Delusional Economics

We're moving.

2011-01-23T21:08:00.002+10:00

This is probably a bit of a suprise to our readers, but we are moving.

We have been planning this for many months, and after a few false starts we will now be joining a number of other esteemed bloggers to bring you http://macrobusiness.com.au/

So from today we will be posting exclusively on that site, and this blog is going to sleep.

A little information on what we all are hoping to achieve over there.

MacroBusiness was formed by four bloggers who reckon the gap between the Australian business media and reality has widened to a gulf.

That this is possible without the heavy-hand of a dictator is testament to the power of vested interests, monopolies, weak government, closed ideologies and a perennial culture of populism.

In effect, it means our leadership class can make unaccountable economic and business blunders, or, they are measured against entirely inappropriate yardsticks.

At MacroBusiness we use reason, history and ideas to bring you a bigger picture of the choices we face for our economy, businesses and investments.

We are the hedge fund of Australian business media.

I hope you all enjoy the new site, and follow us over there for the same daily content.

Disclaimer: The content on this blog is the opinion of the author only and should not be taken as investment advice. All site content, including advertisements, shall not be construed as a recommendation, no matter how much it seems to make sense, to buy or sell any security or financial instrument, or to participate in any particular trading or investment strategy. The author has no position in any company or advertiser reference unless explicitly specified. Any action that you take as a result of information, analysis, or advertisement on this site is ultimately your responsibility. Consult someone who claims to have a qualification before making any investment decisions.

More Flood Outcomes

2011-01-22T08:39:00.002+10:00

Some more flood related news, after Goldman Sach's and ANZ's $20 billion estimates and Julia's A team.

ABEAR has taken a punt at the export hit

THE devastation from recent floods will cost the Australian agricultural sector $500-600 million, while coal exports will take a $2-2.5 billion hit in 2010-11, according to a new report.

'The Australian Bureau of Agricultural and Resource Economics and Sciences says coal exports could fall by 15 million tonnes between December 2010 and March 2011 as a result of the floods.

The figures are, however, just an initial estimate of the impact of the recent floods in Queensland, NSW and Victoria.

The impact of the floods on fruit and vegetables, cotton, grain sorghum and winter crops has been significant, according to the report out today.

But the loss of livestock relative to the size of the national herd and flock has not been as great so far, with the main impact associated with disruptions to transport and other infrastructure support.

For some reason the PM thinks it is a good idea to make the private sector a little bit poorer in the aftermath of a natural disaster, because it obviously hasn't suffered enough.

Prime Minister Julia Gillard has signalled the federal government may impose a one-off levy to help pay for devastating flood damage, while also flagging spending cuts.

Ms Gillard also warned of rising food prices as a result of the extensive flood damage.

''There will be spending cutbacks and there may also be a levy,'' Ms Gillard told the 7.30 Report last night, while indicating there would also be an impact on the GDP

Banks are collapsing contracts of sale in flood effect areas, many will be heading for court.

The future of up to 600 off-the-plan apartment sales worth $577 million in inner Brisbane could be contested -- some in the courts -- in the wake of the devastating floods.

The issues facing new apartment sales could mirror those of the global financial crisis, according to Damian Hackett, chief executive of Brisbane-based Place Estate Agents.

During the 2008 financial crisis values fell rapidly and banks and financiers would lend only on the lower value at settlement, rather than on the contracted purchase price.

"There are still properties that have not settled after the GFC," Mr Hackett said yesterday.

He said there were unconditional sales contracts on about 596 inner Brisbane properties worth $577m.

The Commonwealth Bank, Westpac and the ANZ said they were working on a case-by-case basis and would support customers affected by the floods.

However, if Brisbane property values drop more generally, banks are expected to lend on the potentially lower value of the property at settlement.

We have also heard unconfirmed rumours that some banks have cancelled finance for many more properties in flooded or near flooded areas no matter how far they are through the contract, even those that have gone unconditional. We are yet to verify this. But if true, then you could snap up a bargain in a flooded area, you'll need a big deposit... 100%.

The insurance guild has "concluded" that it doesn't want to pay out people in Brisbane or Ipswich

However, the Insurance Council has concluded that damage in Brisbane and Ipswich was a result of flooding, something that is not automatically covered by most insurers.

Given that it seems the insurers can decide whether they think you are covered or not, depending on their definition of what is and what isn't flooding, it makes you wonder why Westpac wants everyone to have it.

Westpac could force mortgage customers to buy flood insurance in the wake of the crisis that has engulfed the eastern states and destroyed thousands of Queensland homes.

Bank management has revealed it is considering making flood insurance compulsory for home loan customers in a move that would mitigate the group's risk in the event of another flood crisis.

"It's not the practice in Australia at the moment but it is something we are looking at," said Westpac human resources chief Peter Hanlon, speaking at the Senate inquiry into banking competition.

The revelation coincided with the release of research estimating that mortgages totalling $5.1 billion in Queensland were "at risk" as a consequence of the floods.

And finally the ABS data is also going to be flood affected.

Australia's official statistician said floods in Queensland had delayed the gathering of data in the region and would result in under-reporting in some surveys.

The Australian Bureau of Statistics said it had suspended the collection of data in places declared official disaster areas and some data releases could be delayed by as long as two weeks. The situation would be assessed twice weekly to determine whether normal data collection could resume.

"The suspension of activity means that there is likely to be a significant level of under-reporting in ABS surveys that are in the field during this time," the ABS said in a statement

So it won't be long before we see the "data was under-reported" excuse in action.

Reader's Question: Another visit to CentralBankopia

2011-01-20T23:34:00.003+10:00

We received an e-mail from David this week.

I really love your blog, and "get" nearly all the concepts on there now, but the one that I've never been able to grasp is your fiat currency "just print money" centralbankopia...

You seem to be suggesting that the Federal Reserve should just "print money" as/when required, as opposed to "running a balanced budget". Please correct me if I'm wrong here.

However, aren't both of these just different forms of theft/tax? Printing money taxes cash holdings (capital) through dilution/inflation whereas balanced budgets tax income. Can you explain why one is more preferable than the other.

Perhaps it has to do with the interest that the government pays on "loans" used to created a balanced budget. This just seems like wasteage. But perhaps, by "loaning" the money into existence, they have a mechanism to remove it from existence, thus reducing the inflation.

I'm not sure. I'd love it if you could have another go at explaining it (to us laypeople) ...

A good question David, and you are certainly not the first person to ask this question or challenge us on this. So it looks like it is time to travel back to Centralbankopia. But firstly let us re-state what CentralBankopia is about.

We created the concept of CentralBankopia to explain the potential of the economic system that exists in Australia today, and how that system could be used to provide better economic outcomes for all Australians. It is however obvious that neither the current government nor the opposition understand how their economy actually works, so we are currently bound by the constraints of "household" budgetting. We created centralbankopia to attempt to explain how and why a FIAT currency issuing government's budget is not a budget like the one "laypeople" would be used to.

CentralBankopia is a concept we use on this blog to help explain what "money" actually means in a modern FIAT currency economy with a floating exchange rate ( Australia's economy ) from a unique perspective, that of the monopolistic issuer.

You need to be clear, this is not from the perspective of the private budgets of the people who work for the Central Bank, Treasury and/or other government institutions that set fiscal and monetary policy. It is from the functional perspective of the institutions themselves and the economy of Australia. From this perspective money is seen completely differently and has a very different use than it does to people, households, companies and other government entities.

So remember when we talk about "CentralBankopia" we mean these institutions. When we say "CentralBankopians" we mean the functional community of people who set fiscal, monetary and other economic policy that steers the macro-economy in the context of setting that policy.

CentralBankopian finance has a couple of concepts that are completely foreign to most people, but once you understand them you can appreciate a very different perspective on economic topics.

Money has no real value; it can be created or destroyed at any time.
The real currency is GPEC , which is made up of sustainable Growth, Productivity, Employment and social Calm.
GPEC is gained by using policy to manipulate the supply of money to and from the private sector ( via the banks ) to ensure that resources are mobilised in such a way to create sustainable growth , productive gains, employment and social well-being.

If you had this perspective on "money" then you would have a very different view of deficits, national debts and the supply of money. As a CentralBankopian can issue their own currency at anytime they can obviously spend money at will. Likewise, they can do the opposite, that is, raise taxes and simply destroy the money knowing full well they can create more next time it is required.

With that in mind let us address David's questions.

I've never been able to grasp is your fiat currency "just print money" centralbankopia.

You seem to be suggesting that the Federal Reserve should just "print money" as/when required, as opposed to "running a balanced budget". Please correct me if I'm wrong here.

David is not wrong, but he is not right either. The question as it is phrased relates to money from a private sector perspective, David is asking whether the Federal Government should be running a balanced budget, which means attempting to equal out the amount that it spends and saves (taxes). In terms of a private household budget this makes sense, but in terms of a FIAT currency issuing sovereign government it is meaningless, and in some circumstances very dangerous.

However the concept of "just print money" is also something that needs to be addressed, because if the government "just" did continually print money then the economy would be destroyed.

The thing to remember at all times when thinking about economic policy in the context of CentralBankopia is that the aim is GPEC, money is simply a tool to get it. If you are mindlessly issuing money at a time when the economy does not require it to utilise resources then you will cause damage to the economy, by inflation , and most probably by creating speculative bubbles; in the same way that you will cause damage if mindlessly tax people (de-issue currency) when it is not required.

So the answer is No. The government should never "just" print money. But there are times when there is a need to utilise resources and/or change the way resources are used and in some cases this may require the FIAT currency issuing government to add additional money to the system, knowing full well that it can remove it at a later date via taxation or other methods if required.

But let us re-iterate once again. The aim is GPEC, if you issuing new money into the economy which cannot absorb it productively or without the policy frameworks in place to ensure that that money will in some way increase productivity, productive capacity, employment or social calm then it is going to cause problems. Stimulus for stimulus sake is an utter disaster, and in most cases simply leads to non-productive asset speculation, and inflation.

So with that in mind let us address the other part of David's question.

However, aren't both of these just different forms of theft/tax? Printing money taxes cash holdings (capital) through dilution/inflation whereas balanced budgets tax income. Can you explain why one is more preferable than the other.

There are two points to make about this question, so we will break it into 2 parts. But for simplicities sake we will be skipping over some concepts, if you anyone has further questions or needs clarification of a point then please ask, we have already addressed some in a previous post.

1. What causes inflation.

The first point that is always raised whenever you talk about the issuance of FIAT currency is the spectre of inflation. But it is important to understand what inflation is actually caused by. There are two main reasons. The lack of availability of a particular demanded resource; or the oversupply of money, directly or indirectly, in the economy that cannot be absorbed productively.

In the case of David's question he is referring to the later. But the important point to note is the end of that sentence, "that cannot be absorbed productively". If the national unemployment rate is running at 25% then the supply of additional 1% to the money supply into the economy is, in broad terms, not going to be an inflationary issue.

2. GPEC versus money.

The main part of the question is the difference in outcomes when money is the focus versus GPEC. A money centric government sees government debt as the primary issue, believing it is bound by its money; a GPEC centric government sees resource underutilisation as the primary issue, believing it is bound by the available resources.

Let us give you an example to explain the difference. Let us imagine we have a country that has just had some form of economic shock; unemployment is rising and the economic output is falling, due to this the taxation intake is falling and the social security bill is rising. Like all countries in the world we can assume they have an array of businesses and companies that produce goods of some kind, and have barriers and costs of/to production. For simplicities sake let us assume they had balanced terms of trade and political and social stability at the time of the shock.

The "money" centric approach.

A "money" centric government would have the budget as the primary focus, they would see the rising budget deficit due to falling taxation, and assume that the only thing to do is cut government spending and raise taxes. This in turn causes greater unemployment as the cut in spending and raising of taxes slowly steals private wealth and forces people to take on debt in an attempt to maintain the same standard of living. In this case unemployment is used as the countermeasure to attempt to "rebalance" the budget, and the fail safe is falling wage demands.

In the long term this would work to re-adjust the economy, but in the meantime many people would have lost their livelihood, been de-moralised and overall the only thing that has been fixed in terms of barriers to production is costs of wages ( i.e the standard of living of the populace fell ) and given this and the length of time that the economy floundered you would most likely be left with a deficit anyway. But note, most importantly, after all of this work to "fix" the economy the overall state of the country is in a worse position than it began.

The "GPEC" centric approach

A "GPEC" centric government would have the resource utilisation as the primary focus, they would see the rising unemployment and view it as an opportunity to reutilise those resources in a way to lower the current barriers to production. Their fiscal position is meanlingless.

Given that they are Centralbankopias, they would have already been holding public economic forums with business leaders and would have an agreed prioritised list of barriers to production, which could be addressed when resources were available to do this work. The government would initiate a number of these programs, including adjustments in taxation policy to support private investment in these programs.

These programs provide employment to the newly unemployed, with the end game to lower the current production barriers the economy faces, and therefore lower production costs and improve economy efficiency.

In this case "money" is used as the countermeasure to attempt to "rebalance" unemployment, and the fail safe being increased production.

In the long term this would work to re-adjust the economy, as the higher productive capacity flows through the economy then the government would lessened its input to these programs and jobs would start to move back into the private sector, increasing the tax intake.

Conclusion

As you can see from a "money" perspective the outcomes are the same, in both cases you would expect the budgets to eventually be re-balanced (although in the case of a GPEC government it is irrelevent) but the outcomes for the populace and the future of economy are very different.

We hope this provides another piece to the puzzle, and is also a catalyst for more thought on the issue.

Consumer confidence takes another hit

2011-01-20T15:42:00.004+10:00

Given that consumer confidence was already in the doldrums on the lead up to, and just after Christmas, it is little surprise that we note that one of the largest natural disasters in Australian history has given it a good kick while it is down.

The Queensland floods have knocked the stuffing out of consumer confidence, obliterating the usual post-Christmas bounce and pointing to fragile spending as authorities attempt to come to grips with managing the economy.

The proportion of Australians agreeing that ''now is a good time to buy a major household item'' nearly always jumps in January, often by 10 per cent.

This January, for only the third time since records have been kept, the proportion fell, negating the effect of the January sales.

Advertisement: Story continues below The Westpac Melbourne Institute consumer sentiment survey was conducted in the second week of January as the floods hit Toowoomba and Brisbane.

In Queensland, the overall measure of confidence fell 6 per cent; in the rest of the nation it fell 3 per cent.

Optimism about economic conditions over the coming year slid 16 per cent and expectations about personal finances 6 per cent.

Only when asked about economic conditions five years out was sentiment unchanged, with pessimism about the long-term outweighing optimism.

But let's be clear about this; confidence was already falling long before the flood because it was becoming obvious to many businesses and households that their financial position was not looking as good as it used. Debt issuance contagion was starting to effect the real economy.

However blaming the flooding for poor economic data, responsible or not, is probably a trend we are going to have to put up with for some time yet; especially in Queensland where we expect the government to use it to wash away the sins of years of economic and political ineptitude.

That is of course unless you listen to the flog, who never need worry about facts, can see a "boom" even in the most obviously horrible circumstances, and have all sorts of wonderful theories. Today's seems to be broken window theory.

ICAP Securities economist Adam Carr said spending would boom in the wake of the floods regardless of consumer confidence.

It's January and people are not going to sit around and wait until the middle of the year to start rebuilding their lives.

That would depend if they have a choice about that now wouldn't it Mr Carr?

Another round of pressure

2011-01-20T07:30:00.005+10:00

With one of the Banking overlords about to front up to a senate committee it is about time for the media to remind us all about the "pressure" they are under to raise rates.

Australian banks remain under pressure to pass on higher interest rates to customers, as intense competition for funds from cash-strapped European governments and other banks drives up borrowing costs on global markets.

The higher costs are likely to place the big four lenders in a bind, given the industry is still reeling from last year's mauling by politicians angered by a round of super-sized rate hikes.

The cost of finance means banks' profit margins are at risk of being squeezed.

Lending rates and the associated issue of competition in the banking sector will again come under scrutiny this week when the chief executive of Westpac, Gail Kelly, appears before a Senate inquiry in Sydney tomorrow.

Credit market jitters linked with European debt concerns have coincided with the busiest period for local banks in borrowing from wholesale markets.

Australia's big banks will need to borrow more than $130 billion in the next year to help fund their lending books

None of this is new, we have talked about this new year bond competition before and at the last senate enquiry all of the banking leaders made it very clear of their new year's intentions with statements like this.

Mr Norris told the Senate inquiry there was "no doubt" interest rates would rise by 75 to 100 basis points in 2011.

So although the flooding may be holding the RBA's hand, it does not look like the banks will be as kind to the indebted.

However there has been a recent change in the banking bond landscape, which has the potential to make investors just a little more nervous about banking debt. It looks as if Ireland has decided that it is time to start "enforcing" bond holders take a haircut.

Irish Finance Minister Brian Lenihan is about to inflict more pain on bank investors. Unless they take it, analysts say worse may follow.

Junior bondholders in Dublin-based Allied Irish Banks Plc will decide this week on an offer to buy back more than $5 billion of subordinated debt at 30 percent of face value. Analysts at BNP Paribas SA recommend investors accept the package or risk getting “the stick” after the government passed laws allowing it to reduce payments to bondholders.

“The draconian powers granted to the Irish finance minister in December are a game-changer for subordinated bondholders in Irish banks,” said Ivan Zubo, a London-based credit analyst at BNP Paribas. “Clearly, there is a risk that the more drastic powers could be used if Allied Irish needs more capital in the future.”

Gail kelly's words in front of the committee about funding should be very interesting.

GS loan default estimations.. a couple of other points.

2011-01-19T09:09:00.004+10:00

As we have been mentioning since the floods hit Australia, our expectation would be for the banks, especially the Queensland based ones, to take a big hit from bad loans.

Today we note that Goldman Sachs has done some numbers.

The Queensland floods crisis could put nearly $5 billion worth of mortgages and commercial loans at risk of default, as the financial fallout mounts from the worst natural disaster in the state in nearly three decades.

A new report from Goldman Sachs has found there could be defaults on $4.1bn worth of home loans, which equates to 16,500 homes, in the state's southeast.

It was also estimated that 2950 commercial loans, worth $737 million, could be in trouble.

The estimates come amid grim forecasts that property prices in Brisbane's riverside suburbs could plummet by up to 50 per cent after the floods. The expected falls are also likely to put increased pressure on rents across the city.

Goldman Sachs banking analyst Ben Koo said preliminary research showed that up to 67 per cent of houses and business damaged in the floods last week had no insurance or flood coverage.

It was estimated that about 20 per cent of the houses that were fully inundated and had no insurance would default on their loans. The banks would lose about 10 per cent of the outstanding loan value on those mortgages.

Again we have to ask what the effect will be on capital requirements when the banks also "prudently" revalue their securitised properties in these areas, including the ones that were not directly effected by the flooding.

And while the banks are "prudently" re-adjusting their own LVTs , and "experts" are estimating that property values in some areas have suddenly fallen by 50%, we would have to ask again if a couple of those little-known clauses in home loans contracts are about to come and bite the indebted; even when they think they have been saved from the floods.

Section 2. - 3.5 Value of the security.

The value of and title to the Security Property must be to our reasonable satisfaction at all times during the term of the Contract. We may obtain a new valuation of any security property.

and

Section 9.0 Default

You are in default of under the Contract if any of the following conditions apply;
...
c) Value or title unsatisfactory : We are reasonable satisfied with the value of/or title to the security property or the security over it will be inadequate security for our Loan in accordance with our usual prudent credit standards.

At this point in time it would obviously be a public relations nightmare for the banks to be enforcing these contracts. But in 6 months time, when the floods are becoming a distant memory, we just wonder whether people in these flooded areas will suddenly get a surprising letter from their bank, on top of the one from their insurer.

The bill rises, feds have no idea.

2011-01-18T12:01:00.006+10:00

As we said when the Queensland disaster was underway.

It is becoming an economic reality that the $5 billion price tag will be far too low;

Today we note the ANZ is estimating a number 4 times the original estimate.

The rebuild effort in the aftermath of Queensland's floods could top $20 billion, according to the latest estimates by economists at ANZ bank.

With the Federal Government expected to foot a large proportion of the bill for the rebuild, this is likely to put the budget surplus for financial 2013 under threat, ANZ's chief economist Warren Hogan said.

The latest estimate is a significant upgrade on earlier estimates among economists, that the floods could represent $13 billion hit to gross domestic product.

With the still unfolding crisis in Victoria adding to a colossal damage bill in Queensland, Prime Minister Julia Gillard and Treasurer Wayne Swan yesterday conceded that the budget would be stretched by flood recovery and rebuilding costs for years.

When discussing the financial implications of the floods, Ms Gillard did not repeat assurances earlier this month that the promised schedule for a return to budget surplus would be unchanged.

With markets now switching attention to the rebuild effort, many expect a mammoth spending program to return damaged infrastructure to pre-flood levels.

Queensland Premier Anna Bligh this week said at least 28,000 homes would need to be rebuilt while vast numbers of dwellings would require extensive repairs.

"The Queensland Premier's statement that 28,000 homes will need to be rebuilt will alone come at a cost of around $8 billion on our estimates, suggesting the total rebuild effort could be in the order of $20 billion," Mr Hogan said.

With costs like that, we note there is little doubt that a government run by people who don't understand the value of a FIAT currency economy will be thrusting the real cost onto the populace.

A flood levy is one of the options before the federal government as it considers how to honour its commitment to cover the lion's share of rebuilding costs while preserving the budget's return to surplus in 2012-13.

Any levy would likely take the form of an addition to the 1.5 per cent Medicare levy, which raises $10 billion a year.

Julia Gillard indicated yesterday that the government's obligations to support Queensland would form part of the planning for the 2011-12 budget.

"There's going to be a lot of effort and money and resources needed to rebuild, particularly rebuild Queensland, but we'll be managing the federal budget through the federal government so that we can meet those needs as well as managing the budget into surplus in 2012-13," the Prime Minister said.

So given the fact that the government doesn't seem to understand much about how its economy actually works, we aren't surprised to note that they have asked private sector business leaders to try and work it out for them.

Prime Minister Julia Gillard has announced the formation of a business task force to help Queensland as it recovers from devastating floods.

Ms Gillard says she has decided to bring together 10 Australian leading business people to form a business round table to assist with corporate support as Queensland recovers and rebuilds from floods.

The group will be chaired by Treasurer Wayne Swan.

Ms Gillard said trucking magnate Lindsay Fox and Queensland Treasurer Andrew Fraser would also be members of the group.

"The purpose of bringing leading corporate identities together... is to further leverage corporate support for the recovery and rebuilding in Queensland," she told reporters in Melbourne.

"Already corporate Australia has been tremendously generous.

"But given the scale of this disaster we need to do more.

Ms Gillard said the taskforce would coordinate in-kind efforts from corporate Australia.

Thankfully, at least in the short term, the natural disaster is driving up the price of commodities. So unless China's economy suddenly implodes ( which isn't totally out of the question) we would expect a semi-reasonable medium term outcome for the economy.

But please don't assume that is because the federal government knows what they are doing, this disaster has proven once and for all they have no idea.

Maxed out

2011-01-18T07:46:00.003+10:00

While retail is floundering, manufacturing is dying and new housing credit is falling we note that Australians are still maxing out their credit cards, and when they have, they are just getting a new one.

Australians have racked up a record $48.8 billion in debt on credit cards while banks wring hard-pressed families with interest rates higher than we have seen for nearly 20 years.

According to new figures, Australians are sinking into record levels of credit debt, often being lured to spend more with bank loyalty programs or special offers.

We now collectively owe close to $49 billion, having been approved for 14.8 million credit cards -- more than ever before.

More than two-thirds of this bill, or $35.5 billion, is accruing interest every day at an average rate of 19.7 per cent per annum -- near a 20-year high, according to the Reserve Bank of Australia, which collates the figures.

Just so we are clear, that is approximately $3300 for each of those 14.8 million cards and approximately $2200 of credit card debt for every single Australian.

With retailers complaining about Christmas trade, you do have to wonder where all that debt is going. It is well know that mortgages deliquencies are on the rise, and a fair sign of someone in mortgage stress is a steady increase in credit card debt, as their income cannot cover the living expenses. The new year is usually the time when the problems appear, as we said back in December.

What is worse for these number is that it is Christmas time. The time of year when the indebted grit their teeth and attempt to put on their best Christmas for their kids and to keep up appearances for their family.

Who wants to turn up at Christmas dressed in a Scrooge or a Grinch outfit? Showing signs that their financial position is about to explode in their face. People put on a happy face while hoping for a christmas miracle come new year.

The problems actually begin to appear in January, when the reality of the debt slaps people in the face. The Christmas costs appear and the credit card bill is received in the mail.

And the article has some amazing examples of this.

"Banks and other lenders design credit cards to get people in debt, and try to focus their mind on things other than the fact they are in debt. They make them think about reward points and special offers and the like."

CEO of Nobankruptcy.com.au Christian Oey said: "Our inquiry rate has doubled since this time last year. Usually we don't start to pick up the pace until February, when people get their credit card statements after Christmas."

Mr Oey said the average debt was much higher this time around. "Our average already is about $90,000 per client on credit cards. One client owes $560,000 on credit cards. Some clients have 25 accounts," he said.

"You've got to ask why the banks keep lending."

Yes you do.

Ratings agencies deliver verdict; banks bury head in sand.

2011-01-17T21:19:00.005+10:00

Today we note the ratings agencies are delivering the hard message to the banks for the Queensland Floods.

Income from mortgage-backed transactions will be pared back as repayments from flood-affected home and business borrowers stall amid a lack of insurance for inland flooding.

While the cost of flood damage is still being tallied, global credit ratings agencies say a negative impact on mortgage borrowers in flood affected areas is certain and will also hurt investors.

Financial distress and a potential affordability shock was on the way from a loss of income and higher living costs for borrowers with mortgages over about half of the 40,000 properties affected in Queensland, Fitch Ratings said in a statement on Monday.

Mortgage delinquencies would rise, making banks with large loan exposures to Queensland more vulnerable to increasing arrears, loan defaults and credit downgrades, Moody's Investors Service said in a separate report.

Bank of Queensland (BOQ), Suncorp Group, Heritage Building Society and The Rock Building Society have the highest exposures to Queensland, with more than 60 per cent of BOQ, Suncorp and Heritage's gross loans originated from the state, Moody's said.

And as we have been speaking about lately

Mortgage borrowers wanting to offload their properties could face plummeting prices or find they were "unsellable" for more than a decade, according to Real Estate Institute of Queensland managing director Dan Molloy.

"In the short period it probably scares me a little; what the flood will do to house prices," he said.

"In some cases, houses will be unsellable."

Properties that are underinsured, combined with a lack of insurance cover for flood damage from some insurance companies, mean not all damaged goods will be replaced.

With the insurance companies being very vocal about their stand on policies, we have little doubt the banks will be forced to write-off many loans; and we also wonder what the effect will be on capital requirements when they "prudently" revalue the existing assets.

But not to let reality dampen the delusion, we note the banks are out telling everyone who will listen that there is nothing wrong with the market, everyone just doesn't know how to "measure" it properly, and it is just a matter of time before the next boom.

A new report from ANZ claims residential properties aren't overvalued and has taken aim at traditional methods of evaluating affordability, including price-to-income ratios, saying they don't take into account more complicated and less-quantifiable factors including historic declines in interest rates.
Senior economist Ange Montalti also says the current short-term trends affecting housing prices, including a decline in demand and the lack of first-home buyer stimulus, won't last for more than a year, predicting stronger growth in 2011-12.

"We've had a few rate rises, but these are temporary reactions, we believe, and are not significant in the long-term. Our view is that with the housing market being quite tight, we should see some support for prices over the next 12-18 months."

Oh boy, it is like a one track record. Here we go again.

So what's going to happen in the future? Montalti says the current low level of delinquencies right now means affordability is on track, but warns that "a substantial increase" in interest rates over a short period of time could threaten to destabilise the market.

"But having said that, that's not something the Reserve Bank is going to do without giving a considerable amount of thought to, and it's not on the cards. There would need to be certain circumstances which require that."

"There are always swings and roundabouts in the housing market, with regard to interest rates. But it would take a substantial swing upwards to disrupt the market."
Looking forward, Montalti believes a shortage of properties in certain areas, based on the population growth models, will keep prices moving in the second half of 2011, moving on into 2012.

"Worst case scenario is that we get some more flatness for a bit longer. But we have pent up demand, and there aren't enough homes, so we suspect there will be upward movements in prices going into 2012 and 2013."

The banks just can't let the undersupply myth die even in the face of overwhelming evidence to the contrary.

As our daily readers would know, the things that matters for the market now are the number of people wanting to sell their houses and the amount of new credit entering the market to match that demand to sell.

As our last guest post explained the fundamentals are not in the market's favour, no matter how much banking "experts" want to repeat the "undersupply, population and underlying demand" mantra to the mainstream media.

Interestly however this latest spruik seems at odds with information being reported by others about what the banks see for the future of the market.

Morningstar head of banking research David Ellis said each of the major banks had forecast the Australian mortgage market would begin to slow after rapid growth in the past two years and interest rate rises from the Reserve Bank.

The mortgage growth is likely to be further slowed after the major banks raised their standard variable rates above the RBA's rate in November.

Mr Ellis said that the mortgage forecasts meant the banks would become more reliant on business lending to make up for the softer earnings from home loans.

Hmm... A slowing mortgage market will be propped up by business lending. We would like to think that was true, but we do have to ask; how many of those businesses have loans secured against the family home?

Guest Post: It's a question of fundamentals

2011-01-16T10:50:00.004+10:00

As you can imagine we are a bit busy this weekend; so we have opened the blog to a guest post. Peter W is someone who has left many interesting and educated comments on this blog, so we contacted him to see if he wanted to post an article with a round-up of his ideas.

Peter describe himself as an impassive local observer of ‘Extraordinarily Popular Delusions and the Madness of Crowds’

Please enjoy his post on credit and housing.

It’s a question of fundamentals

Here is a fundamental question for all the spruikers…
What is the difference between ‘an investor’ and ‘a speculator’?

Given that the Australian housing market price increased in aggregate, from $2.5 trillion in 2005 to $4 trillion in 2010, a price gain of $1.5 trillion (10% p.a. compound)

Why is ‘investor credit’ collapsing?

Surely if you can generate an 8 - 10% compound gain in the past 5 years as you did over the past 20, ‘investor credit’ should be at the same 20 – 25% p.a. credit growth levels as 1990 – 2005

The answer of course is that ‘investors’ buy housing (or any other asset for that matter) because the cash-flows determine value i.e. the lower the price the higher the cash flow and the higher the price the lower the cash flow.

‘Speculators’ buy because the price is going up and sell because the price is going down.

In terms of money… ‘Investors’ out weight ‘speculators’ by a huge factor. But if it were not for speculator credit being included in the ‘investor credit’ category, ‘investor credit’ would be significantly negative. ‘Investors’ possess the bulk of national wealth because they are reasonably intelligent.

So prepare for lower clearance rates and a further retreat of ‘investor credit’ and ‘investors’ from the housing market.The only people left in this bubble are the speculators and struggling owner occupiers.

As ‘investors’ pumped credit into the housing market over the past 20 years housing prices far outstripped wages and therefore rents which is why rental yields have fallen to 3%.

This has created a self-fulfilling decline in the attractiveness of housing as an ‘investment’ that even ‘investors’ have recognised (The speculators have not worked this out… YET)

After putting in a stellar effort of 20 – 25% credit growth in the decade and a half prior to 2005 the trend decline in ‘investor’ credit is heading to zero in the very near future!

This leaves ‘owner occupiers’ as only source of new housing credit and net housing buyers. With new housing credit growth only supported by the ‘owner occupier’ population growth and overall wages growth, it’s very likely that new housing credit will decline to 6% per year or less.

6% net credit growth on the existing $807 billion of ‘owner occupier’ credit is $48 - $50 billion per year. Assuming 25 year housing turnover rates and 1.8% new dwelling construction rates per year, roughly $232 billion of housing will come to market for sale each year at present prices.

The existing debt on the entire housing market is ($1157 billion / $4000 billion) roughly 29%.

So the $232 billion of annual housing coming to market, has roughly $67 billion of existing credit (29% LVR), and is seeking to find a sale from buyers only willing to add an additional $48 – 50 billion of new credit, for a total of $117 billion of credit.

LVR ratios change from 29% for ‘the sellers’ and with $50 billion new credit, leverage is increased to 65% for ‘the buyers’ to reach present sale prices, it’s only possible for ‘the buyers’ to purchase $180 billion of this $232 billion of housing stock coming to market each year, leaving $52 billion of housing stock unsold, or roughly 100,000 houses (1.25% of total stock)

Given the long term track record of house prices following annual new credit growth, price gains will be very subdued at best… Unless the price does as it has always done in the past… track annual new credit growth.

$50 billion of annual new credit growth implies housing will slowly fall from $4 trillion to $2.5 trillion a 37.5% fall in house prices and this MAY happen over many years BUT…

When house prices do start to decline, do you think ‘investors’ (read speculators) will be at all interested in creating more credit to engage in a 4% negative gearing loss as prices fall?

Of course not.

What ‘investors’ (read speculators) will do is reduce their level of credit which will subtract additional credit from the $50 billion the home owners MAY possibly create.

A subtraction of credit by ‘investors’ (read speculators) of just 2% (1 investor in 50) would subtract $7 billion (2% of $350 billion) from annual new credit

That would put new credit growth at close to $40 billion which implies housing falling 50%.

The 20 year trend for housing credit growth.

The Australian government has been trying to prop up credit growth since the down trends in credit creation became obvious 2006

The Australian government is not winning!

The long term link between house prices and credit creation…

Bad debt season.

2011-01-16T08:50:00.004+10:00

The flood recovery continues in Queensland, but for many the economic disaster has just begun. As we said in an earlier post

So imagine this; You purchased a house in the last two years, you didn't insure it for flooding because you were told that the Wivanhoe dam meant Brisbane would never flood. Now you have a $300,000 mortgage on a house that it under 10 feet of water that is literally worthless in every way.

You owe $21,000 per year on a property that you can't live in and you cannot sell, but the debt on it means you can't afford to move somewhere else. The banks are giving you a 3 month reprieve.

Which will give you 3 months to find a solicitor to declare bankruptcy.

Today we note that the banks expect this.

Bad debts are likely to jump in Queensland as a consequence of floods that engulfed the state, say analysts.

The banks - particularly the Brisbane-based lenders - could take a significant hit as borrowers default on payments, costs rise and demand for new credit falls in the aftermath of the disaster, they say.

So, yet again we are nervously watching the Queensland banks.

But just so those middle class Queenslanders who have been struck down by nature don't feel so bad, West Australian property developers are providing a bit of "me too" by doing it to themselves.

One of Australia's biggest private property developers, Luke Saraceni, is scrambling to hold on to his empire.

He has missed a $50 million loan payment, prompting receivers to seize control of his $500m Raine Square development in Perth's CBD.

As speculation swirled along Perth's St Georges Terrace yesterday that financiers may move on other Saraceni assets, the developer was locked in meetings with his bankers and receivers, rejecting requests for an interview to clear the air.

In a city where mega-fortunes have seemingly been made in the blink of an eye, Mr Saraceni is the third mogul to run into trouble in the past year, following reclusive miner Ric Stowe and flamboyant Indian fertiliser tycoon Pankaj Oswal.

Given the state of the property market and the trends in credit, we doubt Mr Saraceni will be the last.

Just so you know, you're on the hook for this.

2011-01-14T19:08:00.004+10:00

As we mentioned in a previous post, the Australian taxpayer is on the hook for Citi-group liabilities until 2015

Citi-group actually used the facility 1 week before it expired on the 23/03/2010 to secure $10 billion worth of 5 year notes. The Australian tax payer is on the hook for that $10 billion until 23/03/2015.

So all Ozzie taxpayers would be happy to know that Citigroup was on the verge of failure in 2008 and was only rescued because of a 'Gut Instinct'.

Citigroup, the nation's third-largest bank by assets, was on the verge of being closed by regulators the week of Nov. 24, 2008 as depositors rapidly withdrew money and the bank's counterparties declined to provide it credit, according to a government report released Thursday.

The new findings shed light on the degree to which Citigroup, the financial services behemoth with a long history of finding itself in trouble and receiving government support, was actually in danger of failing during the fall of 2008. Until now, few were aware that Citi was perilously close to being shut down.

"We were on the verge of having to close this institution because it can't meet its liquidity Monday morning," said Sheila Bair, chairman of the Federal Deposit Insurance Corporation, during a meeting the previous Sunday night, according to the report by the Special Inspector General for the Troubled Asset Relief Program.

Another excellent Australian government investment on behalf of the populace.

While we are talking about excellent government investments, we may as well put in this one as well.

The Reserve Bank sold most of the nation's gold reserves more than a decade ago because the board believed its price would remain flat.
They believed also the commodity would not play a role in a future financial crisis.
The decision to sell 167 tonnes of the bank's reserves has cost the nation about $5 billion based on today's soaring price of almost $1400 an ounce.

A board paper recommending the decision to sell conceded that gold served as "insurance against a breakdown in the international financial system", but it then dismissed the need for holding this valuable asset. The paper has been obtained by The Australian under Freedom of Information laws.

The paper also said Australia need not worry about selling the assets because it had vast reserves of the commodity, yet the latest figures from Geoscience Australia show that known reserves will be exhausted with 30 years.

The frontline of the economy rub.

2011-01-14T17:17:00.008+10:00

Today some Brisbane property owners woke up to this. 6 inches of horrible sticky mud absolutely everywhere. Luckily businesses on the river have insurance, which we hope will be paid out. For others it is a different story.

Queensland Premier Anna Bligh and Prime Minister Julia Gillard have both implored insurance companies to be flexible when it comes to processing the thousands of claims being lodged.

"I call on insurance companies to act with compassion in the face of this event," Ms Bligh told ABC Radio.

"It's not in the interests of anyone in our community, including those companies, to stall or delay recovery."

Rather, insurers should show "flexibility".

The Insurance Council of Australia has warned that insurance companies would pay out on claims according to the terms and conditions of policies.

"If people do not purchase flood cover insurance, they will not be covered," an ICA spokesman said yesterday.

It is estimated more than half of all insured homes in Queensland are not covered for flood damage.

So imagine this; You purchased a house in the last two years, you didn't insure it for flooding because you were told that the Wivanhoe dam meant Brisbane would never flood. Now you have a $300,000 mortgage on a house that it under 10 feet of water that is literally worthless in every way.

You owe $21,000 per year on a property that you can't live in and you cannot sell, but the debt on it means you can't afford to move somewhere else. The banks are giving you a 3 month reprieve.

AUSTRALIA'S big banks will freeze mortgage repayments for up to three months for home owners hit by Queensland's devastating floods.

Many lenders will also offer emergency increases to credit card limits and allow some to make early withdrawals of term deposits to get access to funds.

Those moves came as analysts predicted the floods were likely to cause a rise in bad loans because of defaults.

Which will give you 3 months to find a solicitor to declare bankruptcy.

The reason we are talking about this is because we met someone in this situation today, it was terribly heartbreaking; but we know they are not alone, there are probably thousands of people just like this.

The federal government's response to this disaster in the coming weeks and months will be very telling. We would hope that during a disaster of this kind, when thousands of Australians are suffering so horribly and so many have lost their lives, that someone within the economic elite of the government who actually understood how the Australian economy functioned had the internal resilience to explain to the PM how to use the economy to provide the best outcomes for the disaster effected.

But given the recent focus by the PM on keeping the surplus intact it seems that even in the worst of times economic ignorance and stupidity still wins through. We hope this is will not the case , but if it is then we expect the economic outcome will be just as horrible as the initial disaster.

Victorians de-mortgaging, ASIC not ready either.

2011-01-13T21:34:00.005+10:00

Just a short post today, we are a bit busy with some other work and are expecting a busy day tomorrow as there is lots of community recovery support work to do in Brisbane , and we are eager to help out where we can.

As we mentioned in an update to yesterday's post a reader sent us an e-mail about the data from the Victorian Department of sustainability and environment in regards to mortgage issuance in Victoria.

As our daily readers would be aware we have been speaking about mortgage issuance and the effects of falling new credit for some time. The Victorian data is very interesting.

You can see the lodgements and discharges track each others movements. This is expected because a buyer's loan is a vendors deposit and in the cases where the vendor still has a loan they would pay it out.
However you can see something very interesting happened very recently. For the first time in the data's history discharges have been greater than lodgements, which suggests that a proportion of people seem to be paying out loans without a corresponding property sale.

We will discuss this, and some other credit related data in a future post when we have some more time.

In a follow up to another post we made recently, in regards to new consumer protection legislation we note that it wasn't just private businesses that were not ready for it. ASIC sent this e-mail to all registered licensees today.

ASIC has received almost 6800 credit licence applications and has issued around 2900 credit licences

Thank you to all those businesses that made applications - ASIC is committed to processing these applications as soon as possible.

Almost 2900 national credit licences have now been issued to businesses engaging in consumer credit activities.

Currently, ASIC is processing a further approximately 3900 licence applications following the close of applications on 31 December 2010.

Some applicants will receive follow-up enquiries from ASIC – regarding documentation or other matters – over the next few weeks in order to complete the application process. If you have outstanding documents or other information to provide to us, please do so as soon as you can – it will speed up processing of your application.

Latest licensing data for the period 1 July 2010 to 12 January 2011:

Applications received: 6743
Licences issued: 2910

Distribution of licences by state/territory:

New South Wales: 1017
Victoria: 561
Queensland: 564
South Australia: 169
Western Australia: 539
Tasmania: 29
ACT: 24
Northern Territory: 7

Can I engage in credit activities before I’m granted a licence?

If you are a credit registered person who applied for a credit licence before 31 December 2010 licence, you can continue to engage in credit activities until we make a decision on your licence application.

If you are a credit registered person who missed the 31 December deadline, you must stop engaging in credit activities until you:

apply to ASIC for a licence, or
ensure that you are otherwise permitted to engage in credit activities (e.g. authorised as a credit representative).

If you are setting up a new consumer credit business, you must not engage in credit activities until you have been granted a credit licence or you are otherwise permitted to engage in credit activities (e.g. authorised as a credit representative).

Strict penalties may apply to persons who unlawfully engage in credit activities, including a maximum criminal penalty of $22,000 for individuals ($110,000 for corporations) or two years imprisonment, or both.

Lucky credit demand is falling, because it doesn't look like there will be any new issuers any time soon.

What was it about November ?

2011-01-12T18:15:00.016+10:00

We reported in December about the early signs that something interesting happened in November on the home finance front; something that at the time we thought would have forced Glenn Stevens to act against it.

Today we note the ABS reported that something definitely did happen.

The number of new home loans for owner-occupiers rose 2.5% in November, the most since May, despite higher interest rates.

Home loans rose by the most in six months in November while lending to buy new homes jumped, a positive for the economy and a major surprise given mortgage rates had risen sharply that month.

Data released by the Australian Bureau of Statistics today showed the number of loans to buy owner-occupied housing rose 2.5 per cent, handily beating forecasts for a 1.5 per cent fall.

The report also showed financing for new homes climbed 9.7 per cent and loans to build new homes increased 2.7 per cent.

Lending for investment housing, however, fell 2.3 per cent

As we always do,we took a look at the raw data from the ABS and did a bit of charting, the result is quite interesting.

Housing finance total and investor ($,000)

As you can see the upswing in raw terms is very large and looks to be taking the totals back toward "first home buyers grant boost" territory.

The interesting thing about this rise is that unlike previous rises the major proportion of the growth is owner occupiers and it is not confined to just one state in either dollar terms or volume.

Owner occupier finance ($,000) by state

Owner occupier finance (volume) by state

While investor levels stayed fairly static (falling 2.3% in seasonally adjusted terms), one has to wonder exactly why such large numbers of owner occupiers decided November was the month to act given the RBA's interest rate rise in that month; but act they did. (We are sure we will receive a few theories).

On the surface this data looks very bullish, and in comparison to the expected data by most economists it was. However if you chart November housing finance over a few years you can see that this data is not as good as it seems. Even with this latest data the trend from the 2007 peak is still downwards even though the population has increased significantly since that time.Due to the massive Queensland disaster that is still unfolding as we type, we are very doubtful the RBA will even care about this data. But with the ever-growing stock on the market we do have to wonder why anyone would be rushing in to purchase property in the way they did in November. Maybe due to the slight fall in values in November they all thought they were getting a bargain, but to us this just looks like a new round of greater fools.

Update: After we posted this we recieved an e-mail from a reader who sent us this page from the Victorian Department of Sustainability and Environment. It contains some very interesting data (much of which we will discuss later) and this graph which seems to completely dismiss the trend in the Victorian data provided by the ABS.

Why are these things never easy ?

Another round of confused numbers .. This time it's jobs

2011-01-12T17:22:00.003+10:00

It seems that ANZ is telling the world that jobs are surging and the economy is on fire.

Australian job advertisements rose in December for an eighth month, reinforcing expectations that the economy will keep boosting employment.

Jobs advertised in newspapers and on the Internet advanced 2 percent from November, when they increased a revised 3 percent, according to an Australia & New Zealand Banking Group Ltd. report released in Melbourne today.

Surging shipments of iron ore and coal to China are fueling a jobs boom, prompting the Reserve Bank of Australia to raise borrowing costs seven times since October 2009. Australia’s unemployment rate probably fell to 5.1 percent in December from 5.2 percent in November, a report will show on Jan. 13, according to a Bloomberg survey of 16 economists.

We are not sure we can forgive them for ignoring the massive natural disaster in Queensland that is destroying Australia's terms of trade while they are spruiking to the world about December's data. But the another issue is that others are reporting the exact opposite.

The number of jobs advertised in Australia fell 2.3 per cent in December, the biggest fall since July 2009, a survey shows, with retailing posting among the biggest drops.

The December Advantage Job Index showed jobs advertised in the retail sector recorded a fall of 12.0 per cent followed by tourism and hospitality at 10.77 per cent.

The survey said the result indicated an "unexpected softening" in the jobs market.

Out of the 16 job categories, only two categories, engineering and mining and human resources, recorded an increase in job advertisements.

This on top of the usual confusion provided by Roy Morgan and the ABS about exactly how many people don't have a job or want more work.

It is little wonder the general populace have no idea what is actually going on economically.

Thank you !

2011-01-11T21:18:00.003+10:00

Thank you to all the people who sent e-mails asking if I was ok in the flooding. My family and I are fine and am very lucky to live in an area of Brisbane that is unaffected by flooding for now.

The situation is changing quite rapidly and many people I know and/or work with are expected to be affected by damage to their properties. I hope they and their families are safe and they have made the right decision to go to a recovery centre if they should.

My office is actually next to the river, and if I am unable to get back into the city by the morning I expect my office to be underwater some time around 12pm.

I hope there is no more loss of life, but with 78 people still missing in the lockyer valley area, that does not seem likely; let us hope. But it just will not stop raining.

Thanks again for your concern.

So we can put the undersupply myth to bed then..

2011-01-11T20:32:00.003+10:00

The undersupply myth is not a new subject for this blog; but today we ask, has the day arrived when everyone else has finally woken up ?

The property market could be set for early-year price falls due to a build up of unsold properties, with new figures by property research company SQM Research showing the number of listings swelled 44% over 2010.

Managing director Louis Christopher says while a short-term monthly slowdown in the capitals can be attributed to the Christmas period, (online listings dropped 1.9% in December), overall the huge number of listings means prices are now hanging by a thread and a market downturn is imminent.

"It's still very clear to us that they are now at levels that would suggest a downturn in the housing market, although the stock levels have fallen seasonally. The overall number is up now by 44% across the nation. "

"I wouldn't like to see another interest rate rise anytime soon – it will accelerate the downturn."

The claim contradicts predictions that prices will remain stable or grow by 5-6% growth range in 2011 due to an underlying shortage of properties.

The new figures suggest that the shortage has been overblown. Residential property listings were 328,270 during December, representing an increase of 44.9% over the year.

Please see one of our most popular posts where we discuss "undersupply" in detail.

Last year according to RPData Australia built 170,000 houses while the population growth was falling very quickly. In the year to June the population grew by 377100 , which means that once again Australia overbuilt.

Again we state:

At end of every bubble there comes an admission that the "undersupply" of housing was in fact a debt driven myth that only really existed because there was an oversupply of speculators. As the market collapses these people disappear and all of a sudden there are too many dwellings on the market and not enough buyers

We can only say we warned you.

Queensland's Disaster

2011-01-11T12:18:00.009+10:00

Last week we asked readers to give there opinion of the Queensland floods and the effect on the economy. It was obvious that everyone, including us, thought this was going to be an utter disaster from an economic perspective.

However at the time we had no idea of just how tragic this event would become. In the last few days it has become far worse.

The video above shows how devasting and dangerous the situtation is now. That video was from Toowoomba , a town in the highlands behind Brisbane. That water then rolled down the hills into lower towns such as Grantham killing 4, possibly six with many more missing. It is now heading through the lockyer valley towards the capital.

Luckily for Brisbane, some previous governments had the foresight to learn from the past and built a massive piece of public infrastructure, the Wivenhoe Dam , to protect the capital from a repeat of a massive flood in 1974.

It is extrememly hard to comprehend just how much water is flowing into that Dam at the monent, it is currently holding 2,049,705 ML of water, and is at 160% capacity, but even with the flood gates open it is continues to fill at an amazing rate. Just 3 years ago that Dam sat at 15% capacity.

As parts of the capital become floodzones, not helped by a very high tide, there is now a bit of a dilemna about how to manage the water because it will just not stop raining.

At this point it is hard to estimate the overall costs. On top of the major flooding in many other parts of Queensland including Mackay, Rockhampton, Bundaberg, Gympie and Caboolture there is now a real threat to lower parts of Brisbane, and the city is being evacuated.

It is becoming an economic reality that the $5 billion price tag will be far too low; but at a time when 10 people have died and many more are missing, the economy just doesn't matter.

Another look at retail data

2011-01-10T21:08:00.013+10:00

It was reported today that retail was slightly up in November.

Retail spending has increased 0.3 per cent in November, after the Melbourne Cup day interest rate rise.

Retail trade rose in the month to a seasonally adjusted $20.328 billion, compared to an upwardly revised $20.272 billion in October, the Australian Bureau of Statistics says.

We however were a bit suspicious about how these numbers are being reported given some of the other information about the economy, so we thought we would take another look at the data coming out of the ABS.

The numbers reported above are seasonally adjusted, and in this case a month to previous month comparison. As we have said before we don't have a problem with seasonally adjusted numbers except that these figures tend to be misreported in the main stream media.

We prefer to find long term data series that allow us to determine the patterns in the data, and also to see the raw data if possible. The ABS is nice enough to supply us all of the data we need.

Once you produce your first graph with the data two things really stand out.

Firstly, Christmas really is a big deal for retail. Secondly, the data isn't adjusted for inflation. As you can see from the data the months leading up to Christmas and the Christmas period are "where the magic" happens; so we had a look at those lead-up months over the last 20 years just to see the unadjusted rate of change in the data for those months.
Obviously, you would expect to see the rate of change vary over the years depending on the rate of inflation, and probably due to other variables such as population growth. However what you will notice from both of those charts is the flattening out of the growth in the between the 2007 and 2008 figures (GFC), the effect of the stimulus and recovery in the next year, and once again the flattening in the latest year

However, until the data is adjusted for inflation it is difficult to get a sense of how well retail is actually performing year on year. Roughly; to state that retail was actually growing you would expect that the sales figure for the current year were greater than the inflation adjusted previous year. If it is not then, in inflation adjusted terms, retail has actually gone backwards even though the total sales may have increased.

With this in mind we took October, November and December for each previous year, adjusted it for that years inflation, and then charted the difference between that inflated number and what the actual sales figure were.

In this chart any time the figure drops below zero means that the increase in retail sales didn't keep up with inflation for that month YoY. Above the line means it did and was an "actual" improvement.

Now we have to clearly state this is rough, and we expect to be assaulted for it.

There are many variables that effect retail and cpi and many variables that effect those variables, and as we stated above this data also isn't adjusted for population. The raw data itself is also taken from a "sample" by the ABS. However, after understanding that this is an estimate, you can still get a sense from the chart that something went wrong in 2010.

Australia was being told by its political elite that Australia had "weathered the storm" and that the economy was "booming", yet it seems that retail was having another GFC.

We will just need to wait for December's data to see if that downward trend continued into Christmas.

RE Agent.. Gold coast to capitulate in 2011

2011-01-10T12:48:00.004+10:00

According to a "Gold Coast Real Estate Veteran" his business will be doing better in 2011, because he and his other "experienced" guild members will be able to convince everyone it is time to drop the prices.

Gold Coast real estate veteran Andrew Henderson has predicted that better times lie ahead for the city's property industry in 2011.

Mr Henderson, the principal of John Henderson Professionals Mermaid Beach, said he expected the number of sales recorded in 2011 would far outstrip 2010.

However, Mr Henderson warned property owners should not expect any significant capital gains.

"Last year was very tough for many players on the Gold Coast," Mr Henderson said.

"We saw a lot of agents leave the industry in search of greener pastures and we also saw the collapse of a number of high-profile agencies.

"We expect that in 2011 there will be a substantial increase in sales turnover as sellers become more realistic about the market value of their properties.

"I think people have been hanging on, waiting for an economic turnaround that simply has not come.

"This year, with interest rates set to rise further, those people will realise it's time to cut their losses."

So with less competition and vendors capitulating on price our veteran expects a much better year. We however aren't so sure.

If those things happened in a "normal" economic environment he would be right. But we think he is missing the point about what market capitulation means to the debt driven Australian economy.

But first let's just recap the downside for housing as we see it.

Population growth is slowing.
The long term trend for mortgage debt issuance is down.
There are currently no new drivers for new debt issuance.
The government just introduced new responsible lending legislation that seems very bearish on new lending and, as a number of knowledgeable commenters have stated, has the potential to quash all types of lending that were previously available.
As houses and holes reported this morning, the entire economy may be just about to get downgraded because of the debt to GDP ratio; and we can only assume the on-going export destroying natural disaster in Queensland is playing its part. This will mean even higher lending costs to our already massively foreign debt laden banks.

Once it becomes common knowledge that prices are correcting locally and internationally then the Australian economy is in massive trouble. So while our Gold Coast veteran seems quite smug about how good 2011 is going to be for him, he seems innocently unaware of the giant economic mess that his predictions will bring. If the market does capitulation in 2011, it is a clear sign to us that an economic disaster has just begun, and Mr Henderson's beloved Gold Coast is probably the place where it is all going to kick off... If it hasn't already.

Is the US about to stall again ?

2011-01-09T15:47:00.005+10:00

Over the last few days a number of economic stories have come out of the US that are worth mentioning and seem to suggest that the US is about to stall again.

Firstly, although the headline numbers for employment looked ok, once you got to the detail the report was not so good.

The unemployment rate dropped to 9.4 percent in December, even though employers reported hiring a disappointingly skimpy 103,000 new workers.

But the reason for the big drop from 9.8 percent in November is somewhat disconcerting. While the Labor Department's volatile survey of households showed employment surging by 297,000, the labor force shrank by some 260,000.

Even though the U.S. economy added jobs in every month in 2010, hundreds of thousands of people gave up looking for work. The number of discouraged workers climbed to 1.32 million in December, from 1.28 million the month before.

In order to be counted as unemployed, people must be actively looking for work, so the rise in the ranks of discouraged workers has the somewhat perverse effect of helping to bring down the jobless rate.

We are not particularly surprised by this, although the US government has been throwing billions of dollars at the economy, it has learned nothing. As we said in regards to this way back in June 2010.

If you are just mindlessly pumping out money but not adjusting other policies to create greater productivity, research, education and employment you are simply recreating new bubbles of demand. Once the stimulus money goes away the demand falls away, if people in-debted themselves in the meantime you have made the problem worse, not better. Have you learned nothing ??

Although there has been some short term effect of the stimulus provided by the US government in manufacturing and production we would expect this effect to wear off as soon as the stimulus is taken away because, just like Australia, it was wasted on non-productive investments that have no real return on investment. Once the stimulus effect wears off then the trends go back to the way they were unless you keep providing even more stimulus.

For the US that next step now seems to be a big political issue.

Markets are set to be on edge in coming weeks as US lawmakers thrash out the highly politically-charged issue of increasing the US debt ceiling.

Overnight, US Treasury Secretary Timothy Geithner fired off a letter to US lawmakers indicating that the US could reach its debt limit of nearly $14.3 trillion as early as March 31, and warning that failure to raise the debt limit could “precipitate a default by the United States”.

Geithner made it clear that a failure by the US government to meet its financial commitments would roil global financial markets. "Default would have prolonged and far-reaching negative consequences on the safe-haven status of Treasurys and the dollar's dominant role in the international financial system”.

It would also be disastrous for the US economy. "Even a short-term or limited default would have catastrophic economic consequences that would last for decades”, the letter said.

But the newly appointed Republican Speaker of the House John Boehner refused to be intimidated by Geithner’s dire warnings. He said that Americans would not stand for any further increases in the debt limit unless they saw decisive spending cuts.

We are doubtful that anyone would be silly enough to actually finally block the raising of the debt ceiling and see the US default on its debt. However we certainly wouldn't put it past the republicans sitting on it for a few weeks and watching the US Administration sweat as they did in 1995.

But what this does seem to show is that, although the current US administration might get a few more stimulus programs out the door, the US is about to do an 180 degree turn on macro-economic policy. Given the current state of the US economy we aren't sure the world is aware of just what that will mean.

The other big issue for the US, is something we spoke about in early October when we said.

Those thinking that this issue will be resolved quickly with a simple swipe of a pen may be very disappointed

Foreclosuregate just won't die.

The Dow's financial components led its decline, with JP Morgan Chase slipping 1.9 per cent and Bank of America falling 1.3 per cent. Weighing on the banks, the Massachusetts State Supreme Judicial Court upheld a decision that two foreclosures from US Bancorp and Wells Fargo were invalid because the banks failed to show they held the mortgages at the time of the foreclosure.

"That takes you back into the maelstrom of who is the valid holder of the mortgage, who owns the property and will this slow the rate at which the banks can process the foreclosures," said Joseph Battipaglia, chief market strategist of the private client group at Stifel Nicolaus.

We might be being a little overly critical here, but this reads to us like the US is about to stall again, and possibly quite badly.

Oversupplied with oversupply..

2011-01-08T14:25:00.004+10:00

We'll say it again for the newbies.

At end of every bubble there comes an admission that the "undersupply" of housing was in fact a debt driven myth that only really existed because there was an oversupply of speculators. As the market collapses these people disappear and all of a sudden there are too many dwellings on the market and not enough buyers.

Once again today we note that the number of listings in many of the capital cities is growing and sales are not keeping up.

''The market is turning softer,'' he said. ''We still haven't seen the full impact of the interest rate rise in November.''

SQM released data this week showing 22.6 per cent more stock for sale in Sydney last month than in the previous December. Other cities had far more property for sale that month - Brisbane had almost 60 per cent more than the previous year, Darwin 57 per cent, and Perth 55 per cent.

''Stock on market measurements reveal a market that is significantly oversupplied in listings for most capital cities,'' Mr Christopher said.

''We are deeply concerned about the situation in south-east Queensland and we now believe that Darwin is entering into a downturn.

Although we agree with Mr Chistropher's overall analysis of the market, we have to point out his reference month of December 2009. The whole of 2009 had artificial demand created by the first home buyers grant boost and its flow-on effects; using any month of that year as a reference was always going to be bearish.

You can see from the Perth and Brisbane stock on market charts that both markets have a long way to go before getting back to the heady heights of 2008. But the stock on market trend is definitely up, and has been that way since April 2010. As we stated recently

Population growth has slowed considerably, the long term trend for debt issuance for housing is down, and given we can't see any new driver for housing debt issuance we aren't sure why anyone would have expected a rise in new housing, or housing prices for that matter.

Our opinion is only strengthened by this latest data.

There seems to have been a small downtick in stock across the country in December, we suspect that this is a mix of vendors taking their houses off the market or capitulating on price before the start of the traditionally slow new year; as the article suggests.

The general manager of APM, Anthony Ishac, thinks the stronger clearance rate could be because vendors dropped their prices to sell.

The sellers would have been keen to offload their property before the Christmas period because the market doesn't come back until February, he said.

We will have to wait for the next round of data to see if that it true, and wait a little longer to see whether the market actually does 'come back' this year.

Blog Milestone : Quarter of a million hits

2011-01-08T10:08:00.004+10:00

Today marks another blog milestone. 250,000 hits. Thanks all for reading, and a big thanks to those who provide comments and content.

Credit .... Not so easy ?

2011-01-07T19:13:00.009+10:00

In what could be the most under reported legislative change in Australian history, new consumer protection legislation came into effect on January 1st 2011 which seems to suggest that the days of "easy" credit are over.

Access to credit has become more difficult with enforcement from this week of new laws that demand greater scrutiny of borrowers from credit card, mortgage and personal loan providers.

The laws are part of the National Consumer Protection Package and place a greater onus on lenders and brokers to ascertain that their customers are able to repay loans and meet lending costs.

The new laws cover may aspects of consumer protection, and responsible lending is just one of them. The governments' glossy brochure on the changes is here and has some remarkable content and iconography.. Look they have got a beautiful baby !!

Responsible lending has two core elements
if a loan is considered to be unsuitable for a consumer; and
if they do not have the capacity to repay the loan, they will not be provided with the loan

This is new ? Prior to this new legislation it was ok for Australian lenders to issue loans to people knowing they couldn't pay them back ? Really ? That could explain some of the things we have witnessed over the previous decade, but surely that wasn't enshrined in legislation.

The major parts of the latest legislation are that the lenders or lending assistants must:

provide a credit guide that discloses information about the lender, including all fees, charges, interest and commissions they will receive.
not provide, suggest, or assist with a credit contract that is unsuitable for the consumer.

Again we have to ask why this is new, have lenders been able to provide unsuitable credit contracts to people prior to January 1st 2011?

A much more detailed version of the latest changes is the explanatory memorandum and again it contains some interesting reading.

Chapter 3 - Section 3.5

The key obligation for licensees is to ensure they do not provide, suggest, or assist with a credit contract that is unsuitable for the consumer. This obligation requires licensees to reasonably inquire and verify customer’s financial circumstances to make an assessment that the credit contract will meet the consumer’s requirements and that the consumer has the capacity to repay the contract.

Section 3.8

The May 2008 final Productivity Commission’s report on the Review of Australia’s Consumer Policy Framework (the PC Report) noted an increased use of credit in Australia over the last 20 years. Increased use of credit has led to higher levels of household indebtedness which impacts on household financial capacity and ability to respond to changing circumstances such as interest rate increases, a slowdown in economic conditions or rising unemployment. Evidence suggests that these increases have come about mostly as a result of the growth in the size of home loans over the years.

Section 3.17

The Code contains a provision that imposes ‘up front’ obligations on any party to a credit transaction. These obligations set out that ‘a person must not a make a false or misleading representation in relation to a matter that is material to entry into a credit contract or a related transaction or in attempting to induce another person to enter into a credit contract or related transaction’. This places accountability on all parties to a credit transaction, borrower, credit assistant and lender alike to conduct themselves honestly and transparently.

Section 3.65
In order to appropriately meet the requirement to make an assessment about the unsuitability of a suggested contract for the consumer or of a contract application in relation to which they are providing assistance, the credit assistant must:
make reasonable inquiries about the consumer’s requirements and objectives for the credit contract;
make reasonable inquiries about the consumer’s financial situation; take reasonable steps to verify the consumer’s financial situation; and make any inquiries or take any verification steps as prescribed by the regulations.

This certainly reads like it should improve credit standards, especially if any of these things were actually allowed previous to this new legislation; and we applaud this legislation if this is the case. However, if that is true then this is pretty terrible news for lenders and the housing market because it just adds to the other lack of drivers for new debt issuance. This could however explain why it has been so under reported.

We would be interested to hear from any of the finance professionals or lenders in our audience to get their version of what this actually means.

Open forum for readers question : Flood outcomes

2011-01-07T12:44:00.007+10:00

The Queensland floods seem to be being used as an excuse for all types of things from all sides of everywhere. Some say it will be inflationary, something we mentioned here. Others think it will be the death of China. Some are reporting that this will be a huge hit to the economy.

The Queensland floods are hurting the nation's Gross Domestic Product (GDP) by wiping as much as $9 billion off export revenues.

Operations at at least 40 coal mines in central Queensland's Bowen Basin have been disrupted because of the floods, crops have been damaged and grazing lands are under water.

The state is responsible for more than half of Australia's coal exports, 45 per cent of meat and a quarter of fresh food exports.

Royal Bank of Canada (RBC) senior strategist Sue Trinh says the economic impact of the floods could be the biggest of all the natural disasters Australia has experienced.

While others are claiming that it will be a short-term pain but it doesn't really matter because all the work to clean up the mess will be a kick along for the economy.

It is little comfort for those who have lost everything but Queensland's floods could fuel economic growth in the medium term as people rebuild, construction firms advertise more jobs, households replace appliances and coal prices rise.

Then we have the PM who seems to want to make sure that any losses felt by the people of Queensland are a permanent fixture of the overall economy.

Queensland's flood crisis will hit the national economy and tough decisions will be needed to ensure the budget returns to surplus on time, the prime minister says.

and the other big question is how much the insurance companies will attempt to weasel out of paying people who have lost their livelihoods.

With coal prices temporarily shooting for the moon the suppliers outside of Queensland will be very happy, but for Australia's economy this could be a total disaster because mining exports are the one thing that our beloved treasurer has been counting on to keep the economy alive, while we over indulge in unproductive investments at the expense of productivity.

Today a reader Ian sent us an e-mail that outlines this confusion

Hi ED,
Love your blog. I read it everyday.
I was just wondering if you could help me understand the overall effect of the Queensland floods on the economy. I have a few mates that have mining stocks and they are all claiming this is excellent news because coal prices , our biggest commodity export, are rising sharply. However I am not so sure.

It doesn't matter what coal prices are if we cannot get it to market, and as soon as we can again,then the price will fall. So this just seems like an all round loss to me.
With all that damage in Queensland and from what I have read in the news the inflation it will cause, and all that housing debt ( that you keep talking about ) , I just can't be positive about this. It actually looks like a complete disaster for Australia. Is this the black swan event that will finally do us in ?

I was just wondering what you thought, maybe you can put this in your weekend mailbag.

We can do better than that Ian. We think this is such a good question we will make it its own post and ask everyone what they think. So it is once again open to all our readers, give Ian your impression of the overall economic outcome for the floods. Is this the black swan event ? or a blessing in disguise for the economy?

Sign of the times.

2011-01-06T21:24:00.004+10:00

A humourous sign of the times that Deep T noticed while on holiday in Queensland.

Services and new housing continue fall

2011-01-06T17:09:00.003+10:00

While a major part of the "booming" bit of the economy is currently somewhere under a lake the size of France and Germany combined, the rest of our economy continues on its merry way down the drain of a different kind.

The services sector continued to underperform in December as activity in the property and business services and the finance and insurance sub-sectors fell, a survey shows.

The latest Australian Industry Group/Commonwealth Bank Australian Performance of Services Index remained relatively unchanged, rising in December only 0.2 point to 46.4.

A reading below 50 indicates contraction in activity.

Australian Industry group chief executive Heather Ridout said the Australian PSI had been in positive territory only for two months in 2010.

"This suggests that businesses are hesitating to spend in the face of fading expectations of a pick-up in sales," Mrs Ridout said.

"Conditions certainly remain tough in the services sector with the Melbourne Cup day rise in official interest rates clearly evident at cash registers during December."

Commonwealth Bank senior economist John Peters said the December reading was consistent with other economic data such as lacklustre retail sales numbers.

and as mentioned above we note that, against the "expert" predictions of the flog, housing starts also fell

Approvals fell 4.2 per cent to 13,158 units in November, seasonally adjusted, from an upwardly revised 13,728 units in October, the Australian Bureau of Statistics (ABS) said today.

In the year to November, building approvals were down 9.9 per cent, evidence the interest rate rises by the RBA had their desired impact.

On November 2 - Melbourne Cup day - the Reserve Bank of Australia (RBA) raise the cash rate to 4.75 per cent from 4.5 per cent.

JP Morgan economist Helen Kevans said she had been expecting a modest rise for November.

She had expected the housing sector to have started to recover after the first-home buyers grant was scaled back early in 2010.

Why? Which economic indicator gave Helen the idea that housing would "recover" ? Population growth has slowed considerably, the long term trend for debt issuance for housing is down, and given we can't see any new driver for housing debt issuance, we aren't sure why anyone would have expected a rise in new housing, or housing prices for that matter.

That last article was however a good opportunity for one of the Commsecs' flog to implement economics 101 - Rule 5.

Mr Sebastian said the large annual fall showed the sector was soft and the RBA would consider the latest building approvals figures, together with other indicators, when its board meets in February.

When you add that in with retail sales, the discounting that’s taking place, the contraction in the manufacturing sector yesterday and the contraction in the services sector today, it really is showing that the Australian economy has hit a soft patch and they have done enough on the rate front,’’ Mr Sebastian said.

Cars sales up but slowing. Falling AUD and debt contagion coming ?

2011-01-06T12:04:00.007+10:00

It is well known that the government supported credit driven housing market has pushed large amounts of money into the economy over the last decade. People who were lucky enough to purchase a house(s) at pre-bubble prices have seen large growth in available equity from their assets. This equity has been used to support additional leverage or spent on other items.

Today we note that

Sales of new vehicles in Australia fell 2.4 percent in December from a tax-boosted result a year earlier, though sales for the whole year topped those in 2009, industry data showed on Thursday.

For all of 2010 sales were estimated at 1,035,574 vehicles, an increase of 10.5 percent over 2009.

The Australian Federal Chamber of Automotive Industries said vehicle sales fell 2,121 in December compared with the same month last year, to stand at 86,587.

That was a solid result given sales in December 2009 had been boosted by tax breaks for small business, part of a government stimulus package in the wake of the global financial crisis.

This is very good news for the car industry and its supported businesses. However there is a small detail missing from the report, the effect of the high Australian dollar on the cost of motor vehicles; so although the volumes are up it is hard to tell if the value was in inflation adjusted terms.

The question going forward is what effect the slowing housing market will have on other industries. As the market falls the available equity and the opportunity to re-finance will diminish, and we have already seen from Christmas retail sales and the rising delinquencies that the Australian consumer is struggling with and/or is shying away from more debt. If this continues we would expect to see a flow-on effect to other industries including motor vehicles.

It is also being reported that the outlook for the Australian dollar is not good, at least in short term.

The Australian dollar dropped for a third day against its US counterpart on concern flooding in Queensland will dent the nation’s economy and as a report showed sales of new homes fell in November.

“The impact of flooding is yet to be fully understood,” said Robert Rennie, chief currency strategist in Sydney at Westpac, the nation’s second-biggest lender. “I expect coal prices to continue to move higher and the Australian dollar to continue to soften.”

A continued pull back in the dollar versus other currencies will obviously have an effect on the price of foreign sourced goods, including the most popular ( in terms of sales ) Australian cars.

AUD on the down, touches below parity

2011-01-05T22:13:00.003+10:00

On New Years Eve we asked for our readers to tell us when they thought the AUD would correct against the USD. Tonight we note the multi-day downward trend and a fall back below parity.

We will leave it to our readers to decide whether this is the "big one" or not. Has the Queensland floods and a growing international awareness of the housing bubble triggered the shorts ? Or is this just a little correction before the next leg up?

Reader asks "How desperate is St George ?"

2011-01-05T19:50:00.004+10:00

Mr A writes.

Do you think a bank should be doing this - encouraging and inflating the housing bubble?

As a "good" customer of theirs they gave me this little beauty when I logged online to check my account.

Welcome to An Investors Guide to the Nation, commissioned by St.George exclusively or you as a Gold Service customer.

This report looks at the performance of the Australian residential property market within each of the capital cities, breaking the market down into its broad regions: the inner, middle and outer rings.

Based on this analysis, RP Data provides insight about where property owners have fared best in terms of capital growth during recent years and which regions buyers should be targeting to maximise the potential of capital growth over the coming years.

The report includes a series of easy to understand tables and maps which highlight the results for each capital city on an annual basis across the past five years. The Appendix also includes detailed statistics for all suburbs within the capital cities including the median price, number of sales, distance from the city centre and growth rates for median prices.

The report is usually valued at $279, but we’re delighted to offer it to you compliments of St.George. We hope you make the most of this unique opportunity

Wow !! So on top of attempting to claim that rent paid is a deposit for a loan, now St George is "suggestive selling" property McDonalds style.

Mr A is correct to ask "Do you think a bank should be doing this?" Our answer is No, it wreaks of desperation.

We will not bother you will the details of the attached report, if you have read one you have read them all. Noone has ever seen this chart before, have they ?

Donald McGauchie's confused message.

2011-01-05T12:26:00.006+10:00

It is not the first time that a member of the RBA board has suggested that continuing government interference in the market would be destabilising. But as Donald McGauchie is stepping down shortly, we note he seems a little more freed up to speak his mind.

RBA board member Donald McGauchie says the government's spending on stimulus measures and the $35.9bn NBN is forcing the bank to raise interest rates.
Mr McGauchie, the former Telstra chairman, yesterday delivered a stinging rebuke to Labor, accusing it of putting in place fiscal policies that worked directly against the bank's efforts to rein in inflation.

He said Reserve Bank governor Glenn Stevens had "tried to explain that there are real issues around the flexibility in the economy that is being wound back". "We are subsidising industries we shouldn't be subsidising, we are spending money on fiscal stimulus and other things we shouldn't be spending money on and that means higher interest rates than we would otherwise have," Mr McGauchie told The Australian. "He hasn't said it as bluntly as I have, but that's what's happening.

We must take issue with the fact that McGauchie is taking issue with the NBN, something that could potentially add to the productive capacity of Australia, while sitting by and watching year after year while the government ploughs billions into housing speculation. Mr McGauchie may have a point that at this time in the economic cycle adding additional government funding could be inflationary, although their is still quite a lot of underutilised resources in the economy, but to single out the NBN while ignoring other far more damaging aspects of economic policy seems somewhat one sided.

He goes on to say that

There's a risk it could get worse because we're now back into a very substantial terms of trade shock, which will aid inflation. If that's being added to by fiscal policy, then monetary policy has to be tougher.

Which seems at odds with his comments on the flooding in Queensland.

The worst flooding in half a century in Australia’s northern state of Queensland may have a “significant impact” on the nation’s economy as exports are interrupted, said central bank board member Donald McGauchie.

On what can be seen at the moment, there’s very substantial damage to infrastructure, McGauchie, who is also chairman of Nufarm Ltd., Australia’s largest supplier of farm chemicals, said in a telephone interview today. “The consequences to export income could be quite substantial.”

So which is it ? Do we need to stop providing stimulus money because of inflationary pressure from exports, or has our export capacity just collapsed because of the natural disaster in Queensland? or does Donald just not like the NBN and is trying to think of an excuse to stop it?

Yet another day of confused housing numbers.

2011-01-05T07:39:00.005+10:00

RP Data has released its latest housing statistics for November and as usual it is a struggle to match the data to the words if you have some historical context available.

Drawing on more than 340,000 sales in the year-to-date, Australia’s leading measure of movements in the value of residential real estate, the patented RP Data-Rismark Hedonic Home Value Index, recorded falls in the month of November in both the capital city (-0.2 per cent) and ‘rest of state’ (-0.1 per cent) housing markets across all dwelling types. In raw terms, the declines were unsurprisingly larger (-0.6 per cent and -0.8 per cent, respectively) given the seasonal slowdown that occurs at this time of the year.

In the capital cities, Australian home values are now lower than the levels they reached in March 2010. That is, there has been no capital growth since the end of the first. Similarly, in the ‘rest of state’ markets, which account for around 40 per cent of all homes by number, dwelling values are now below their January 2010 peak.

We can only assume that is true, because if you look at the sequence of the capital city "Home value Index" median prices list on the front page it certainly doesn't tell that story.

And once again, looking at the raw data and matching it to the medians in the index over the same period is very confusing.

Darwin, the city touted as the best performing has actually had a median price index fall of $5000 over the 3 months to November, and Perth, the city that supposedly has
had a raw 3.6% fall in sales values has a median in the index that hasn't moved since
August.

Yes that is statistically possible, but given this is whole thing is a proprietary black box we can't even guess what has happened to the data to build that index. But making statements like 'In the capital cities, Australian home values are now lower than the levels they reached in March 2010' is somewhat strange given the median national capital price in the index is the highest it has been for 6 months.

Are they looking at there own index while making these statements ?

We will now need to wait until the 1st of February so we can be confused once again by the addition of the latest ABS data.

Another local buffet for the dragon ?

2011-01-04T20:32:00.003+10:00

Although it is quite obvious that China currently has a foreign coal addiction, we have reported previously that it is slowly working on ways around this. Today, although a little vague, it looks like China as taken another step.

Chinese scientists say they have developed nuclear fuel reprocessing technology that could effectively end uranium supply concerns, state media said Monday, as Beijing strives for energy security.

The technology, developed by state-run China National Nuclear Corp (CNNC) in the remote northwestern province of Gansu, enables the country to re-use irradiated nuclear fuel, China Central Television said.

"China's proven uranium sources will last only 50 to 70 years, but this now changes to 3,000 years," said the report, which provided scant details on what it described as a "breakthrough."

Other countries have already developed technology to reprocess spent fuel, which is extremely costly.

"Globally, within the nuclear fuel industry, we're one of a minority of countries that can do the nuclear fuel cycle," Sun Qin, general manager of CNNC, was quoted as saying in the report.

The development would be an important step forward in China's plans to increase the share of alternative power sources in its energy mix to reduce pollution and achieve energy security.

It has stepped up investment in nuclear power in an effort to slash carbon emissions and scale down the nation's heavy reliance on polluting coal, which accounts for 70 percent of its power needs.

China, now the world's second-largest economy after surpassing Japan in 2010, aims to get 15 percent of its power from renewable sources by 2020.

It aims to increase nuclear power capacity to 70-80 gigawatts by 2020, accounting for about five percent of the country's total installed power capacity, state press reports have said.

This isn't going to be a coal price killer anytime soon, but it does display a horrible (for Australia) irony. While Australia slowly gives away its productive capacity, partly by decreasing research and development, in the ridiculous belief that re-purchasing houses and digging holes is the road to long term prosperity, our biggest trading partner is spending resources, in research and development, to work towards de-coupling.

Anybody see the problem yet ?

Death of manufacturing and the beer economy, Qld floods and China,

2011-01-04T12:50:00.008+10:00

There is no sadder story for an Australian than the closing of a pub, but 300 at once should probably signify a national day of mourning. Yet as debt issuance contagion makes its way through the economy, the banks have no choice but to start picking off the low hanging fruit. Under performing businesses that were only viable in the "good times" are now in deep trouble, and today we note the banks are starting to bite the bullet and write them off.

Fed-up banks are preparing to seize the keys of as many as 300 pubs across NSW, with at least 50 facing immediate foreclosure in the biggest clean-out of the struggling industry since the 1991-92 recession.
Industry sources said the banks have lost patience with loss-making corporations and heavily indebted individuals who bought pubs at the height of the boom, only to see values plummet by 40 per cent.

Australian Hotels Association secretary Colin Waller said rumours sweeping the industry pointed towards banks seizing control of 300 distressed pubs - almost one in five of the state's hotels - setting the scene for the mother of all firesales.

Sources also claim a renowned pub identity, squarely in the sights of the big banks having amassed substantial debt, is hanging on to his portfolio by a thread.

"I think the banks are only starting to realise the folly of their own lending practices. They were lending to anyone and up to 90 per cent of the value to people with no experience. The value of those hotels are now 40 per cent down,'' Mr Waller said.

Social welfare groups and others won't be wiping away any tears to see poker machine infested pubs closing; but they are missing the point. The businesses will be on-sold by the banks, the licenses will still exist. The real issue here is that the unsustainable lending practices of the banks are coming back to bite them, and in the current economic environment that means everyone will pay.

As the article says.

I play golf with the bankers, they tell me it is bad, very bad. They have had enough and are ready to move. It is frightening.

If you think that this only applies to debt laden pub owners you are in for a rude shock.

On to another topic.

In a follow-up to our post about the effects of the Queensland floods on the economy we were sent a link by a reader James. This article , which was also on zero hedge, provides a very interesting and some what scary insight into the possible effects of this disaster on China and the flow-on effects to Australia.

The Chinese economy is heading toward an economic hard landing; it will
overshoot to the downside and become the economic Black Swan event of 2011-2012. Inflation, yes both types, will be the story in China in the coming months.

The steps necessary for an economic black swan landing have all happened, what is next is just the crash landing. The rains in Australia have cemented China’s economic slowdown. The rains will have longer lasting implications for both economies.
China is about to have its steel mills shut down due to a lack of available high BTU coal. This has always been the weak link in the Chinese export model. A reliance on imported raw commodities.
China is about to have its electrical grid under perform during the peak winter months as it uses Australian high-grade coal to “sweeten” local Chinese sourced low-grade low BTU coal for their power plants. While these plants will work using the local coal, they will not produce the same Megawatt load they did.
China will have to import emergency supplies of Diesel to help the local factories to continue to run on their own independently powered generators.
China will end up paying at least 100% increase in high-grade coal prices, year over year. This will have to be pushed into their cost structure, it is too large to absorb.

Please read the rest of the article to understand the full impact of Mr Barnes assessment. Whether he is correct is yet to be seen; but once again it is a reminder that Australia's over reliance on China to provide future economic prosperity is extremely dangerous.

As bloomberg reports today the love affair with one side of the economy is slowly destroying what is left of another.

Australian manufacturing contracted in December for a fourth month as higher borrowing costs curbed consumer spending and the nation’s currency surged to a record, eroding export earnings.

The performance of manufacturing index fell to 46.3 from 47.6 in November, the Australian Industry Group and PricewaterhouseCoopers said in a survey released in Canberra today. A number below 50 indicates contraction.

The nation’s factories are lagging behind the mining industry, which is expanding to meet rising Chinese demand for raw materials and pushing the job market close to a level the government views as full employment. The Australian currency rose 14 percent against the U.S. dollar last year, driving down the cost of imports and eroding exporters’ competitiveness.

The Australian economic leadership has been asleep at the wheel, drunk on Dutch disease, when they should have been insuring Australia's future prosperity while they were lucky enough to have the environment to do so. Instead they have allowed the country to leverage itself to a massive level on housing debt, slowing throw away its productive capacity and pinned the entire mess on the continuing growth of China.

Let us hope Australia is the lucky country; because we are going to need a load of it in 2011.

Buy my bonds!, no buy mine !!, no mine !!, no mine !!

2011-01-03T14:29:00.002+10:00

As our astute readers would be aware the Australian Banks have a large exposure to foriegn debt markets as they must continually rollover debt to support their enormous and ever-growing loan books. One of the major risks is therefore a repeat of the "Credit Crunch" where the debt markets freeze up, or the cost of rolling over debt becomes too high to be viable.

A problem for the banks in 2011 is that they are certainly not alone in a murky sea.

European debt markets could be hit by a second credit crisis within months as fears grow over the huge volume of new bonds that must be sold by governments and banks in 2011.

Banks alone must refinance about €400 billion ($A523 billion) of debt in the first half of the year - but add in the more than €500 billion European governments must replace over the same period, as well as further hundreds of billions of euros of mortgage-backed debt maturing and the potential exists for chaos in the credit markets.

What we are looking at here clearly has the potential to become a second credit crunch. However, this time it would be much worse than before, said Celestino Amore, the founder of IlliquidX, which specialises in trading hard-to-price debt.

Governments have been able to slow down the process, but the problems did not go away. There remain trillions of dollars of debt that must be refinanced or sold.

Mr Amore predicts a rush to sell assets, much like that which kicked off the first credit crunch in the summer of 2007. But many fund managers and other large institutional investors are looking to reduce their exposure to bonds, leading to warnings that there will not be enough demand to buy all the debt banks and governments will need to sell.

Last week the Centre for Economic and Business Research said a new euro zone crisis was its top prediction for 2011, pointing out that Spain and Italy alone must refinance more than €400 million of bonds in the spring.

Several banks are already understood to have created what one debt market banker described as "get ugly early strategies" in the hope they will be able to help their clients sell their bonds.

I think you're going to see everyone rush to sell bonds very early in January, because no one wants to take the chance of missing whatever funding window is available, the banker said

With large numbers of governments and international banks all trying to sell bonds at the same time it is seems very likely that yields will rise, and that means higher interest rates for Australian consumers.

The other thing that could push up yields is if the foreign debt market no longer has faith in Australia's economy as a low risk investment. In recent months a number of high profile international commentators have targeted Australia, along with Canada and China , as having housing bubbles on the verge of bursting. Just today Mish Shedlock had a post on his blog, that receives between 60,000 and 100,000 hits per day, about this exact topic.

When you are trying to sell your debt into a busy market this is not the advertising you are looking for.

China with foot on brake pedal, may use handbrake

2011-01-03T10:17:00.006+10:00

As we have been warning since we started this blog, Australia's over reliance on China to provide economic growth while ignoring its own productivity and developing its own economic capabilities is very dangerous. It is the expected behaviour for a country suffering Dutch disease, but that is no excuse for our economic leaders not to recognise this issue and address it.

Lately we noted that China is at a turning point and would soon need to make a decision about its how to handle its economic and social future.

It does seem however that there is a very delicate and risky game being played. Massive debt driven mal-investment on one hand and social unrest on the other

Today we note a very worrying development for Australia.

Ominously, outrage is growing in the People's Republic over rising prices, writes Malcolm Moore.

China could be hit by inflation of 7-8 per cent in the next two months, panicking Beijing's policymakers into dramatically raising interest rates, economists have warned.

The prospect of at least four further interest rate rises in the world's second-largest economy is likely to alarm global markets, which tumbled in shock at China's decision to raise rates on Christmas Day.

However, inflation has become the central concern for the Communist Party, which is struggling to contain growing outrage in the People's Republic over rising prices.

In a move to placate the public, Zhou Xiaochuan, the governor of the People's Bank of China, used his New Year message to reaffirm the shift to a ''prudent'' monetary policy from the ''moderately loose'' stance taken as the country tried to drive growth.

Yu Song, chief China economist at Goldman Sachs said: ''If you look at the sequential growth in the past two months, inflation is rising at double digits. In the very worst-case scenario, if Beijing does not take action, we could see double-digit inflation this year.''

Raising interest rates to the level required to quash inflation may kill off China's speculative property market. This will cause a sudden rise in bad debts for the Chinese Banks and see the savings of millions ,that were directed into housing, disappear; however not raising rates to this level will not solve the social problems caused by high inflation.

If interest rates do need to rise to a level that strangles the property market then the demand for Australian resources will fall, and the terms of trade will collapse.

This is still a wait and see situation, but it is becoming increasingly obvious that China is going to continue raise rates to attempt to slow its economy.

Prosperous New Year ?

2011-01-02T20:37:00.007+10:00

As we have stated earlier in reference to falling levels of debt issuance and its effect on the economy.

When the music stops the asset values stop appreciating but the debt still exists. All of sudden people start to realise that they might actually have to "pay" the debt back and that it isn't going to be appreciated away. Suddenly everything seems expensive and no one with asset based debt wants to spend.

Although prices for many services have been increasing at high rates for a number of years not many people have been complaining. But now the debt issuance contagion is slowing the economy and the reality of the correcting housing market is starting to hit home, all of a sudden out come the tales of woe.

Australia is heading for an economic crunch as family finances collapse under the burden of record debts, rising interest rates and utility bills.

With banks warning they will be forced to raise mortgage rates by 0.50 per cent in 2011 and Sydney rents forecast to rise by between $160 and $190 a month, according to analysts Residex, householders look set to suffer.

Repossessions and tenant evictions are expected to rise sharply. "It's going to be tough" said Shane Oliver, chief economist at AMP Capital.

All of this while the Real Estate Institute of Australia reported in December that

Housing affordability has reached a new low in Australia which is of great concern, said REIA President, Mr David Airey.
The proportion of income required to meet loan repayments increased 5.8 percentage points to 34.8% over the year

On top of this record debt and repayments, we note that the costs of living are also expected to rise sharply.

Families face cost-of-living increases that could drain the weekly budget by up to $100 this year.

New data shows Australians are being levelled with record expenses for basic services and Sydney residents are some of the hardest hit in the country.

After floods that have wiped out crops in Queensland and NSW, fruit and vegetable prices are predicted to rise by up to 50 per cent.

Any hope the strong Australian dollar would shield motorists from increases in fuel prices have been dashed - global oil prices are tipped to hit record highs.

This year's price increases will compound the cost pressures already inflicted on households.

The worrying thing about that collection of items for the indebted is that they are some of the components that lowered the latest CPI figures.

OVERVIEW OF CPI MOVEMENTS
The most significant price rises this quarter were for tobacco (+7.0%), water and sewerage (+12.8%), electricity (+6.0%), property rates and charges (+6.2%) and rents (+1.1%).
The most significant offsetting price falls were for automotive fuel (-3.7%), vegetables (-5.4%), pharmaceuticals (-3.9%), audio, visual and computing equipment (-2.7%) and soft drinks, waters and juices (-1.8%).

With fuel and food now adding to CPI it would take off-setting falls in utility prices to bring CPI back into a range that would keep the RBA from being worried about the need to raise rates. This however is not forecast to occur.

Utilities prices have been one of the fastest growing sub-groups of the consumer price index (CPI) in recent years, and further large increases are anticipated over the next few years.

It will be very interesting to see how the RBA interprets the latest figures, but we aren't to sure it is going to be a prosperous new year at all.

Reader Question about ANZ

2011-01-02T13:27:00.004+10:00

In a recent post we made reference to an ANZ bond buy-back and said.

In other banking news we also note that ANZ's risk management department has been overruled by the profit department.

A reader Ian sent us an e-mail to query what this meant.

Would it be possible to further discuss the implications of the ANZ foreign debt buyback?

How does the profit centre overrule the risk centre?

I can't quite get my head around if it's a good thing or a bad thing, or just a thing.

It is a good question, but to answer it we need a little bit of background. As our readers would be aware Australian banks have large foreign liabilities mostly due to funding requirements for the housing market.

Prior to the GFC a good proportion of this funding was short term. Short term funding requires constant roll-over, because as it becomes due you must find a new source of funding to replace it. It was however popular because it is cheaper than longer term funding.

When the GFC hit, the banks were not able to roll-over their short term funding because all banks, even the Australian AA rated ones, were seen as too risky. The government therefore lent its AAA rating to the banks at a price. If the government had not done this then the Australian banks would have collapsed.

To lend the banks the AAA rating the government set up a wholesale funding guarantee. In the governments' own words this was.

Designed to promote financial system stability in Australia, by supporting confidence and assisting eligible authorised deposit-taking institutions (ADIs) to continue to access funding at a time of considerable turbulence. They were also designed to ensure that Australian institutions were not placed at a disadvantage compared to their international competitors that could access similar government guarantees on bank debt.

Since the GFC Australia banks have moved away from short term funding towards longer term funding, and all wholesale liabilities issued by banks up until 31 March 2010 are covered 100% by the Australian government for the up to 5 years.

You can see from the list of guaranteed liabilities that many of them do not expire until late 2014. Citi-group actually used the facility 1 week before it expired on the 23/03/2010 to secure $10 billion worth of 5 year notes. The Australian tax payer is on the hook for that $10 billion until 23/03/2015.

To use the facility AA rated banks pay a fee equivalent to 0.7 per cent on the total amount. The lower-rated banks are charged more.

Now back to ANZ . The ANZ just offered to re-purchase $1.9 billion of notes a year earlier than planned. This would allow investors who purchased notes with a 3 year expiry to cash in early. It would also allow the ANZ to roll-over this debt at a cheaper rate because they are now able to find investors willing to buy new notes without the government guarantee.

These new notes would obviously have no government backing, which is why we made the statement about risk versus profit. However there is another side to this. It is quite possible that the ANZ has decided that they think the government would bail them out in a crisis anyway, so what is the point of continuing to pay for a guarantee you think you are going to get free.

The other statement we made in regards to this maneuver was.

With a falling residential property market and non-resident liabilities for all banks rising at $10 billion per month, let's hope that this isn't just a deck chair shuffle on the titanic.

The reason we said this is because back in November 2010 Deep T made us all aware of the "tricks" banks have been performing with their loan books. The crux of that trick is that

An ADI must revalue any property offered as security for such loans when it becomes aware of a material change in the market value of property in an area or region

This "trick" allows banks to decrease their capital requirements and re-use the money to issue new loans as the market rises. But in a falling market it will require banks to suddenly find more capital. A quick way to do this would be to call-in a long term liability early and re-issue it at a lower rate.

So is it good, bad or just a thing? Well it definitely is not just a thing. But it is too early to tell whether is bad or good.

Is this legal? and if so, why?

2011-01-01T23:51:00.006+10:00

Firstly, we are not legal experts. So this is a question not an accusation. But we read an article today in the Herald Sun that set off alarm bells. The paragraph in question is this one.

With Melbourne's property market cooling in the wake of interest rate rises late last year, most real estate experts agree there hasn't been a better time in years to enter the market.

Real Estate Institute of Victoria spokesman Robert Larocca said first home-buyers should be positioning themselves to buy.

"The resolution should be get your finances in order and start the hunt as soon as your finances allow you to," Mr Larocca said.

"The last year or two have shown that waiting for prices to decrease is not a sound strategy."

We will deal with the logic later; but that sounds distinctly like financial advice to us. Yet according to ASIC.

Generally, the only people permitted by law to give you personal financial advice are those who work for, or represent, a financial advisory business that holds an Australian financial services (AFS) licence.

So is this legal ? Are houses not covered by ASIC ? and if not, why not? How is giving this sort of advice, without a disclaimer to seek independent financial advice, any different from providing unqualified advice about any other financial product ?

Now to the logic.

there hasn't been a better time in years to enter the market

Really !!, Never ? Robert can't find anywhere on this graph of Melbourne's recent real estate history where there was a better time to buy?

We can see plenty. Here's one; how about just before the introduction of the first home buyers grant boost?

Which leads nicely to the next sentence.

The last year or two have shown that waiting for prices to decrease is not a sound strategy.

No it hasn't. The last year or two has simply shown that the government was capable of bringing forward demand for housing by providing an environment for easy credit and using monetary incentives to entice young people into the market. This had the effect of producing unsustainable high demand for housing which has now dissipated, meaning that credit issuance is falling back into the downward trend that began after the GFC hit Australia in 2007.

Someone providing financial advice to purchase housing based on the "stimulus" environment being sustainable seems unqualified for the task. They may therefore not be presenting a balanced view of the facts so that people can make the best financial decision for themselves. That is the point of an independent financial advisor.

With interest rates predicted to rise, even by the banks themselves, this could be a financial disaster for some people. It is even in the article!!!

Loan Market chief operating officer Dean Rushton predicted the Reserve Bank's cash rate would rise from the current 4.75 to as much as 6 per cent by the end of the year.

We will wait and see if we have any legal types in our readership to provide us with some clarity around this issue.

Queenslands' Disaster

2011-01-01T20:42:00.005+10:00

Queenslands' flood disaster, possibly the worst in decades, is going to be an economic one as well.

Treasurer Andrew Fraser described the disaster as being "of biblical proportions" following a tour of flood-stricken Bundaberg.

He has been forced to delay delivering the mid-year Fiscal and Economic review to factor in enormous costs from the floods.

Mr Fraser has warned of a double whammy to the budget, with the bottom line taking hits from huge clean-up, recovery and assistance costs and reduced royalties as the mining industry recovers.

....

Treasurer Andrew Fraser yesterday warned the state's economic recovery would "undoubtedly" be set back because it was facing the double whammy of community assistance and repair bills - expected to be in excess of $1 billion - while the state's largest industries also had been significantly affected, impacting on royalties and income flowing to the budget.

The Queensland Resources Council has estimated coal and gas companies face hundreds of millions of dollars in lost production because several of the state's largest mining companies have suspended operations as essential ports and rail lines were shut down due to the floods.

The agricultural sector is facing a similar crisis with countless crops destroyed, while the damage to the tourism industry could take months to repair.

"The cost to the state will be huge - both in direct costs such as rebuilding roads and other damaged infrastructure and providing relief payments to families - but also in lost income, while the mining, agriculture and tourism sectors recover," Mr Fraser said

And it isn't just the up-front losses, it is the flow-on effects to all the other businesses and companies who count on the effected businesses. In good economic times we would not be so worried about this, the governments would provide emergency funding, the insurance companies would support claims and businesses would take some losses but a recovery would occur.

However this isn't good economic times, especially for Queensland. It is becoming clear to us that Australia is entering a period of debt issuance deflation and even before this disaster it was becoming evident that Queensland was already in trouble.

We note today that already Suncorp has been forced to defend itself.

Insurer Suncorp moved to reassure investors that it itself is insured after saying it has received 1,500 claims from Queensland since Christmas Eve.

Yes, but they have only got insurance to support claims. They don't have it to support the failing economy, and this disaster is only going to make the existing problems much worse.

In other banking news we also note that ANZ's risk management department has been overruled by the profit department.

ANZ has become the first of the big banks to buy back a tranche of foreign debt raised under the federal government's triple-A credit rating before the bonds were due to mature.

In a move that reflects the improving health of international credit markets, the country's third-largest bank has opened a fortnight-long window for investors to cash in $1.9 billion of notes a year earlier than planned.

With a falling residential property market and non-resident liabilities for all banks rising at $10 billion per month, let's hope that this isn't just a deck chair shuffle on the titanic.

Economics 101 in action

2011-01-01T00:51:00.003+10:00

Back in May 2010 just after we started blogging we made a little humourous post about the rules to follow if you want to be a successful economic spruiker. Rule 4 and 5 were.

Rule 4: Even in the face of complete failure claim the higher ground by misquoting some theory and demanding that reality fits your broken model.

Rule 5: Update your forecasts hourly, so when you are eventually proved wrong you are only a little bit out on your last prediction.

Keep those rules in mind while you read this great work from Chris Joye and Craig James.

Still can't see the airport

2011-01-01T00:30:00.003+10:00

As we have said previously in response to the "soft landing" rhetoric for Australian Property.

Some may say this is a "soft landing", we say it has only just begun , the landing gear is still up and we can't even see the runway yet.

And yet again today, we are completely unsurprised that housing took another dive in November. In fact this time the news was so bad that RPData hasn't even updated their front page and their media release talks about a 3 month period instead of just November.

In the three months to November, price movements were mixed across capital cities, with gains in Darwin (up 1.9 per cent), Melbourne (up 1.2 per cent), Canberra (also up 1.2 per cent) and Sydney (up 0.3 per cent).

However, prices dropped sharply in Perth (down three per cent), with Hobart (down 1.1 per cent), Brisbane (down one per cent) and Adelaide (down 0.5 per cent) posting smaller losses.

And now for the "soften" and the spruik.

"In this event, our central case is that there will be little-to-no nominal dwelling price growth over 2011, with a chance of small nominal declines," Mr Joye said.

...

"We believe that the likelihood of substantial national house price falls is remote."

The article or Mr Joye neglect to mention why he thinks that the likelihood of a substantial house price fall is unlikely.

The issue for him, and other spruikers, is that it is very easy to tell what is happening in each market from RPDatas' own charts.

As we warned and provided analysis for back in June.

Any prolonged period of falling sales volumes clearly leads to falls in capital gains. If it goes on for an extended period then it becomes capital losses.

If you look at the sales volume component of the Perth chart you can see why it is at the head of the pack in the sinking market.

And why Brisbane is closely behind it.

And why a market like Melbourne, although slowing hasn't fallen in price yet.

But it is simply a matter of time.

The charts are for capital cities, but in some regional areas of the country the problems are much worse.

The price of units in the Far North has hit rock bottom, Cairns real estate experts say. Reduced demand for investment properties has driven unit prices down as far as $55,000, for the first time in nearly nine years.

Yes buyers can now buy units in Cairns for 2001 prices! Gold Coast beachfront values have plunged by as much as 50 per cent since the peak of the boom in 2008.
This is evidence that some parts of the Australian market is indeed ‘busting‘. This is against a backdrop of anticipated rising interest rates in 2011. Hold on to your hats the boom is over and the bust is here.
A majority of the liveable units are located inside hotels, resorts and motels, and are being snatched up by interstate investors. While some of the units may lack kitchen sinks, they do offer sea-breezes and communal swimming pools.

Real Estate Industry of Queensland Far North zone chairman Rick Szelpuk believed units in Cairns had not sold for less than $70,000 since 2001.

“It’s the lowest I’ve seen in a while,” Mr Szelpuk said.

“All we can say is we hope they don’t get any lower, but they will go up eventually. I’d like to think 2011 will be a lot more fruitful than the last two years.”

REIQ figures show the median housing price in Cairns has sunk by 14.5 per cent in the last quarter, down to $245,750.

So much for that "soft landing" in North Queensland. The issue for the market itself and the broader economy, as we have been discussing lately, is that there is simply no new driver to re-inflate mortgage issuance. As we have stated previously.

Aggregate demand for credit for a speculative asset is determined by a number of things:
Aggregate wages.
Economic policy.
Credit availability.
Price.
Public confidence in the economy.
Perceived future capital growth.

We already know that confidence in the economy is falling and as it becomes common knowledge that dwelling prices are falling this has an overall effect on the demand for credit. As we have also shown recently population growth is slowing and the number of foreign students is falling. This is all factored into perceived capital growth, even though in reality population growth has little to do with the current market.

The other issue is that our banks are unwilling to; or simply cannot avoid raising rates because they have fed the bubble with massive amounts of foreign sourced debt. Even with a huge push for local deposits (which has now stalled in growth - see chart below ) , the massive size of the Australian mortgage market means that the Australian banks have $517 billion dollars in non-resident liabilities as at October 2010.

This figure grew by $10 billion dollars from September to October and grew by $47 billion dollars in the year to October. As the market begins to drop the cost of rolling over that massive debt will increase as foreign investors ask for higher rates to offset the risk. The banks will also be competing with a growing number of foreign governments in the bond markets. This is a well known problem, and even the banks have admitted that they will be forced to put up rates next year.

Mr Norris told the Senate inquiry there was "no doubt" interest rates would rise by 75 to 100 basis points in 2011.

Coupled with the bank funding issue is the existing level of private debt. Spruikers like to ignore this by talking about "disposable incomes". As we note from the original article.

Rismark has recorded an improvement in Australia’s dwelling price-to-disposable household income ratio, which has fallen from a peak of 4.7 times to 4.4 times in the third quarter of 2010.

The question is whether Rismark's version of "disposable household income" is money that is usable by households to actually pay their debts or whether it has components that are derived from the value of assets.

In our opinion a far better measure of the affordability of the current market is delinquency rates. It is quite obvious from the latest fitch report that people are far worse off now than at any time in the last few years as we noted here.

So there is the market issues in a nutshell. Spruikers will continue to spruik, but the facts are that there is a large number of downside drivers for the housing market and absolutely no driver for increased mortgage issuance. Without it the market will continue to fall, and likely accelerate downwards until the government intervenes with some new stimulus policy or the price falls somewhere close to non-speculative real value. But as Cairns shows that value is far lower than many people expect.

So as we keep on saying. There is no point talking about what type of landing the market is having. The downturn has only just begun, the wheels are still up and we can't even see the airport yet. Without some form of new government intervention the market is destined to deflate.

The real question is what the government can actually do while trying to convince everyone that the economy is strong,without the full support of the banks, that is politically palatable in the era of austerity and the recent run-up in housing values.

Happy New Year

2011-01-01T00:15:00.004+10:00

Happy New Year !!!

A year full of challenges that is hopefully prosperous for our readers. It is a new year but also the end of the month, so here is the latest stats graph for the blog.

As we expected we couldn't keep up our "to the moon" exponential readership growth, but given that December contains the Christmas period this is not a surprise. We could definitely see the numbers falling as Christmas approached.

We are fast approaching a quarter of a million page views, which is just surreal. Thanks again for reading and a special thanks to all the people who have contributed over the year.

We have some big things planned, so we hope 2011 is going to be a good one.

Question: When will the AUD correct?

2010-12-31T00:16:00.005+10:00

It has been a little while since we had a reader question, but since we just noted.

The Australian dollar's record-breaking run continued today, with the currency touching a fresh high against the greenback and the euro.

The dollar hit 101.98 US cents at 12.45pm eastern daylight time, the highest level since the currency was floated in the early 1980s.

It inched past the previous record of 101.83 US cents, set in early November, in offshore trade before making a second run late this morning to pull up just shy of 102 US cents in the early afternoon. By about 5pm, it had fallen about a third of a US cent to 101.64.

And against the European common currency, which is used in 16 European Union member states, the Aussie dollar hit a record of 77.35 US cents in after-hours trade last night, but had come back a little this morning to trade slightly below 77 euro cents by 4pm. The dollar's long-term average against the euro is 59 euro cents.

We thought we would ask our readers for their predictions of how high the AUD will go vs the USD, when it will start a correction, and why?

As usual we will place this post on the "Questions" sidebar so it is visible for a little longer than most posts, although it could become irrelevant quite quickly.

Economic pollies start the "soften".

2010-12-30T23:46:00.003+10:00

We get the feeling Admiral Swan has been tapped on the shoulder by someone, we don't know who , but his latest words sound rather bullish in comparison to his usual tirades about the strength to the economy.

In light of the near-collapse of the Irish banks and surging inflation in China, the Treasurer, Wayne Swan, has warned that the threat lingers of economic hard times reaching Australia.

''The global economy is up against some pretty strong headwinds and 2011 stands to be another challenging year,'' he told the Herald.

''The lesson of the last two years is that we're not immune from global events and international uncertainty is likely to be with us for some time yet.''

And it is almost as if the Trade Minister has been reading; with a few words about the need for long term economic frameworks, death by perceived wealth and the economic democracy.

But in contrast to the Trade Minister, Craig Emerson, who warned that the minerals boom could become ''a curse'', Mr Swan said the problems of ''mining boom mark II'' are good ones to have compared with other countries.

Dr Emerson is reported in The Australian Financial Review as saying that while the boom could be a blessing, ''badly managed, the blessing could become a curse'', discouraging economic reforms and productivity rises.

He is quoted as saying that in other countries resources booms were nearly always mismanaged.

Dr Emerson, an economic adviser to the former prime minister Bob Hawke, urged that the public be ''brought into the narrative created by Hawke and [Paul] Keating in the 1980s about the need to reform the Australian economy''.

Although Admiral Swan saves himself with his well practiced line.

While not every part of our economy is strong, our fundamentals are robust and our growth outlook remains solid, underpinned by envied job creation, record terms-of-trade, a massive pipeline of investment and a record budget turn-around.

Funnily he didn't mention massive private debt, record non-resident bank liabilities and what seems to have been a pretty rubbish Christmas season for retail.

This reads to us as the start of the "soften". A new stage where politicians are forced to slowly release bad news under the guise of "global issues" to deflect blame from their own mismanagement and delusion.

More Debt Issuance Casualties

2010-12-30T12:18:00.003+10:00

Once again we note that debt issuance contagion is moving into the broader economy and is now starting to bring down whole companies.

The private equity owners of Colorado Group have been forced to reassure a syndicate of lenders about its financial position.

The lenders have also sought from the Hong Kong private equity group, Affinity Equity Partners, its commitment to the retailer, which teeters perilously close to breaching key covenants attached to $387 million worth of loans.

Financial accounts for Colorado Group obtained by The Australian reveal that auditor PricewaterhouseCoopers harbours significant fears for the group as a "going concern".

The company operates 430 stores in Australia and New Zealand and owns adventurewear, apparel and footwear brands including Colorado, Jag, Williams, diana ferrari and Mathers.

Page 11 of the accounts for the year ended July 31 states: "The instability in the retail environment raises significant risk that the group may breach financial covenant thresholds under its financing agreements within the next 12 months."

We don't have any prior knowledge of how this particular private equity company has been running these businesses. There is a history of PE buying businesses on the cheap, sucking out the value on and on-selling the carcass. But Colorado does not seem to be one of those cases. This simply looks like a company with far too much debt with expectations that the continuation of the good times would see them through. Now that debt issuance contagion has leaked into the retail sector, and the effects of counter-balancing government stimulus has warn off, the good times are over and lack of sales is bringing down the company due to the high debt levels.

Brisbane-based Colorado posted a loss before income tax of $62.7m, dragged down by impairment charges against assets of $86.9m as a result of revised company forecasts because of the retailing downturn.

The group noted in its accounts: "The retail apparel industry in particular has experienced declining margins and market size."

We would like to think that this is the last of this type of report; but that seems very unlikely, we expect many more debt issuance contagion casualties in the coming months.

Nervously watching Queensland banks

2010-12-29T11:49:00.004+10:00

As our readers would know, Queensland is the head of the pack in the downfall of a debt driven economy. The Gold Coast and parts of Regional Queensland are already showing signs of economic contagion and issues for banks.

It is already public knowledge that Bank of Queensland it having some trouble, and that Suncorp has been securing more funds. This made us a little less worried about Suncorp in the short term, that was until today when we noted this.

Suncorp bank is advising customers it will stop letting them funnel interest from new deposit accounts into rival banks, helping the institution retain funds amid a heavily contested war for customer accounts.

In a November letter to customers, the fifth-biggest bank in Australia also said customers opening deposit accounts would no longer be able to require payments of principal or interest to be made "directly by cheque".

...

"It will not be possible to require payment to be made directly . . . into a non-Suncorp account," said the letter from banking executive general manager Kenn McCall.

Lenders are coming up with novel ways to retain cash. Bank of Queensland recently opened a new lottery account that pays low interest but offers chances to win $20,000

We don't remember novelty being a pre-requisite for running a bank. Is that novel or desperate?

Off topic: Wow, the universal translator is getting closer.

2010-12-28T23:34:00.005+10:00

Every now and then, we find something so amazing that we need to take off our contrarian finance blogger hat for a few seconds and share it.

Today we found this.

Desperately spruiking into the New Year

2010-12-28T21:13:00.011+10:00

As our Christmas guest blogger mentioned last week, the real estate machine has given up on certain areas of Australia, hoping that no one will notice if they don't talk about them and focus on the areas that are still showing growth.

Today we note that they may have also given up on the first half of 2011.

Investors and first home buyers are expected to drive up house prices by around five per cent next year, property analysts say.

While residential property prices remained relatively flat in the last quarter of 2010, a tight rental market and return to "normal'' trends in first home ownership are likely to lead to firm growth late next year, they say.

CommSec economist Savanth Sebastian said increasing rental demand and rising wages would help fuel steady growth in house prices.

....

BIS Shrapnel residential property project manager Angie Zigomanis said few first home buyers would return to the market in early 2011 and national house price growth would be capped at 5 per cent.

"I think the it'll be pretty soft next year,'' Mr Zigomanis said.

"Given the recent November rate rise, people will still be cautious.''

He predicts demand will pick up once investment in resources projects ramps up later in 2011.

"You'll see more people coming into the market," Mr Zigomanis said.

While many first home buyers had brought forward their home purchases over the past 12 months, buyer activity in that area would return to normal late in 2011, he said.

There is the "new normal" again. Absolutely no mention of falling debt issuance or rising wholesale debt issues, just more vested interest opinion presented as fact. Oh what a surprise.

But it looks like Commsec are going for gold before the end of the new year. Trying to cram in as much spruiking as they can before the clock ticks over to 2011.

PROPERTY investors should expect subdued price growth in 2011, but talk of a housing bubble bursting is overrated, analysts and economists say.

...

Chatter about a house price bubble about to burst has grown louder in recent months, but CommSec chief economist Craig James does not believe in the bubble theory.

He says, over the past five years, annual growth of home prices averaged 7.3 per cent slightly below the long-term average growth rate.

Hmmm.... Really ? How long is that term Craig ?

"There hasn't been any evidence that there has been a housing bubble and none to suggest that one is likely," James says.

"Some commentators make inaccurate and damaging comments about housing bubbles and affordability without facing consequences. While it may be an emotive story, inaccuracies can limit housing investment and prevent supply from adjusting to higher demand."

Damn the contrarians!!. How dare they provide an alternative view. How dare they suggest that it is a good idea that people educate themselves on the fundamentals of long term credit driven asset price growth. Why would people want to read a little bit about other OECD countries that were told the exact same things by their bankers ?

So there hasn't been any evidence that there has been a housing bubble and none to suggest that one is likely according to Craig.

Yes it is quite hard to find such evidence isn't it.

Non-Resident Bank Liabilities

Owner Occupier Mortgage issuance

More on Chinas' brake pedal

2010-12-27T20:50:00.002+10:00

Yesterday it was suggested in a WSJ report that there will be change in policy stance from the Chinese government in the way it handles some of its economic issues in 2011.

Today we note that it seems that this was more than just a suggestion.

China’s Premier Wen Jiabao said measures to curb the country’s property market weren’t well implemented and reiterated his goal for home prices to return to a “reasonable level” during his term that ends in 2012.

The government will also increase the supply of affordable housing and introduce more measures to curb speculation, he said on National Radio yesterday. China’s land sales are expected to top 2 trillion yuan ($302 billion) this year from 1.5 trillion yuan in 2009, the official People’s Daily reported today.

“We introduced about 15 measures this year but it appears that they were not well-implemented,” Wen said. “I believe that after some time, the home market will return to a reasonable level with our efforts.”

China’s home prices rose for an 18th month in November after measures including suspending mortgages for third-home purchases and a pledge to speed up trials of property taxes to restrain foreign capital and cool property prices. In October, the People’s Bank of China increased interest rates for the first time in three years and raised borrowing costs for a second time on Dec. 25 to control asset bubbles.

One simply has to ask how exactly the Chinese Premier is going to get housing back to a "reasonable level" without destroying the economy. Many Chinese are buying property because it is one of the only things appreciating in value at a rate that is keeping up with inflation. It is seen as a savings tool and pushing its price back to a "reasonable level" would see millions of citizens see their savings disappear.

China may be more effective in controlling home prices in 2011 after as government shifts its monetary policy and with the increase in affordable homes, Shen said.

China will start building 10 million units of government- subsidized homes next year, almost doubled this year’s target of 5.8 million units, Wen said. The government completed 3.7 million of such homes this year, he said.

Wen also said some college graduates and workers should solve their “housing problems” by renting instead of owning properties.

With stories of entire empty cities we aren't sure that what China needs is more houses; but we are not China experts.

It does seem however that there is a very delicate and risky game being played. Massive debt driven mal-investment on one hand and social unrest on the other. 2011 will be a fascinating year for China watchers and an interesting year for Australia because of it.

Debt issuance contagion rolls on

2010-12-27T15:54:00.004+10:00

Again today we see more evidence of debt issuance contagion leaking out of the property market and into the wider economy.

Firstly a warning from the Urban Development Institute of Australia on Queensland jobs.

Queensland could lose almost 40,000 construction and retail jobs by the middle of next year, an urban development body has warned.

The Urban Development Institute of Australia (UDIA) has issued dire predictions for the state's economy, as the effects of economic stimulus measures wear off.

Its Development and Construction Industry Performance Report for 2010 warns up to 26,000 construction jobs, 13,000 retail jobs, $4 billion in turnover and $490 million in government revenue could disappear in Queensland by July 2011.

Without further government stimulus measures, 12,700 fewer dwellings would be built next year, with devastating flow-on consequences, it says.

The predictions will be sobering reading for Premier Anna Bligh, who promised at the last election to create 100,000 new jobs before voters go back to the polls in 2012.

Without ever-growing new debt issuance a correction in the building industry was inevitable.

However with population growth falling and the expected downturn in overseas student enrolments you have to wonder whether Queensland actually needed those extra 12,700 dwellings.

But the contagion is starting to showing up in much more ominous places as well. Consumer confidence seems to be taking a hit.

The nation's confidence about employment and the cost of living has sunk to its lowest point since the end of 2008. Australians are the most pessimistic they have been about the outlook for their jobs and cost of living since the beginning of the global financial crisis and world recession.

Voters are facing the first half of next year with the grimmest outlook for their standard of living for the six months ahead since the end of 2008, when the world was in financial chaos.

According to a Newspoll survey of voters' prospects for their standard of living in the first half of next year, the number of people who think things will get worse in the next six months has jumped eight percentage points to 25 per cent - one in four.

And that is simply what happens in an asset debt driven economy; while more and more debt is being issued it adds to the broader economy which pushes up prices. Most people ( except the asset-less ) perceive themselves getting richer so aren't too concern about the rising cost of living. When the music stops the asset values stop appreciating but the debt still exists. All of sudden people start to realise that they might actually have to "pay" the debt back and that it isn't going to be appreciated away. Suddenly everything seems expensive and no one with asset based debt wants to spend.

Welcome to the "New" Year.

Beware the wolf in sheeps clothing

2010-12-26T15:48:00.006+10:00

Buyers' agents are supposedly entities representing a buyer in a real estate transaction. Due to this you would expect that companies and businesses that represent themselves as "buyers' agents" would be best representing their clients by talking down the property market at any opportunity.

The problem however is that most buyers agents are just practicing (or semi-retired) real estate agents who in many cases haven't been able to detach themselves from the gravy train. They are even rated and rewarded by the same body that represents all other Real Estate Agents, which seems completely backwards to us.

Today we note a local Brisbane Buyers' Agent who doesn't seem to quite understand exactly who he is representing.

As we move into 2011, I see the South east Queensland property market maintaining the status of 'patchy'. While this is the case, it is certainly a market to stay and HOLD property, rather than panic and sell. You must remember to take that longer term view, although if you are holding poor quality property it may be worth offloading. In general unless you really have to sell don't. The inner city markets in key areas appear to be strong, so my advice as always...do your research, the waters are murky! My crystal ball says that we will be in much the same position in the majority of areas in Brisbane to where we are now.

He has even thrown in a "new paradigm".

Don’t dump and run on property in this market
The Property landscape in Australia has changed over the last twelve to twenty four months, in fact it has changed forever following the past ten years. The growth the market has experienced during the past decade has been none short of generational change.

Sellers should not panic and sell and should hold their properties in hope of better prices. Please explain how this advice is going to lead to the best outcome for potential buyers.

Asking the fox to feed the chickens ? The wolf to guard the sheep ?

Once again the Real estate industry shows just how well self-regulation works.

China hits the brakes again. Foot may stay on pedal.

2010-12-26T15:21:00.003+10:00

As we continue to report and warn about Australia's reliance on China, they have touched the brakes again and this time may leave their foot there.

China has decided to raise interest rates for the second time in slightly over two months, signaling the authorities' resolve to combat rising inflation despite concerns over intensifying capital inflows triggered by ultra easy monetary conditions in the U.S. and Japan.

Beijing's latest move also suggests the world's second-largest economy may be entering a relatively formal monetary tightening cycle and that policy-makers may have been convinced that the weapons used so far, such as credit rationing and artificial price controls, have failed to cool politically-sensitive consumer price pressures.

The People's Bank of China said Saturday that effective Sunday, it will raise the one-year yuan lending rate by 0.25 percentage points to 5.81% from 5.56%, and the one-year yuan deposit rate to 2.75% from 2.50%. The move comes after the central bank hiked on Oct. 19 the benchmark lending and deposit rates also by 25 percentage points each, the first rate hike in nearly three years.

Saturday's announcement shows that the PBOC will likely hike interest rates more often next year to curb overly ample liquidity and rising inflation, said Brian Jackson, an economist at the Royal Bank of Canada.

"We expected a rate hike by the end of the year, though Christmas Day is something of a surprise--a rate hike is not normally on the wish-list for Santa Claus, but in China's case this is a prudent move," said Jackson.

"We think it is increasingly clear that using quantitative measures--such as reserve ratios--to rein in liquidity and credit has not been enough, and that adjusting the price of credit--that is, interest rates--is needed to get price pressures under control, so today's move suggests Beijing is also coming around to this view," Jackson said. He expects 75 basis points of rate hikes in 2011.

The big question for Australia is what these adjustments mean for commodities and whether these small incremental pushes on the brake pedal will eventually have an effect on demand.

It is also worth noting that the overseas investors whom fund part of Australia's massive mortgage debt are well aware of this interdependency and will also be looking on very closely.

Need more debt ! But from where ??

2010-12-26T14:23:00.003+10:00

Christmas hang over almost gone... Time to slowly get back into blogging.

One problem with our Christmas, the kids seem happy enough but it turns out we didn't spend enough.

Consumers are being begged to spend up big today and save Queensland businesses from going broke.

Queensland retailers are set to rake in about $11 million an hour in Boxing Day sales - or about $700 million this week - as consumers are wooed with savings of up to 70 per cent.

But National Retail Association executive director Gary Black fears the sales may not be enough to save some independent retailers from hitting the wall, as debt-conscious consumers remain concerned over further interest rate rises.

Mr Black urged Queenslanders to spend their money to help keep people in jobs.

"Some independent traders are under stress . . . I don't think some will survive the new year (if sales continue to be sluggish)," he said.

Debt riddled businesses begging debt ridden consumers to spend more. We are not sure that is going to work so well. As we have mentioned earlier, a debt driven economy just can't keep running at the same level without continually issuing more debt. If the government doesn't compensate for the change in debt issuance in some way then the economy starts to implode.

One of the big issues for many small retail businesses is that they are housed in large shopping centres owned by huge companies that either don't care, or are way too slow to react to changing consumer sentiment. Continually gouging small business with higher rents and other fees while the consumers decided to clamp up their wallets and look for cheaper options.

But it isn't just the consumers that are clamping up. It looks like the overseas banking investors are also getting picky , and to our surprise for once the mainstream media is willing to let the cat out of the bag.

Aussie banks, once held up as the envy of the world, are now at the mercy of foreign lenders.

Despite the Federal Government's measures to boost competition in the banking market, little has been done to address the huge reliance on overseas lenders to fund our mortgage market.

Official figures show our banks now owe overseas investors a record $352.7 billion, equivalent to 27 per cent of the country's entire economic output.

The extraordinary figure, contained in data from the Australian Bureau of Statistics, is fuelling concerns Australia's financial system is becoming over-stretched.

Homeowners could be vulnerable to rate hikes both by our banks and the foreign investors that help fund them.

Global fund managers are already getting nervous about Australia's overheating property market - a fact that could lead them to charge a higher interest rate for money they lend to our banks - or withdraw funding all together.

"If the global economy recovers strongly that could push interest rates up a lot, and that's a real risk for Australia's because rates are already high and house prices are becoming an issue," said Trevor Greetham, asset allocation director at Fidelity Investments in the UK, which has $3.4 trillion under management.

And those overseas investors live in countries that have recently seen housing collapses where the populace were told "it could never happen here" just before it did. They will not be so easily convinced that "she'll be right mate".

But these numbers, and their non-stop growth, wouldn't be much of a surprise to our readers. Deep T opened many of our eyes to this issue months ago.

Happy New Year? Maybe or Maybe not.

Merry Christmas to our Readers

2010-12-24T08:00:00.003+10:00

Merry Christmas to all our readers. It has been a very exciting year in blogging for us and we obviously wouldn't have had this experience without everyone out there in internet land reading along and providing input.

2011 promises to be an exciting year, and we hope we can continue to do our little bit to put some sanity back into economic thinking, while keeping all of our readers informed and entertained.

Merry Christmas to all of you and your families and hope you all have a great Christmas Season.

We will be taking a few days off blogging to spend some time with family and friends, so this will be our last post until some time next week. Merry Christmas.

More on Son of Wallis - Andrew Selby Smith

2010-12-24T07:29:00.003+10:00

Today we note that the article on the Son of Wallis Challenge outcomes has been published on a couple of other news sites.

Andrew Selby Smith is the another Son of Wallis Challenge entrant. Andrew did an excellent job of explaining alternatives to the current system of banking and his views fitted well with concepts we talk about on this blog, namely GPEC and CentralBankopia and the fact that we consider the economy as a whole a public asset.

Here is Andrew Selby Smith's Son of Wallis Challenge Entry in full.

1) What are the risks and benefits of large bank wholesale debt and how should each be addressed?

The risk is that the capital borrowings by the large banks to meet their prudential liquidity requirements are generally shorter term than the mortgage assets that the banks are borrowing against. This leads to bank risk as the banks do not own the capital that they are using to secure their assets - which would be a much more desirable state of affairs.

The benefit is that these borrowings provide a home for Australian capital, for which the RBA would otherwise need to sell Commonwealth Government securities - but this is a statement of fact rather than of any particular benefit - there is no reason why the RBA cannot increase
their sales of securities in order to soak up foreign capital looking for a home.

2) What, precisely, is the ongoing status of the Federal government guarantee to the large banks' wholesale debts and what are the implications for the Budget?

The effect of the guarantee is to increase the security of bank borrowings by reducing the default risk to the owners of the foreign capital. This has run-on effects of enabling the banks to continue their mortgage credit creation and of putting off any correction. The main implication to the Budget is in the case of widespread mortgage defaults, or in the case of a bank run.

If either of these happen, then the RBA will be required to spend more capital into existence, in order to make good on bad debt. This will have the effect of increasing the money supply - but the short term issue of excess supply can readily be handled by increasing bond sales in order to soak up the excess capital in the system. The long term issue is that increased capital creation, or increased volumes of securities, increases the potential claims on real Australian assets by the holders of the capital or the securities.

3) Given securitisation was at the centre of the GFC, what role should it play in renewed competition?

It should be banned outright - it is disturbing that an originating bank can pass the risk on to some other party who was not involved in the assessment of the original mortgage loan. The risk should remain with the party who benefits from the taking of that risk, and who is best
placed to assess the level of that risk - in this case the originating bank.

The banking system needs to be overhauled, according to a principle that risk remains with the party responsible for the original creation of that risk.

Competition is a red herring - the widespread discussion of competition in the banking sector appears to be based on the idea that there is a limited supply of credit available for loan. This is not correct. The amount of credit that can be loaned into existence is limited solely by the willingness of the banks to make those loans, and by the willingness of borrowers to borrow. In the absence of foreign capital, the capital required to back these loans can be paid to the banks through RBA repurchases of securities held by the banks, as part of their interest
rate control role.

This would be a natural consequence of the interest rate control mechanism targeting a specific level of capital reserves in the system. This process is only limited by the volume of securities held by the banks that can be exchanged for capital.

Based on the fact that banks can effectively loan credit into existence at no cost, and charge for this service, a convincing argument can be made that credit should be under the control of Government, rather than under the control of private corporations.

I propose that rather than guaranteeing bank funding, the Government should put an additional condition on this guarantee - that if the guarantee is called upon, the shareholders and management will be wiped out and the bank pass to Commonwealth ownership and control. This creates a strong incentive for the shareholders and owners to ensure that the bank remains solvent, even at the extent of significant haircuts to the value of their personal holdings of bank shares.

Once the bank passes to Commonwealth control, it should remain under Commonwealth control, all bank credit converted to real capital, and bank fees and charges abolished. In addition, all management should be paid public sector salaries to continue to run the bank - as an accounting exercise rather than as a risk-assessment and risk-taking exercise.

It is scandalous that we have allowed the commercial banks to take control of the credit creation process, when credit and money are properly community assets, that we require for the purchase of food, accommodation, health care, education, and the many other things that we require to live healthy and satisfying lives. Instead, credit creation has become a mechanism by which the banks have been able to turn Australian assets, such as housing, into vehicles for massive private bank profits.

4) How can competition be returned to the financial services sector, as well as balanced against the need for stability in the light of the first three questions?

Competition is a red herring, as discussed in the answer to the last question. The interests of the Australian community are NOT best served by having the credit creation process under private control. Our money and credit supply need to remain under community control, through the agent of our Commonwealth Government. Having Government control of the
banking system, and at the very least significant constrictions on credit creation, would serve to dramatically reduce risk in our banking system.

The lack of free credit creation can be easily compensated for by Federal spending of capital into existence, in order to create employment, encourage desirable activities and infrastructure creation, and to provide a sufficient money supply for the functioning of the Australian economy. Excess money supply can be guarded against by having a floating rent tax, which is levied on the productive assets of the entire Australian community - that is, our mineral resources, our fossil fuel resources and our land. A floating rent tax would have the
advantage of increasing the efficiency with which resources are used - which, particularly in the case of suburban land, would be highly desirable. A floating rent tax would also be easily adjustable to adjust the rate of withdrawal of capital from the system - an essential counterpoint to control of Government spending.

This arrangement would have the intriguing benefit of providing a range of spending and taxing rates that maintain a constant volume of capital in the economy - one with a low taxing and low spending Government, and another with a high taxing and high spending Government.

Such an arrangement has real potential to ensure an adequate money supply for all Australians, and also to enable heavy investment in the infrastructure required by an Australia beginning to face up to the realities of climate change and energy depletion. The rate of credit flow through the economy could be very effectively controlled by this mechanism - with money flow rates decreased to match reductions in available resources, since economic activity will need to reduce to match reduced resource and energy availability as they begin to decline,
while still not reducing the ability of Australian citizens to buy the essentials of daily life.

Government would also have significant discretion over where money is spent into existence - in an economy subject to a food shortage, for instance, the Government could pay credit to all Australian citizens in order to enable them to buy food, while still maintaining the taxing mechanism for capital removal - this would have the effect of directing economic activity towards food production.

The recent focus on "bank competition" are far too narrowly focused, and should be widened instead to a general community discussion in which we gain a collective understanding of how the Australian financial system operates, and in which we begin to see money as a tool that can be used to attain desirable social, environmental, technological and infrastructural objectives, rather than as a desirable thing of itself - as is the case with the current obsession with high house prices!

A Xmas present to Australia, government backed banking madness.

2010-12-24T07:11:00.005+10:00

If you knew someone who was paying a bill for a service of $350/week for 12 months and in that time had managed to save very little or nothing; would you lend them money for that same service where the repayments were $700/week, expecting to get the money back ?

NO ? We wouldn't either, but it looks like the banks seem to think it is a good idea.

But when you are trying to keep a ponzi finance system afloat and the government has been promising to backstop your funding with taxpayers money, this sort of outcome is almost inevitable.

We were going to talk about this in more detail, but then we found that the unconventional economist had already done it, and he even used some of our own words. So we suggest you just pop over to his site and read his post.

Christmas Guest Post : Homes4aussies on Spruikers

2010-12-23T14:24:00.006+10:00

Brett Edgerton is a long time campaigner for affordable housing and an advocate for social equity in housing policy. He runs a website Home4aussies and is also a long time contributor to bubblepedia.

Although the post below is about his perceptions on current real estate market strategies, he has a very broad expertise in housing policy and has recently been at the forefront of a campaign to pamphlet drive Wayne Swan's electorate to inform voters of inequitable housing policies and their effect on Australians.

We are probably understating his knowledge; so we recommend you pop over to his website and have a poke around. In the meantime, please enjoy a little guest post from the man himself.

Spruikers give up on Gold Coast and Melbourne Apartment markets

I noted a month or two back that there were signs amongst the spruiker brigade that a strategy had formed where they had drawn battle lines - defensive ones as the market retreats, i.e. around cities/regions and around different market segments.

That was clearly on show last night as I watched (quite uncommonly I must say) the property talk back show on the business channel.

One guy rang in and asked about buying an apartment as an investment in either the Gold Coast or Melbourne. The negativity came out in spades amongst all 3 talking heads, and the message was clear - what ever you do, stay away from Gold Coast and Melbourne apartments.

Consider the command bunker, or perhaps a modern day election campaign headquarters, "We've already lost the Gold Coast and Melbourne - no point sending in more resources (investor dollars) into there - better to pull back and send our scarce (and getting more scarce by the day, see below) resources somewhere where they might have some impact - that's the only chance we have of holding the line...."

So let's look at (some of the major reasons) why the spruikers are fighting a losing battle. Let's look at current investor psychology and the immediate to medium future for them.

The majority of investors now acknowledge that Australian house prices are overpriced - well, you can't ignore that one seeing as virtually everybody agrees on that (with the exception of the banks' talking heads )

In March of this year, 60% of investors responded affirmatively when asked in a survey "Do you think Australia has a property bubble"

http://www.smh.com.au/business/australias-property-bubble-its-here-20100324-qwi1.html

However, apparently at odds with this finding, according to the article "When asked if it was a good time to buy an investment property, 67 per cent agreed that it was because the supply shortage would support rental and price yields. Another 21 per cent thought prices would stagnate and only 12 per cent believed that prices would fall."

And "On the future of the boom, 32 per cent could see it running another year, 44 per cent for two or more years, and 7 per cent forever."

After reading this I mentioned online that I believed this to be part of the psychological cascade which occurs as a bubble pops - first is the acceptance of the bubble (degree of overpricing) but without full comprehension of what it means for a market to be in a bubble.

The subsequent survey 3 months later suggested a further progression in that cascade.

http://theage.domain.com.au/real-estate-news/bubbleburst-fears-rise-20100715-10bod.html?autostart=1

"For the first time this year, the number of investors expecting house prices to remain flat or fall outweighs those who see prices rising. The fundamental reason for the shift in sentiment is a dawning belief that Australian housing is in a bubble that at some point will burst and return to historic levels of affordability."

Only 25% of investors disagreed with Jeremy Grantham's assertion that our house prices are a bubble. Admittedly, almost one in three were still undecided (apparently not an option in the former survey).

That is hardly a bullish position and I think it is reasonable to assume that many would have made their mind up in the affirmative in the 6 months since that last survey. (Note I can not find any reference to subsequent surveys -> .)

More tellingly in the latter survey: "62 per cent of investors concluded that although a property price correction was clearly under way, it was most likely to resemble the kind of long-term flattening of prices seen in the Sydney housing market after the effects of the first round of the first home buyer grant abated in 2003"

So, from March to June 2010 investors' attitudes changed such that instead of 83% of respondents believing the "boom" would last at least another year, to no less than 62% believing the market is correcting but in a long term flatlining fashion.

Of course this is what many spruikers are saying, also, and so seem to have drawn another defensive line below current house prices - "OK, they're not going to rise, they will plateau for a prolonged period".

And one of the most bullish commentators seems to have developed the line that "house prices will plateau or fall slightly over the next year or two, and will move in line with incomes over the medium to long term".

Defensive is the operative word here. None of that is hardly a repeat of the last few decades, and it is certainly not the "double every 7-10 years" crapola that has been fed to investors.

My view is that the spin is all about trying to stop investors (at least the lesser informed ones) from liquidating. It is hardly a strong sales campaign - "hey guys, I've got a great deal for you, and the best thing is you won't lose money over the next few years, (grumbling below their breath) as long as you don't consider inflation or worse still opportunity cost"

So, perhaps some investors that bought the majority of their portfolio pre/early bubble might hold on in the hope that they will actually be able to crystalise some of the capital gains in the future, possibly choosing to think about the rental yield in terms of their original purchase price (in the mean time) rather than thinking about the actual opportunity cost of holding onto an asset which is unlikely to appreciate considerably for the foreseeable future.

Then again if they are long term investors, who have experienced more than one bull-bear cycle, they might be more likely to be sceptical

But think about what recent investors and potential new investors or re-investors would think. The former, highly geared, and with large debts, in an asset class that instead of doubling in value over the next 7-10 years as "the experts" said at the time is now only likely to hold it's market price, according to "the experts". Firstly that's not exactly an attractive investment.

Secondly, at the same rate of decline of opinion/sentiment by "the experts" they might soon be predicting a halving in price in the next 7-10 years. Surely they are sceptical of "the experts" after swallowing their original spin.

So "holding the line" (preventing them from selling) with recent investors is going to problematic. More importantly, the number of investors buying property is going to continue to decline while there remains limited possibility of capital growth.

What I find comical as a value oriented individual is this aversion to markets that are correcting strongly. It shows the typical spruiker strategy of getting people excited by momentum as opposed to searching for value. I don't suggest that a market that has been falling makes it a good time to buy over one that has not, but if both have been strongly overpriced, I think I would spend more time looking in the strongly falling market to see if I can find value.

Anyway, this is the other point to make, that most certainly is the attitude of retirees. Now I do not profess to know much at all about developing, and I am certain that there would be differences between apartments developed for the retiree market versus holiday apartments/rentals. But with large developments struggling in virtually all of the favoured holiday come retirement areas throughout Australia, due to the lack of investor demand, you know that there is going to be a steady stream of retirees taking advantage of the discounts to replacement value sales going on in these popular retirment areas.

Those sales will be putting pressure on the entire porperty market in those areas, and also on nearby city prices. For example, there have been major bankruptcies on both the Sunshine and Gold Coasts in south east Queensland, with one just a few days ago having problems with 80% of apartments which were sold off the plan. There are going to be a lot of Brisbane retirees saying "yippee, it's time to buy our retirement pad". This in turn is likely to have an affect on prices achieved in the middle ring suburbs of our capitals as those retirees are not dependent on bubble prices to make their retirement dreams possible, and recent younger buyers will see prices falling around them.

That is why I believe that the correction will extend to all sectors of the market, not just the investor holiday apartments or the mortgage stressed outer rings.

Son of Wallace - Koan Li's entire entry

2010-12-23T11:26:00.003+10:00

The first in the series of Son of Wallis entries. This is the full text of Koan Li's winning entry.

A long time ago, there was a farmer who broke his hoe while farming. He took his tool to the blacksmith but he did not have the one gold coin for the repair. The farmer promised the blacksmith to pay double after the harvest, but the blacksmith was a cautious man and refused the offer.

Facing total ruin, the farmer attempted to drown himself by walking into a lake. As the water reached his neck, an apparition appeared in front of him.

“I am the fairy of the lake. Why do you seek death?”

Overcoming his initial shock, the farmer told the fairy his sorry tale. The fairy considered the situation and told the farmer: “I shall give you a gold coin tomorrow, if you promise you’ll give me two gold coins after the harvest. Be warned!! If you fail to provide the coins as pomised, you will be cursed!!”

Elated at his salvation, the farmer gave up all thought of suicide and returned home.

That same night, the fairy appeared in the blacksmith’s dream. “Blacksmith”, said the fairy, “throw a gold coin into the lake tomorrow, and you’ll receive two gold coins after the harvest”.

The blacksmith woke up next morning and threw a gold coin into the lake as urged, which the fairy in turn handed to the farmer. The gold coin allowed the farmer to repair his hoe to grow his crops. At harvest time, the farmer sold his produce and returned the two gold coins to the fairy. The blacksmith was visited in another dream from the fairy to collect his two gold coins, and everyone was happy.

The fairy’s name is banking. When people don’t believe in fairies, the banking system collapses, and we have a financial crisis.

The wholesale funding guarantee offered by the Australian government was the ‘least worse’ option during the GFC. The Irish government started off a global bank run when they guaranteed the liabilities of the Irish banks. After that, only government guaranteed banks could borrow.

While giving certainty to foreign investors during a crisis is critical, the current government guarantee is a lousy way of doing it. It is crony capitalism: profit is privatized, risk is socialized. Although the risk does not show up on the balance sheet of the Government, it is there nevertheless and, as Ireland has shown, it can cripple a country.

The guarantee saved the Australian financial system, however it cemented the ‘too big to fail’ status of the Australian banks. The cost paid by the banks to the Australian government for the guarantee did not and does not address ‘moral hazard’. The banks simply pass the cost along to Australian borrowers.

We need a better deterrent mechanism.

With the global economy stablizing, it is time to ask why the Australian government guaranteed wholesale debt at 100% anyway? If the investor wants 100% security, they should be buying Australian Government bonds. We need a scheme that can impose a ‘haircut’ on the bond holders. My proposal is for the Australian government to support the bank wholesale fundings with a variable 3 month bond swap option. Let me explain how it works.

All wholesale funding of Australian financial institutions will now receive a partial government guarantee. The value of the guarantee with depend on the maturity and credit rating of the institution, and it’ll change every day. For example, a ‘AAA’ bond from one of the big 4 will be guaranteed up to 97c, but Bendigo Bank will only be 95c to the dollar.

The guarantee takes the form of a swap option with a Government bond in 3 month’s time. If the bond holder chooses to exercise the option, the interest rate for the previous 3 months will be forfeited, and the bonds will be exchanged. The bondholder can also hold onto the bond instead, costing them nothing. In effect, it’s a free insurance policy for the bondholder with an excess of 3 month bond revenue.

However, the guarantee is not costless. If the bond is swapped, the financial institution will automatically issue a preference share to the Government of the same value. If the total value of the preference share exceeds the market capitalization of the bank, it’ll become Government owned.

Loss of ownership is a powerful antidote to moral hazard.

Furthermore, a number of ‘phantom board members’, in proportion to the total amount of government guaranteed funds, will be added to the financial institution at their AGM. The phantom position will be filled by a selection of members from the Federal parliament. The spectacle of Bob Katter speaking his mind to the CBA board at the AGM should make the bank very, very reluctant to abuse the facility.

It’ll also make great television.

Beyond the ability to enforce haircuts, the swap option also allows the Australian government to signal the market by adjusting the option swap. By decreasing the guarantee amount, the market will buy less wholesale bonds, and vice versa. Ater all, the market loves complicated yield curves. Unlike CDS, the option swap is also impossible to turn into another ‘financial derivative’ because there is no revenue stream!!

After tackling the issue of wholesale funding, let’s move on to mortgage securitisation.

Securitisation worked in the US for over 70 years prior to the GFC. Originally it served an important role of spreading geographic risk due to the fractured nature of the US banking system. The system failed when the rating agencies start giving fraudulent mortgages a ‘AAA’ rating. They forgot what a mortgage is. A mortgage is a contract based on a person’s ability to pay, backed up by the house. The financial institutions got it backwards, and treated mortgages as loans on the value of the house, backed up by the mortgage holder.

Mortgages for people with no income, no assets, or job should not exist. It is fraud. To prevent a recurrence, we need much stricter criteria on which mortgages can be securitised. This can be done by requiring the mortgages to be at least 3 years old, and with 25% paid off.

As more of a mortgage is paid off, the risk of the mortgage defaulting decreases, so the interest rate should decrease as well. Currently the interest rate charges remains the same throughout the loan, which is a loophole. The proposed system uses lower interest rates as a reward for those who qualify for securitisation. This will encourage the mortgage holder to obtain a mortgage they can afford, and discourage equity loans. To further balance the risk, those with a larger market share must keep their loans longer before they can be securitised. This will prevent the banks from hogging the housing market, and they might even start lending to business again.

It will also means Australians will live in smaller houses. With our population increase, that is what we must do. The current lifestyle is unsustainable.

Now some notes on Wayne Swan’s proposal.

The elimination of exit fees discourages competition. The banks are winning market share because they can get their money cheaper. This in itself is not a bad thing, except the big 4 are pushing a housing bubble instead of lending to businesses. APRA should impose a higher capital ratio on banks who lend too much to a particular sector, but that is totally missing in the plans.

The GFC was caused by a lack of regulation, and the Australian Government want to solve the problem by LESS regulation? The ‘covered bond’ idea is stupid and dangerous. ‘A’ rated financial institutions cannot create a ‘AAA’ security except through a flawed mathematic model: the kind of model which lead to the GFC. Also, deposits are government guaranteed, so creating this ‘ultra special’ class of creditor means taxpayer ends up the loser.

Securitisation removes the risk from the financial institution. With a covered bond, the risk remains while the asset is reduced. It’s a con job.

Finally, when you lower the interest rate, the Reserve Bank simply have to raise the interest rate more to get the same effect on the economy. What is the logic of that? It is not the job of the Australian government to encourage people into buying a bigger house that they cannot afford. What Australia needs is a mining tax to slow down the mining sector, and lock up all the tax proceeds so it does not overheat the economy.

What Wayne Swan and Hockey offer is nothing but crass economic populism.

Son of Wallis Challenge Winner

2010-12-23T07:57:00.004+10:00

Our Daily readers would be aware that we were a co-sponsor and judge of the Son of Wallis Challenge, a privately run competition to promote a wide ranging government inquiry into the Australian banking system.

Today the winner is announced and we are proud to say that this competition has been an amazing experience and has proved to us, without a doubt, that even the smallest amount of economic democracy can produce amazing outcomes.

We would like to congratulate Kaon Li for her winning entry. It was quite a close competition in the end, and there were a number of very notable entries. We will endeavour to publish our top 3 or 4 over the coming week.

In the meantime here is the press release, which we are led to believe will be published by the ABC and also Business Day in the Sydney Morning Herald shortly.

Update : the news item is now live at the ABC site.

The Government’s response to the Opposition push for a debate on post-GFC banking reform has been to throw a blanket over the issue. Rather than open up discussion with a wide “Son of Wallis” inquiry leading to ‘root and branch’ reform, Wayne Swan has rushed a minimal package of regulatory changes and corralled debate in a Senate Inquiry that is circumscribed by the very parameters that brought on the GFC - competition.

In an effort to fill the void, five concerned citizens commissioned a private A Son of Wallis Challenge offering a $1000 prize for the best essay addressing the real problem in Australian banking - it’s reliance upon unstable forms of funding and the public risk that that entails. The five include the business bloggers Houses and Holes, Delusional Economics and The Unconventional Economist, as well as David Richardson, banking analyst at The Australia Institute and Deep T., a banking insider that is fed-up with his colleagues’ reliance on public support.

The results are in and they could not be more impressive. In fact, judging the prize was no easy task for the reason that so many good and innovative ideas were forthcoming.

Without further ado, the winner of the prize is Kaon Li. Following is an excerpt from the essay:

The wholesale funding guarantee offered by the Australian government was the ‘least worse’ option during the GFC. The Irish government started off a global bank run when they guaranteed the liabilities of the Irish banks. After that, only government guaranteed banks could borrow.

While giving certainty to foreign investors during a crisis is critical, the current government guarantee is a lousy way of doing it. It is crony capitalism: profit is privatized, risk is socialized. Although the risk does not show up on the balance sheet of the Government, it is there nevertheless and, as Ireland has shown, it can cripple a country.

The guarantee saved the Australian financial system, however it cemented the ‘too big to fail’ status of the Australian banks. The cost paid by the banks to the Australian government for the guarantee did not and does not address ‘moral hazard’. The banks simply pass the cost along to Australian borrowers.

We need a better deterrent mechanism.

With the global economy stablizing, it is time to ask why the Australian government guaranteed wholesale debt at 100% anyway? If the investor wants 100% security, they should be buying Australian Government bonds. We need a scheme that can impose a ‘haircut’ on the bond holders. My proposal is for the Australian government to support the bank wholesale fundings with a variable 3 month bond swap option. Let me explain how it works.

All wholesale funding of Australian financial institutions will now receive a partial government guarantee. The value of the guarantee with depend on the maturity and credit rating of the institution, and it’ll change every day. For example, a ‘AAA’ bond from one of the big 4 will be guaranteed up to 97c, but Bendigo Bank will only be 95c to the dollar.

The guarantee take the form of a swap option with a Government bond in 3 month’s time. If the bond holder chooses to exercise the option, the interest rate for the previous 3 months will be forfeited, and the bonds will be exchanged. The bondholder can also hold onto the bond instead, costing them nothing. In effect, it’s a free insurance policy for the bondholder with an excess of 3 month bond revenue.

However, the guarantee is not costless. If the bond is swapped, the financial institution will automatically issue a preference share to the Government of the same value. If the total value of the preference share exceeds the market capitalization of the bank, it’ll become Government owned.

The judging panel awarded Kaon high scores for her innovative solution to the ongoing dangers of moral hazard without bringing the banks to their knees. Her solution also offers a new long-term mechanism to control wholesale funding.

As mentioned, the competition was very close and the winning entry crossed the line ahead by a nose. Covering similar territory was Andrew Selby Smith who argued that the moral hazard of the government guarantee to wholesale funding could be mitigated by inserting a simple condition, that if it is ever called upon and the Australian government has to pay out creditors of the banks, then automatically “... the shareholders and management must be wiped out and the bank pass to Commonwealth ownership and control.”

Selby Smith also made the point that securitisation - the other from of Australian bank funding that was proven by the crisis to be very unstable - suffers the inherent danger of diffused responsibility because the “... originating bank can pass the risk on to some other party who was not involved in the assessment of the original mortgage loan. The risk should remain with the party who benefits from the taking of that risk, and who is best placed to assess the level of that risk - in this case the originating bank.”

Russell Bradshaw also addressed securitsation, basing his submission around the vital insight that nothing in the process itself offsets this agency problem because “... credit risk can’t be qualitatively transformed (as assumed within the market based competition for lending), instead it just gets absorbed or transferred.” According to Bradshaw, “... banks receive the right to profit from appropriately containing or avoiding risk, not because of their ability to convert the risk to a less hazardous state.” Therefore “... the turning over of banking functions to a seemingly competitive market has at best yielded superficial hopes of improved customer choice but, more importantly, has masked a more serious issue of the mis-selling of credit and gargantuan risk transfer to the public purse”.

In seeking to balance these problems with securitisation against the quest for an efficient financial system that benefits consumers, Sam Birmingham offered the breakthrough conceptual framework of “sustainable competition”:

In response to the Treasurer’s reform package announced over the weekend, Bank of Queensland CEO, Graham Liddy, argued that “...you can access funding today, but it’s still the cost that is the anti-competitive issue”. Similarly, in its submission to the Senate Inquiry into Competition in the Banking Sector, CUA argued that: “(O)ne of the major factors restricting competition within the Australian banking sector is the difficulty CUA and other customer-owned financial institutions have in accessing reasonably priced funding from both domestic and overseas markets.

Sadly, both BOQ and CUA fail to grasp the difference between competition and sustainable competition.

Let us consider for a moment that the levels of competition prior to the GFC were not sustainable – after all, the business models of various non-bank lenders who aggressively drove margins down over the preceding years collapsed as soon as (excessively) cheap money sources dried up.

...Relying on competition to drive down lending margins is not sustainable anyway, because once borrowers expect that the reductions will continue, they feel confident to assume a larger debt and any “savings” are quickly capitalised into higher asset prices… Then we’re back to square one.

Winding up the challenge (but by no means last) was the outstanding contribution of Rory McKeown who attacked the overall “toxic logic” that surrounds modern banking, entrenching perverse incentives. His suggestions are threefold. First, on wholesale funding and other forms of bank interconnectedness:

The banking system is highly connected via the repo and swaps markets. The fall of one institution could mean the fall of all, as the asset book of a bank becomes less determinable as it's counter-parties default. As it becomes less determinable, the reserve ratio requirements and mark to market accounting become even more problematic. The bank is essentially bankrupt. For a small bank, this is a problem for counter-parties, but for a large bank, it is a system threatening collapse.

The author proposes that banks be taxed not in proportion to their size, but in proportion to their connectedness to the market. Each trade entered into must be registered with a central institution, where the deal is valued in terms of risk and size. The total risk to the system of an institution should be composed of it's own outstanding debt, and a proportionate amount of it's nearest neighbours.

Hence as interconnectedness in terms of size and risk increase, the institutions forming this risk nexus should be taxed appropriately more.

Second, on securitisation:

The rating agency model is completely conflicted where an agency is authorized by the government to define the quality of a securitized product. As the rating individuals involved see their year end bonus defined by the quality of the ratings they give, clearly they will always be proposed to “do business”, rather than “do analysis”. As they are government sponsored, a competing independent agency is always considered a lesser value analysis. The author proposes an end to “certified ratings agencies”, and an open platform for securitisation vehicles to present the credit worthiness of their underlying mortgages. Hence independent analysis houses can access this information and provide independent reports to funds and banks who are interested in these products.

And finally on bankers themselves,

The author proposes a stringent set of examinations similar to an actuary or a barrister for any person who wishes to become an executive of a bank. They should include banking history, economic theory and financial mathematics. Qualification should come at only serious personal cost (i.e. many years of personal study), and should be stripped away immediately in the event of failure. Top bankers should by law have undergone a training regime as rigorous as top surgeons or judges. As the recent crisis has shown, their role in society is in many was more powerful than other people in serious positions of responsibility.

There can be no better final word.

Gold Coast "Keens it", Market gets very ugly, time to blame everyone else.

2010-12-23T06:56:00.005+10:00

The news from the Gold Coast, the California of Australia, just keeps getting worse. Just days after we reported on the financial collapse of a massive apartment complex at Broadbeach the Australian is back dishing out the dirt.

A family blamed in part for the collapse of a top real estate agency has issued a plea to the chain's national chairman, Brian White.

They want him to investigate an alleged price-fixing scheme that affected the values of multi-million-dollar properties on the Gold Coast.

The collapse of Ray White Broadbeach, which was placed in receivership on Tuesday with debts of up to $5 million, follows a severe market downturn as well as a relentless campaign by aggrieved investors Rod Lambert and his wife, Lisa, who have made allegations of fraud that are under investigation.

The appointment of receivers to the leading agency has rung alarm bells across the property market on the Gold Coast, where beachfront values have plunged by as much as 50 per cent since the peak of the boom in 2008.

50%, that's even beyond "Keen" Territory. When the banks were handing out credit like it was candy the times were great.

But this was completely unsustainable debt issuance, once it stopped the market began to decline. The First home buyers grant boost gave it a short term kick along, but now the party is over and it is time to pay the bill for it. Funnily enough "investors" who have lost money think it is everyone elses fault except their own.

He said Mr Lambert, a highly experienced real estate agent and developer, had become obsessed by his losses after buying a property at the top of the boom, and blamed the Ray White Group.

Mr White said of Mr Lambert's plea: "We are keen for independent investigations to reach their conclusion and we are ready to co-operate in any way we can."

Owners are sitting on multi-million-dollar losses as the property market continues to decline, if several highly unusual Mermaid Beach transactions investigated by The Weekend Australian earlier this year were to occur in greater numbers.

Mr Lambert, who has lost several million dollars, said he was waging a David and Goliath battle that would end only when Mr White acknowledged the culpability of people in one of his leading agencies. The agency's principal, Gary Gannon, and top agent, Michael Kollosche, have acknowledged that some of the transactions had unusual features, but have emphatically rejected being responsible.

Mr Lambert said yesterday: "We take no pleasure out of what is happening in the market, but we will not stop until there is acknowledgement and justice."

Justice ? Really; is that what this is about ? Not the money then ?

It is always amusing how these supposedly experienced, smart and prudent investors are never complaining while they think they are making money. It is only when the imaginery wealth disappears that it always becomes someone elses fault. We aren't saying that some of this wasn't in somepart an illegal process, but we do have to ask if Mr Lambert would have even cared if the GFC hadn't hit. If Mr Lambert had still been able to roll-over his "investment" to the next greater fool for more money would he be complaining about an illegal method of sale?

Not that this "blame everyone else when it all goes bad" behaviour is a new pattern.

More news on the "tapped out" consumer.

2010-12-22T22:40:00.006+10:00

As we said a few days ago.

... it seems to us that the Australian consumer simply can't and/or isn't willing to take any more debt. We'll say it once, we'll say it again. Sustained falls in the rate of debt issuance in a debt driven economy lead to recession. There isn't enough [real] evidence to show that the contagion has hit retail yet, but the anecdotal evidence is definitely mounting.

Tonight we note that traders associations are adding to those anecdotes.

Just a few days out from Christmas, retail sales across NSW remain sluggish with no major upward shift in spending forecast for the rest of the year.

Industry groups say the sector remains relatively flat and unexceptional, compared to previous years.

"The feedback from the retail sector is that the sort of malaise that has been effecting the sector continue to limit Christmas trading," National Retailers Association (NRA) executive director Gary Black told AAP on Wednesday.

"We are seeing what you might call traditional levels of gift shopping and Christmas shopping, but retail has evolved over the years as a sector that expects to see significant year-on-year growth (of) six or seven per cent.

Hmmm.... Some thinking people may wonder how exactly the economy was supposed to deliver 6-7% YoY retail sales growth. That would require 6-7 % YoY growth in wages and/or debt issuance wouldn't it ? That may be attainable for a number of years ( maybe even a decade ), as long as the consumers balance sheets could keep up, but certainly there is a limit. Wages aren't growing anywhere near that fast, so without compensating growth in debt we would expect to see some very large unmet expectations.

"Now it has gone through a year where it has experienced essentially no growth."

Mr Black forecast "an unexceptional Christmas" sales period, and expects the December retail trade figures - to be released by the Australian Bureau of Statistics on February 7 - to confirm there was no "significant loosening of the purse strings".

The Australian National Retail Association (ANRA) holds a similar view, having received feedback from traders that sales four days out from Christmas "were still subdued".

It was our understanding from various previous reports that this was the "make or break" Christmas for many small businesses. It looks like it is break, and the falling debt issuance contagion has now made its way to the broader economy.

Message from a boomer

2010-12-22T10:39:00.005+10:00

As noted by our previous post and responses, housing prices in Australia are a contentious issue, with many sides to every story. There is probably no other topic, outside of religion, that stirs such a strong response from Australian society at the moment. This in itself shows that we all, collectively, have a problem that we need to address.

In a response to the previous article Cameron Murray commented

... society does no always act as individuals making decisions. These baby-boomers are the parents of younger generations, who will inherit what they fail to spend in their lifetime.

Perhaps in a situation of rising asset prices the losers are those who missed out on home ownership, who now have children possibly even less likely to ever own a home.

We agree, outside of "investors" and the vested interest machine around real estate there are very few people who actually gain from high house prices. This is why we have such an issue with the direction of the on-going government intervention in the market. It seems to be solely aimed to advantage a few to the detriment of many.

We do however still believe that the young are far more displaced by these policies than the older generations. That is not to say that older generations cannot also see issues with this broken system. This morning we received a message from James a baby boomer.

I notice several younger (I presume) people commenting on the difficulty of young families changing the 'system' we baby boomers have built around over priced housing and RE in general.

I'm a baby boomer with a son frustrated by his inability to afford to buy a home, despite having a good job. I'm giving this advice to him and I would say exactly the same thing to those young families priced out of the RE market, stop worrying.
Demographics, over-indebtedness and over-supply (floor area and bedrooms per capita) will bring prices down to the level you can afford. Sit on the sidelines (rent), avoid debt, do whatever it takes to stay employed and try to build your savings. It WILL pay off for you.

Good advice James, and thank you for allowing us to share your advice with our younger readers.

The sickening state of modern real estate reporting.

2010-12-21T20:01:00.007+10:00

Yes, we know it is Christmas season, and we are supposed to be having some Christmas cheer, but the vested interest dribble passing off as news in the Australian newspapers is bringing us to the point of vomiting on ourselves.

The real story about the current property market in Australia is that young people are being denied the ability to afford even the most basic housing, and young families have been bribed into the market by the government with cheap money on the promise of unattainable short term capital gain.

While the entire system is primed by basically everyone, including the government, to keep the older people rich at the expense of the young, it should be the job of the media to expose the system for what it is.

Yet just today we note this ridiculous article in the courier mail suggesting that a couple of poor old baby boomers are suffering from a downturn in the market.

Expect houses sales to take longer as buyers drive harder bargains. The latest property outlook by RP Data researcher Tim Lawless found vendor expectations will change in the new year as market conditions sway in favour of the buyer.

"Auction clearance rates across the combined capitals are now averaging in the low to mid-50 per cent range as seller and buyer expectations diverge," he said.

"The low rate of clearance suggests that vendors will have to become more flexible in their price expectations if they want a sale."

Mr Lawless said the average time to sell a house across the capital cities increased from 38 days in October 2009 to 49 days in October 2010.

He also found vendor discounting increased from 4.7 per cent to 5.5 per cent over the year until October 2010.

Bulimba residents Sandra and Ken Hosking have felt the effects of the global financial crisis after they were offered $1.38 million for their four-bedroom home two years ago only to see the sale fall through when the GFC crunch hit.

Their property is now back on the market.

Oh the poor dears, how will they cope? Maybe the story is about poor old people who will not be able to afford to retire because they have to drop their price so much.

So what have they listed their house at? $1.15M- $1.35M.

What a tale of woe, they must be heavily indebted for this is to be a concern to the courier mail; the newspaper of the people. So what did they pay for this house ?

$172,000 in December 1993.

That is correct !! The courier mail is focusing on the position of a couple of baby boomers, who may only make 1.0 millions dollars profit on the sale of their home instead of 1.2 million.

Where exactly is the story focusing on the problem that low income citizens can't afford a house, and that young people who have been bribed into the market recently can't afford their bills.

This is a sickening reminder of just how broken the media in Australia is.

Happy Debtmas

2010-12-21T15:23:00.006+10:00

Fitch is once again reporting on mortgage stress on the run up to Christmas.

Overall, delinquencies have considerably increased across all six states in Australia.

As of September 2010, 1% of borrowers were one month or more behind on their scheduled balance. Delinquent borrowers tend to be in arrears on higher-than average outstanding loan balances and 1.54% of the total mortgage balance is not performing.

Between September 2009 and September 2010, the Reserve Bank of Australia (RBA)increased the cash rate six times, each by 25 basis points (bp). The average bank Standard Variable Rate (SVR) also increased over this period and as of September 2010 stood at 7.40%, negatively affecting delinquencies.

In terms of mortgage performance, regions that have been historically labelled as the “worst performing regions” have been impacted the most by the increasing interest rates: South Western Sydney and the Central Coast north of Sydney, the Gold Coast in Queensland and the South West region in Western Australia are still experiencing delinquency rates far above the national average.
Fairfield-Liverpool continues to be the worst performing region in Australia, with one delinquent mortgage out of 60 and a 30+ day delinquency rate of 2.81%. Nelson Bay continues to be by far the worst performing postcode overall, recording a delinquency ratio of 8.0% by dollar amount and 3.3% by number of loans in arrears.
Other suburbs, such as Budgewoi (NSW), Mandurah (WA), Casuarina (WA), Richmond (NSW) and Helensvale (QLD) continue to be among the worst performing postcodes.

And once again we see Western Australia trying to steal the gauntlet from Queensland, so much for those "BOOM" states.

For the first time in the history of this report, Western Australia is the worst performing state in terms of 30+ day arrears (1.95%). Delinquency rates in Perth and in the South West region have considerably increased since September 2009 and five of the worst twenty postcodes are currently located in Western Australia.

With the exception of the area around Inner Brisbane, all of the regions in Queensland have experienced a considerable increase in delinquency rates, although the delinquency rate for the overall state is in line with the national average.

As of September 2010, four of the worst performing postcodes were located in Queensland: Surfers Paradise is the worst performing postcode by value, with 4.3%of the mortgage balance in arrears.

What is worse for these number is that it is Christmas time. The time of year when the indebted grit their teeth and attempt to put on their best Christmas for their kids and to keep up appearances for their family.

Who wants to turn up at Christmas dressed in a Scrooge or a Grinch outfit? Showing signs that their financial position is about to explode in their face. People put on a happy face while hoping for a christmas miracle come new year.

The problems actually begin to appear in January, when the reality of the debt slaps people in the face. The Christmas costs appear and the credit card bill is received in the mail.

Anyone looking forward to a post-Christmas bounce back in retail or housing is dreaming in our opinion.