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December 8, 2014

Murray has endorsed macroprudential | Macrobusiness.com.au

Posted by Houses and Holes
At 12:52pm on December 8, 2014
Published with permission from Macrobusiness.com.au.

The one glaring problem with the Financial System Inquiry is that it didn’t push hard for the introduction of macroprudential policies. That takes the heat off both the RBA and APRA.

The truth is that higher capital requirements — combined with higher risk weighting on mortgages and tax reform — would have a similar (potentially larger) effect as macroprudential policies. In the long term financial system and tax reform is clearly the better approach to creating an efficient and sustainable housing and financial sector, but these reforms will take longer to implement.

That’s right. Murray’s principle recommendations are macroprudential. APRA is now free (and is being urged) to implement higher capital requirements. They do not require anything from government to go ahead. This is basically the model of MP envisaged by Prof Ross Garnaut.

A more interesting question is whether or not APRA will still act on specific areas of risk such as interest-only loans. These are a menace, as the US bust showed, and are surging. Murray did not mention them, being too granular, but said the following on MP more particularly:

The global financial crisis (GFC) prompted policy makers and regulators around the world to reconsider their approach to maintaining financial stability. Some countries at the epicentre of the crisis have since expanded their prudential perimeters and adopted more formal and centralised institutional arrangements. This includes establishing single entities with responsibility for macro-prudential regulation. Australia has long adopted what could be called a ‘macro-prudential’ approach to supervision under the rubric of financial stability. Yet, Australia’s institutional structure is relatively informal and decentralised. The Reserve Bank of Australia (RBA) and APRA each have responsibility for financial stability. However, most macro-prudential tools can only be deployed by APRA. This places a strong premium on cooperation between the two agencies.

Against the background of developments overseas, the Inquiry has considered whether Australia should change its institutional arrangements for making and implementing financial stability policy.

However, the Inquiry does not see a strong case for change in this area. Although approach has advantages and disadvantages, alternative institutional approaches are yet to be tested — as indeed is the effectiveness of many macro-prudential tools. For this reason, the Inquiry recommends no fundamental change to the current institutional arrangements for financial stability policy and no change to the prudential perimeter at this time.

That is neither here nor there and APRA will still be free to raise capital requirements for specific loans if it sees fit.

October 15, 2014

Why Australian Consumers Are Happy With Their Finances But Aren’t Spending | Business Insider

From Greg McKenna:

There is a lot of focus on the wealth of Australians through property and super but many Australian households and Australian households in aggregate are still carrying a large amount of debt. A stock of debt which must be repaid with a flow of earnings no matter how wealthy they might be on paper.

So consumers are more confident about their finances and their financial future but they aren’t spending — yet.

Something that puzzles me is why household debt as a percentage of disposable income is constant. If consumers have accelerated their credit card and mortgage debt repayments, surely this figure should be falling.

September 22, 2014

Irrational Exuberance Down Under | Bloomberg View

From William Pesek:

Lindsay David’s new book on Australia deserves a medical disclaimer: Reading this will greatly raise your blood pressure.

In “Australia: Boom to Bust” David sounds the alarm about an Australian housing bubble he argues makes the 12th-biggest economy a giant Lehman Brothers. His thesis can be boiled down to the number 9 — the ratio of home prices to income in Sydney. The multiple compares unfavorably to 7.3 in London, 6.2 in New York and 4.4 in Tokyo. Melbourne is 8.4.

August 24, 2014

Houses overvalued by up to 30 per cent, says ex-RBA official

From Christopher Joye:

One of Australia’s top economic experts, Jeremy Lawson, says the housing market is 20 per cent to 30 per cent overvalued and has left Australia vulnerable to a big international economic shock.

Mr Lawson is the global chief economist of Standard Life, a massive British fund manager with $460 billion in assets under management. He was previously a senior economist at the Reserve Bank of Australia and the OECD, and in 2007 advised then opposition leader Kevin Rudd…

August 22, 2014

Bank chiefs in last-ditch plea to David Murray on tougher rules | The Australian

From Richard Gluyas at The Australian:

THE four major-bank chief executives have each made an eleventh-hour appeal to members of the Murray financial system inquiry ahead of Tuesday’s closing date for final submissions, as concerns mount that the sector could be forced to hold even higher levels of bank capital due to the inquiry’s emphasis on resilience. The closed-door meetings with the inquiry panel members come as Steven Munchenberg, chief executive of peak lobby group the Australian Bankers’ Association, said the industry was “jittery” about the inquiry’s focus on balance-sheet resilience because more onerous capital requirements would affect the banks’ ability to lend and serve the economy.

I disagree. Banks with strong balance sheets are better able to serve the needs of the economy. Highly leveraged banks leave the economy vulnerable to a financial crisis and are more likely to contract lending during periods of economic stress.

The shrill outcry may have something to do with the impact on bankers bonuses. Incentives based on capital employed would shrink if shareholder’s capital is increased.

Bank shareholders on the other hand are likely to benefit from stronger balance sheets. Reduced default risk is likely to enhance market valuation metrics like price-earnings multiples. Reduced risk premiums will also lower cost of funding and enhance lending margins. And shareholders are also likely to benefit from enhanced growth prospects. Analysis by the Bank for International Settlements in the post crisis period shows banks with higher capital ratios experience higher asset and loan growth.

August 10, 2014

Australia’s Major Banks Say The Murray Enquiry Used The Wrong Numbers… | Business Insider

From Greg McKenna:

The AFR reports ….the Australian Bankers Association CEO Steven Munchenberg said the banks are “concerned that if some of the statements in the interim report – that Australia’s capital is middle of the road, that housing is a systemic risk – are allowed to remain unchallenged and are then taken out of context that is going to cause us a lot of future grief”.

Munchenberg says the Inquiry hasn’t calculated the capital ratios correctly.

“The approach was simplified and didn’t take into account the complexities and nuances of how capital is determined in Australia, including deductions required by APRA and some of the areas where APRA has adopted a more conservative approach, and as a result underestimated the amount of capital in Australia relative to overseas”, he told the AFR.

Forget the nuances and comparisons to the plight of other banks. Australian banks need to almost double their capital and adopt a more conservative approach to home mortgage lending if they are to withstand future shocks. 3 to 5 percent capital against total exposure doesn’t get you very far. The history of low mortgage failures over the last 3 decades, in an expansionary phase of the credit market, is unlikely to be repeated during a contraction.

August 4, 2014

Australia: Struggling economy to hit profits | InvestorDaily

From Miranda Brownlee:

A higher Australian dollar and slower economy are expected to result in subdued corporate earnings in the upcoming reporting season, according to Prescott Securities….. equity specialist Travis Adams said despite this, he still expects earnings per share growth across the market of around seven to eight per cent.

July 27, 2014

World wakes to APRA paralysis | Macrobusiness

Posted by Houses & Holes:

Bloomberg has a penetrating piece today hammering RBA/APRA complacency on house prices, which will be read far and wide in global markets (as well as MB is!):

Central banks from Scandinavia to the U.K. to New Zealand are sounding the alarm about soaring mortgage debt and trying to curb risky lending. In Australia, where borrowing is surging, regulators are just watching.

Australia has the third-most overvalued housing market on a price-to-income basis, after Belgium and Canada, according to the International Monetary Fund. The average home price in the nation’s eight major cities rose 16 percent as of June 30 from a May 2012 trough, the RP Data-Rismark Home Value Index showed.

“There’s definitely room for caps on lending,” said Martin North, Sydney-based principal at researcherDigital Finance Analytics. “Global house price indices are all showing Australia is close to the top, and the RBA has been too myopic in adjusting to what’s been going on in the housing market.”

Australian regulators are hesitant to impose nation-wide rules as only some markets have seen strong price growth, said Kieran Davies, chief economist at Barclays Plc in Sydney.

…“The RBA’s probably got at the back of its mind that we’re only in the early stages of the adjustment in the mining sector,” Davies said. “Mining investment still has a long way to fall, and also the job losses to flow from that. So to some extent, the house price growth is a necessary evil.”

…The RBA, in response to an e-mailed request for comment, referred to speeches and papers by Head of Financial Stability Luci Ellis.

…The RBA and APRA have acknowledged potential benefits of loan limits “but at this stage they don’t believe that this type of policy action is necessary,” said David Ellis, a Sydney-based analyst at Morningstar Inc. “If the housing market was out of control and if loan growth, particularly investor credit, grew exponentially then it’d be introduced.”

What do you call this, David:

Reproduced with kind permission from Macrobusiness

July 14, 2014

Pickering: Australian housing “severely overvalued”

Interesting view from Leith van Onselen:

Business Spectator’s Callam Pickering has produced an interesting assessment of the RBA’s new research paper, which attempts to determine whether Australian homes are overvalued versus renting.

Like my analysis posted earlier, Pickering also concludes that Australian housing is significantly overvalued given the likely prospects for incomes and capital growth; although how he arrives at his conclusion is a little different:

My general view is that Australians are frequently ripped off when purchasing a home. A combination of poor housing policy… combined with housing supply restrictions… have resulted in arguably the most expensive housing stock in the world…

[The RBA] find that the decision to buy or rent is highly sensitive to one’s expectations regarding capital appreciation. Their base scenario assumes that house prices will continue to grow at their post-1955 average, during which time real house prices rose by 2.4 per cent annually. Under this scenario, housing is perfectly priced compared with rents.

But as I’ve argued frequently it is unreasonable to assume that future house price growth will match past gains…

The sensitivity of their analysis to various price growth assumptions is contained in the graph below.

Structural shifts in the Australian economy resulting from an ageing population and a declining terms of trade, combined with the Chinese economy slowing, will weigh on income and price growth, while high levels of indebtedness should place a speed limit on potential growth.

The most interesting scenario considered by Fox and Tulip is the scenario where real house prices grow at the rate of household income growth (denoted in the graph by “HHDY”). This scenario is perhaps a little optimistic (the risks to income growth are on the downside) but it approximates our current reality… Under this scenario, housing is overvalued by around 20 per cent…

[The RBA research] using plausible assumptions for price growth, suggests that housing is severely overvalued in Australia and many Australians are getting ripped off.

Spot on and well argued.

Reproduced with kind permission from Macrobusiness

June 27, 2014

Bank of England throws egg all over RBA, APRA | | MacroBusiness

Of all of the financial systems in the world, Australia’s is most similar to the UK. Of all of the restrictive housing planning systems in the world, Australia’s is most similar to the UK. Of all of the house price boom and bust cycles in the world, Australia’s is most similar to the UK. The Bank of England also practices inflation targeting though its cap is 2%. The UK and Australia share a similar economic model reliant upon external borrowing to fund consumption and low export-to-GDP ratios but the main difference is that the UK economy is a more diverse mix of value-adding sectors with a much higher contribution from manufacturing.

But today there is one very new difference. The UK has announced it will henceforth practice macroprudential regulation to control its housing cycles and prevent them from hollowing out the economy…..