rising Australian debt is that most of it is coming from offshore.
Domestic borrowing is fairly benign, but an increase in international liabilities suggests the country is living beyond its means. Has been for a while.
RBA strategy: Fight fire with gasoline
This is just plain wrong.
The Australian economy is sitting atop an enormous housing bubble caused by credit expansion from 1995 to 2007. To counter the end of the mining boom, the RBA lowered interest rates to stimulate the economy. While this may be necessary to relieve pressure on borrowers, what we don’t need is another credit expansion. That would simply make the economy more unstable and increase the risk of a crash. Banks are moving to curb lending to speculators, with lower LVRs, but not fast enough in my view. We can’t afford a credit contraction, but the RBA needs to impose sufficient discipline to keep credit growth at/below the inflation rate — so that it gradually declines in real terms as the economy grows.
Australian stocks: Buy in July?
Australian stocks typically encounter tax loss selling in June (before end of the financial year), followed by a rally in July/August that often carries through into the next calendar year. Sale of poor performing stocks before EOFY withdraws money from the market and effectively lowers all stock prices. After the year end, investors start to accumulate stocks again, lifting the market.
A monthly chart of the ASX 200 Accumulation Index since 2006 shows 2 years where the rally started in August (dark green), 5 years where the rally started in July (light green), and 2 years (red) where the EOFY rally disappointed, continuing a down-trend.
This year is complicated by turmoil in Greece and China. July 2011 also had its Greek drama. Prime Minister George Papandreou survived a confidence vote but was eventually replaced by Lucas Papademos, former governor of the Bank of Greece and vice-president of the European Central Bank. S&P also downgraded US government debt at the start of August 2011.
What does July 2015 have in store for us?
I don’t have a crystal ball, but breakout above the trend channel on the ASX 200 daily chart would indicate the correction is over, suggesting another advance. Rising 21-day twiggs Money Flow indicates mild buying pressure.
But it would be prudent to wait for confirmation, in case it turns into a bull trap like 2011.
Global economy: No surprises
The global economy faces deflationary pressures as the vast credit expansion of the last 4 decades comes to an end.
Commodity prices test their 2009 lows. Breach of support at 100 on the Dow Jones UBS Commodity Index would warn of further price falls.
The dramatic fall in bulk commodity prices confirms the end of China’s massive infrastructure boom.
Crude oil, through a combination of increased production and slack demand has fallen to around $60/barrel.
Falling prices have had a sharp impact on global Resources and Energy stocks….
But in the longer term, will act as a stimulus to the global economy. Already we can see an up-turn in the Harpex index of container vessel shipping rates, signaling an increase in international trade in finished goods.
The latest OECD export statistics show who the likely beneficiaries will be. Primary producers like Brazil and Russia have suffered the most, while finished goods manufacturers like China and the European Union display growth in exports. The US experienced a drop in the first quarter of 2015, but should rebound provided the Dollar does not strengthen further.
Australia and Japan offer a similar contrast.
Oil-rich Norway (-5.8%,-13.3%) has also been hard hit. Primary producers are only likely to recover much later in the economic cycle.
Australian exports hammered
This chart from Westpac highlights Australia’s export misery:
Iron ore prices are falling faster than shipments are rising. Andrew Hanlan sums up the the problem facing the Australian economy:
A jump in imports coincided with a sharp fall in export earnings. Critically, the rest of the world is paying us considerably less for our key exports, iron ore and coal. This negative shock is squeezing incomes for businesses, households and government alike.
ASX 200: Support or resistance?
ASX 200 support at 5750, 5650 or 5550: which is most relevant? Judging by some of the questions received, I succeeded in confusing a number of readers. Here is a brief summary:
- 5750 acted as medium-term support until the beginning of May, when breach of 5750 and the rising trendline warned of a correction.
- 5750 transformed into medium-term resistance and penetration would suggest the correction is over.
- There is a strong band of support between the two recent (2014) highs of 5650 and 5550.
- Breach of this band (i.e. below 5550) would indicate a test of primary support at 5120.
- Respect (i.e. 5550 intact) would provide a solid base for a rally and a further (primary) advance if resistance at 6000 is broken.
Mild decline of 13-week Twiggs Money Flow suggests medium-term selling pressure — not a reversal. Recovery above 5750 remains more likely than breach of 5550.
* Target calculation: 6000 + ( 6000 – 5750 ) = 6250
Federal budget 2015: worst cumulative deficits in 60 years | Chris Joye
Chris Joye (AFR) on the budget deficit:
There are two critical differences in 2015 that make Australia’s current debt burden [42.2% of GDP] much more troubling than that serviced by previous generations. Back in the 1977 and 1983 recessions, the household debt-to-income ratio was only 34 per cent and 37 per cent, respectively. Even in the 1991 recession, it was just 48 per cent, which is one reason why home loan arrears were so benign. Yet by 2015, the household debt-to-income ratio had jumped 3.2 times to an incredible 154 per cent, which is above its pre-GFC climax because families haven’t deleveraged….
Public and private debt levels are important to our economic health, but where the money is borrowed domestically it is far less serious than when it is borrowed offshore. In the former case, net debt in the economy is effectively zero — one sector runs a surplus while the other runs a deficit — but where money is borrowed offshore, the nation as a whole becomes a net debtor. Which is why short-term borrowing in international markets by Australian banks — used to fund the housing bubble in the run up to the GFC — was so dangerous.
From Greg McKenna (House & Holes) at Macrobusiness:
“….The funding gap is estimated to be $600 billion. In a speech on Friday, Westpac deputy chief executive Phil Coffey cited research from PwC which estimated the gap could grow to $1.325 trillion if there was a pick-up in credit growth.”
Here is the latest chart from the RBA showing the rising borrowing, it’s quarterly and likely lagging:
Notice how the article is focused entirely upon the “funding gap” as a tactical challenge in which the banks are innocent players. In reality there is no “funding gap”. Rather, our financial system is addicted to unproductive mortgage-lending and that crowds out the kind of business lending that would generate income growth and local savings. The “funding gap” is created by the banks not serviced by them.
International borrowing to fund a domestic property bubble is double trouble.
Read more at Federal budget 2015: worst cumulative deficits in 60 years | afr.com.
And at Macrobusiness: Australia ramps the risk as banks borrow abroad
Dearth of capital investment
Interesting graph from RBA governor Glenn Stevens.
A striking feature of the global economy, according to World Bank and OECD data, is the low rate of capital investment spending by businesses. In fact, the rate of investment to GDP seems to have had a downward trend for a long time.
One potential explanation is that there is a dearth of profitable investment opportunities. But another feature that catches one’s eye is that, post-crisis, the earnings yield on listed companies seems to have remained where it has historically been for a long time, even as the return on safe assets has collapsed to be close to zero …..
Perhaps this is partly explained by more sense of risk attached to future earnings, and/or a lower expected growth rate of future earnings.
Or it might be explained simply by stickiness in the sorts of “hurdle rates” that decision makers expect investments to clear. I cannot speak about US corporates, but this would seem to be consistent with the observation that we tend to hear from Australian liaison contacts that the hurdle rates of return that boards of directors apply to investment propositions have not shifted, despite the exceptionally low returns available on low-risk assets.
What this illustrates is the limits of monetary policy to restore economic growth.
Such [monetary] policies are, then, working through the channels available to them to support demand. But these channels are financial in nature. They don’t directly create demand in the way that, for example, government fiscal actions do……
Why our prep-school diplomats fail against Putin and ISIS | New York Post
“Why do our “best and brightest” fail when faced with a man like Putin?” Ralph Peters asks. “Or with charismatic fanatics? Or Iranian negotiators? Why do they misread our enemies so consistently, from Hitler and Stalin to Abu Bakr al-Baghdadi, the Islamic State’s self-proclaimed caliph?”
The answer is straightforward:
Social insularity: Our leaders know fellow insiders around the world; our enemies know everyone else.
The mandarin’s distaste for physicality: We are led through blood-smeared times by those who’ve never suffered a bloody nose.
And last but not least, bad educations in our very best schools: Our leadership has been educated in chaste political theory, while our enemies know, firsthand, the stuff of life.
Above all, there is arrogance based upon privilege. For revolving-door leaders in the U.S. and Europe, if you didn’t go to the right prep school and elite university, you couldn’t possibly be capable of comprehending, let alone changing, the world…….
That educational insularity is corrosive and potentially catastrophic: Our “best” universities prepare students to sustain the current system, instilling vague hopes of managing petty reforms.
But dramatic, revolutionary change in geopolitics never comes from insiders. It’s the outsiders who change the world.
An Athenian general once wrote:
The state that separates its scholars from its warriors will have its laws made by cowards, and its fighting done by fools.
~ Thucydides (c. 460 BC – c. 400 BC)
Read more at Why our prep-school diplomats fail against Putin and ISIS | New York Post.
Deflation in Australia?
The Eurozone experienced negative CPI growth over December/January.
Australia shows consumer price growth declining at the end of 2014. The next CPI update (Q1 2015), at end of April, is likely to reflect further slowing.
Declining inflation expectations reported by Westpac (in the 0 to 5% range) tend to support this.
