Is this the beginning of the end for yield?

This week has seen some extraordinary events and it is time to take stock. The truth is that something I have both feared and expected is on motion again. It has come with a familiar refrain that it cant happen here until it does! On this road to nowhere the Corona Virus pandemic is in fact just another brick in the wall. It concerns us now and let me express my sympathy for those affected and afflicted but the world economic system was so rigid after all the central banking intervention that something was always going to turn up.

The point is that each so-called Black Swan event has the same consequence and let me give you the main events this week so far.

 the Federal Open Market Committee decided today to lower the target range for the federal funds rate by 1/2 percentage point, to 1 to 1‑1/4 percent.

At its meeting today, the Board decided to lower the cash rate by 25 basis points to 0.50 per cent. The Board took this decision to support the economy as it responds to the global coronavirus outbreak. ( Reserve Bank of Australia)

This was followed yesterday afternoon by this.

The Bank of Canada today lowered its target for the overnight rate by 50 basis points to 1 ¼ percent. The Bank Rate is correspondingly 1 ½ percent and the deposit rate is 1 percent.

Also there have been the central banks of Malaysia and Moldova. But that is not it as we now expect cuts from the Bank of England and ECB amongst others. Actually before the next Bank of England meeting the US Federal Reserve will probably have cut again as once you are a slave to equity markets that is what you are.

But this is merely a staging post in today’s story because when this party started central banks learnt that their Ivory Tower assumptions were wrong. They assumed that other interest-rates such as mortgage-rates and bond yields would slavishly follow, but they had minds of their own. So we got QE bond buying and then credit easing to deal with that.

Then as the credit crunch developed we saw bond yields fall substantially after various wrong turns. For example the Euro area crisis saw bond yields in double-digits before we entered the “whatever it take” era begun by Mario Draghi.

What about now?

Let me now jump forwards in time Dr. Who style and bring this up to date.

Ten-year US Treasury yields—the benchmark for global financing—got a shove below 1% after the Federal Reserve made an emergency cut to its target rate yesterday. It’s the lowest rate ever, according to records going back to 1871. ( @Ray_O_Johnson  )

It was only a week ago it seemed remarkable it had gone through 1.3% and it opened the year at more like 1.9%. So we learnt that as we expected the US was not as different as so many “experts” have tried to claim as when the going got tough its central bank unveiled the playbook which has been so unsuccessful elsewhere.

Canada is in a similar position with a ten-year yield of 1.02% although there are two subplots. It has been here before in the credit crunch era and it has seen some wild swings since its official interest-rate move with the yield going as low as 0.88%. Australia is at 0.77% some one and half percent lower than a year ago.

The economic consequences

Let me illustrate for the United States via CNBC.

The average contract interest rate for 30-year fixed-rate mortgages fell to 3.57% from 3.73% last week. That drop caused a 26% surge in weekly refinance applications, the Mortgage Bankers Association said. Compared with one year ago, refinance volume was nearly 224% higher.

And the beat goes on.

Detroit-based Quicken Loans saw record-setting volume on Monday and Tuesday, as rates fell to a record low. CEO Jay Farner said the new ways of processing loans are making it easier to handle even tremendous volume spikes.

Even the numbers above are behind events as Mortgage News Daily is reporting that the 30-year fixed rate mortgage is now at 3.16% and the 15-year at 2.88%. Actually the trend is clear but it matters who you call.

Some are offering conventional 30yr fixed rates that are as high as 3.5%–even for top tier qualifications.  On the other side of the spectrum, more than a few lenders are quoting 2.875% for the same scenarios.  The average lender is somewhere in between, but that average is nonetheless an all-time low.

So here we have an immediate consequence which central bankers seem to forget in their press releases. This is that the housing market will receive yet another heroin injection. This will be true in Canada and Australia as well and in Australia’s case will add to last year’s 3 interest-rate cuts.

Economics 101 argues that lower costs for business borrowing increase investment. However when the US Federal Reserve looked at the numbers it was much less clear.  I doubt it will stop people claiming that though.

Fiscal Policy

This has just got a lot cheaper pretty much everywhere. This does not get a lot of attention because it is a slow burner as for example the UK issues a new Gilt this week which will be at a yield at least 4% lower than before, But it will be a while before the next one and so on. On the other side of the coin yields have been falling throughout the credit crunch era as a trend so governments have been able to spend more for the same situation. This is another reason why this does not get much attention as governments of whatever hue want to take the credit for this.

On this road you can see why governments are so keen on “independent” central banks in a you scratch my back and I will scratch yours sort of way.

Comment

There are various lessons to be had here. The most basic is that interest-rates and yields continue to sing along with Alicia Keys.

I keep on fallin’
In and out of love
With you
Sometimes I love ya
Sometimes you make me blue
Sometimes I feel good
At times I feel used
Lovin’ you darlin’
Makes me so confused.

We get occassional rises but the trend is down which means that there has been a change because QE only started because official interest-rates got disconnected to bond yields and mortgage rates. Now we see the link is back. But I think that is just an illusion because some QE is still happening in Japan and the Euro area and more is expected elsewhere. Remember responses to QE now take place before it happens. Other interest-rates sometimes go their own not very merry way as the rise to 40% for unsecured overdrafts in the UK shows

This is really bad news for supporters of the UK Office for Budget Responsibility and the US Congressional Budget Office as their numbers will need large revisions yet again! The mainstream media and “experts” will of course have a case of collective amnesia about this next week for the UK Budget. But the point is seemingly too subtle for them that in the dynamic world in which we now exist such steady-state analysis is in fact misleading.

I think that this is counterproductive for three main reasons.

  1. If pumping up the housing market worked we would have been saved long ago.
  2. The evidence from countries with negative interest-rates and yields is that contrary to economic theory people look to save more which depresses the economy.
  3. Similarly if we look at Germany,Sweden and Switzerland countries with negative yields often look to reduce their debt rather than spend more.

Thus we find that the magic bullet has no magic at all and instead causes pain.

The Investing Channel

 

 

 

Thailand, Singapore and Australia show we are still heading for lower interest-rates

Today has opened with something that has become rather familiar in the credit crunch era. So familiar in fact it is the 736th version of this,as the Bank of Thailand joined the party.

The Committee voted unanimously to cut the policy rate by 0.25 percentage point from 1.25 to 1.00 percent effective immediately.

Actually they gave thrown something of what in baseball is called a curve ball at the end of last week when they released this.

In December2018, the Thai economy continued to expand from the previous month. Private
consumption indicators suggested expansion in all spending categories, albeit at a slower pace due partly
to the high base effect. Manufacturing production and private investment indicators suggested continued
expansion. The number of foreign tourists continued to increase. Nonetheless, the value of merchandise
exports and public spending contracted, particularly in capital expenditure.

We find central banks regularly doing this where rate cuts come with explanations that things are going well! As an aside there may be a hint in there that the Japanese manufacturers who relocated to Thailand may be doing okay. However this morning the Bank of Thailand gave a rather different picture and emphasis.

In deliberating their policy decision, the Committee assessed that the Thai economy would
expand at a much lower rate in 2020 than the previous forecast and much further below its
potential due to the coronavirus outbreak, the delayed enactment of the Annual Budget
Expenditure Act, and the drought.

If we pick our way through this we see that the Corona Virus is having an impact.

Tourist figures were expected to grow at a
much lower rate than the previous forecast.

This adds to the ongoing drought which added to the issues in the Pacific economy we have looked at before. Indeed this bit smacks of a bit of panic.

Financial stability became more vulnerable due to the prospect of economic slowdown. In this situation, there was an urgent need to coordinate monetary and fiscal measures.

It feels that inflation will now be below target both this year and next which is interesting if we note what the target is.

The MPC and the Minister of Finance have mutually reviewed the appropriate inflation target and hence agreed to propose headline inflation within the range of 1-3 percent as the new monetary policy target.

Let me give them some credit here because they have trimmed their target as they can see we are in a lower inflation world.

These changes include (1) technological advancements, which reduce costs of production and boost supply of goods and services; (2) an expansion of e-commerce, which foster greater price competition, thereby reducing entrepreneurs’ pricing power; and (3) the aging society, which will contribute to the decline in overall demand for goods and services going forward, since the elderly, which normally receive lower income after retirement, constitute a larger share of the entire population.

Other central banks could and in my opinion should follow this lead. The only caveat I would have is to point 3 where there will be an impact from health care inflation which tends to be higher than average.

Singapore

Here they decided on different tactics and the emphasis is mine.

Singapore, 5 February 2020… In response to media queries, the Monetary Authority of Singapore (MAS) said that its monetary policy stance remains unchanged. However, there is sufficient room within the policy band to accommodate an easing of the Singapore Dollar Nominal Effective Exchange Rate (S$NEER) in line with the weakening of economic conditions as a result of the outbreak of the 2019 novel coronavirus (2019-nCoV) in China and other countries, including Singapore.

As you can see they would like a lower exchange-rate although the catch with that is someone else’s has to rise hence the use of the phrase “beggar thy neighbour” to describe such policies.

Foreign Exchange Swaps

These were features of the credit crunch era as central banks made sure they could get their equivalent of cold hard cash if they needed it. Except in contrast to official statements we see that this emergency measure seems not to have faded away. From November.

Singapore, 29 November 2019…The Monetary Authority of Singapore (MAS) today announced the renewal of the Bilateral Local Currency Swap Arrangement with the Bank of Japan (BOJ) for another three years.

 

2     The agreement was established in November 2016 to enable the two central banks to exchange local currencies with each other of up to SGD 15 billion or JPY 1.1 trillion.

So the MAS has concerns about getting hold of Yen presumably fearing a situation where the Japanese repatriate their large foreign investments.

In the same month there was a renewal of the deal with Indonesia which started conventionally.

A local currency bilateral swap agreement that allows for the exchange of local currencies between the two central banks of up to SGD 9.5 billion or IDR 100 trillion (about USD 7 billion equivalent);

But had quite a chaser?

A bilateral repo agreement of USD 3 billion that allows for repurchase transactions between the two central banks to obtain USD cash using G3 Government Bonds [1] as collateral.

Have we seen any examples of US Dollar shortages? But if we move from being tongue in cheek back to serious there is quite a definition of what I will call super prime collateral here so let me spell it out.

US Treasuries, Japanese Government Bonds and German Government Bonds.

Actually that begs loads of question but let me for now stay with today’s interest-rate theme by pointing out this is one of the reasons why so much of the German government bond market is at negative yields. The benchmark ten year is at -0.4% because foreign demand for high quality capital is added to what has been net negative supply with the ECB buying whilst Germany is running a surplus.

Australia

The Reserve Bank of Australia ( RBA ) did not act yesterday mostly due to this.

With interest rates having already been reduced to a very low level and recognising the long and variable lags in the transmission of monetary policy, the Board decided to hold the cash rate steady at this meeting.

Having cut to 0.75% last year it had made its move, or perhaps not all of it.

The Board will continue to monitor developments carefully, including in the labour market. It remains prepared to ease monetary policy further if needed to support sustainable growth in the economy, full employment and the achievement of the inflation target over time.

Comment

Perhaps the most revealing statement came from the RBA.

Due to both global and domestic factors, it is reasonable to expect that an extended period of low interest rates will be required in Australia to reach full employment and achieve the inflation target.

Let us look at the global factors.

The outlook for the global economy remains reasonable. There have been signs that the slowdown in global growth that started in 2018 is coming to an end. Global growth is expected to be a little stronger this year and next than it was last year

So not really that one but there is the domestic issue.

The central scenario is for the Australian economy to grow by around 2¾ per cent this year and 3 per cent next year, which would be a step up from the growth rates over the past two years.

So if they were the Beatles they would be singing this.

I have to admit it’s getting better (Better)
It’s getting better
Since you’ve been mine

Except that we apparently need low interest-rates for years ahead. So I think we can be pretty sure that the road ahead should they actually think things will slow down will involve even more interest-rate cuts. For all the talk of things like r* the reality is that we are still in a scenario where interest-rates are singing along with Alicia Keys.

Oh, baby
I, I, I, I’m fallin’
I, I, I, I’m fallin’
Fallin

 

 

 

 

Australia gets ready for QE but claims to reject negative interest-rates

So far the credit crunch era has been relatively kind to Australia. A major factor in this has simply been one of location as its huge natural resources have been a boon and that has been added to by its proximity to a large source of demand. Or putting it another way that is why we have at times given it the label of the South China Territories. However times are now rather different with the headlines being occupied by the subject of the various trade wars and as we have noted along the way this is particularly impacting on the Pacific region. Thus we find that the Governor of the Reserve Bank of Australia has given a speech this morning on unconventional monetary policy as they too fear that the super massive black hole that was the impact of the credit crunch may be pulling them towards an event horizon.

Why?

If we look at the state of play as claimed by Philip Lowe you may be wondering why this speech is necessary at all?

The central scenario for the Australian economy remains for economic growth to pick up from here, to reach around 3 per cent in 2021. This pick-up in growth should see a reduction in the unemployment rate and a lift in inflation. So we are expecting things to be moving in the right direction, although only gradually.

This is straight out of the central banking playbook where you discuss such moves and then imply they will not be necessary. They think it is a way of deflecting blame and speaking of deflecting blame interest-rate cuts are nothing to do with them either.

low interest rates are not a temporary phenomenon. Rather, they are likely to be with us for some time and are the result of some powerful global factors that are affecting interest rates everywhere

If interest-rates are indeed set by “powerful global factors” then we could trim central banks down to a small staff surely?

Banks

As ever it turns out to be all about “The Precious! The Precious!” for any central banker.

At the moment, though, Australia’s financial markets are operating normally and our financial institutions are able to access funding on reasonable terms. In any given currency, the Australian banks can raise funds at the same price as other similarly rated financial institutions around the world, and markets are not stressed.

You might think that plunging into unconventional economic policy might be driven by the real economy but oh no as you can see there is a different driver. In spite of the effort below to say Australia is different this means that it has learnt nothing and will make the same mistakes.

We are not in the same situation that has been faced in Europe and Japan. Our growth prospects are stronger, our banking system is in much better shape, our demographic profile is better and we have not had a period of deflation. So we are in a much stronger position.

Again this is a central banking standard as they claim “this time is different” and then apply exactly the same policies!

QE it is then

We get various denials which I will come to in a bit but the crux of the matter is below.

My fourth point is that if – and it is important to emphasise the word if – the Reserve Bank were to undertake a program of quantitative easing, we would purchase government bonds, and we would do so in the secondary market.

The explanation of why he would choose this option will certainly be popular with Australia’s politician’s.

The first is the direct price impact of buying government bonds, which lowers their yields. And the second is through market expectations or a signalling effect, with the bond purchases reinforcing the credibility of the Reserve Bank’s commitment to keep the cash rate low for an extended period.

You may note that he has contradicted himself with the second point as he has already told us that low interest-rates are “are likely to be with us for some time”.  He then points out again that he has already acted this year.

It is important to remember that the economy is benefiting from the already low level of interest rates, recent tax cuts, ongoing spending on infrastructure, the upswing in housing prices in some markets and a brighter outlook for the resources sector.

That also gets awkward because having cut interest-rates by 0.75% already this calendar year Governor Lowe is implying we could get to his QE threshold quite quickly.

Our current thinking is that QE becomes an option to be considered at a cash rate of 0.25 per cent, but not before that. At a cash rate of 0.25 per cent, the interest rate paid on surplus balances at the Reserve Bank would already be at zero given the corridor system we operate. So from that perspective, we would, at that point, be dealing with zero interest rates.

Why QE?

Well he is clearly no fan of negative interest-rates.

More broadly, though, having examined the international evidence, it is not clear that the experience with negative interest rates has been a success.

Indeed he may even have read yesterday’s post on here.

Negative interest rates also create problems for pension funds that need to fund long-term liabilities.

Or perhaps he has been a longer-term follower.

In addition, there is evidence that they can encourage households to save more and spend less, especially when people are concerned about the possibility of lower income in retirement. A move to negative interest rates can also damage confidence in the general economic outlook and make people more cautious.

Although this bit is quite a hostage to fortune and may come back to haunt Governor Lowe.

The second observation is that negative interest rates in Australia are extraordinarily unlikely.

Comment

It is hard not to have a wry smile as central bankers catch up with a point I was making about a decade ago.

Given these considerations, it is not surprising that some analysts now talk about the ‘reversal interest rate’ – that is, the interest rate at which lower rates become contractionary, rather than expansionary

I argued it was in the region of 1.5% and Australia is now well below it so it is I think singing along with Coldplay.

Oh no I see
A spider web and it’s me in the middle
So I twist and turn
Here am I in my little bubble

As to why the RBA is preparing the ground for even more monetary action then let me switch to Deputy Governor Debelle who also spoke today. This starts well.

Over much of the past three years, employment has grown at a healthy annual pace of 2½ per cent. This has been faster than we had expected, particularly so, given economic growth was slower than we had expected.

But in a reversal of the Meatloaf dictum that “two out of three aint bad” we get this.

But the unemployment rate has turned out to be very close to what we had expected and has moved sideways around 5¼ per cent for some time now………Then I will look at wages growth and show that the lower average wage outcomes of the past few years have reflected the increased prevalence of wages growth in the 2s across the economy.

The next issue is that does the mere mention of QE operate in the same manner as The Candyman in the film? If so that is at least 2 mentions in Australia so at the most we have 3 to go before it appears.

Finally with a ten-year bond yield already at 1.06% or about 1.5% lower than a year ago, what extra is there to be gained?

 

 

 

 

There are major problems brewing in the Pacific for the world economy

It has been something of an economic tenet for a while now that the most dynamic part of the world economy is to be found in the Pacific region. However the credit crunch era has thrown up all sorts of challenges to what were established ideas and it is doing so again right now. The particular issue is what was supposed to be a strength which is trade and we saw another worrying sign on Wednesday.

The Monetary Policy Board of the Bank of Korea decided today to lower the Base Rate by 25 basis points, from 1.50% to 1.25%.

That is South Korea as we continue our journey past 750 interest-rate cuts in the credit crunch era. Here is their answer to Carly Simon’s famous question, why?

Economic growth in Korea has continued to slow. Private consumption has slowed somewhat, while investment has remained weak. Exports have sustained their sluggish trend as the export prices of semiconductors, petroleum products and chemicals have continued to fall amid the weakening of global trade.

So we see that the economy has been hit by trade issues and that unsurprisingly this has hit investment but also that it has fed through into domestic consumption. Next we got further confirmation that they are blaming trade as we wonder what is Korean for Johnny Foreigner?

Affected mainly by worsening global economic conditions, the growth of the Korean economy is expected to fall back below the July projection…….. The downside risks include a spread of  global trade disputes, a heightening of geopolitical risks and a deepening global
economic slowdown.

We also see that the Korean government has already acted.

Among the upside risks to the growth outlook are an improvement in domestic demand thanks to a strengthening of government policies to shore up the economy and progress in US-China trade negotiations.

 

Quarterly economic growth has been erratic so far this year but Xinhuanet gives us an idea of the trend.

From a year earlier, the real GDP grew 2 percent in the second quarter. It was lower than an increase of 2.8 percent for the same quarter of 2017 and a growth of 2.9 percent for the same quarter of 2018.

Singapore

On the one hand the outlook is supposed to be bright.

Singapore has knocked the United States out of the top spot in the World Economic Forum’s annual competitiveness report. The index, published on Wednesday, takes stock of an economy’s competitive landscape, measuring factors such as macroeconomic stability, infrastructure, the labor market and innovation capability. ( CNN )

The good cheer was not repeated in this from the Monetary Authority of Singapore on Monday.

According to the Advance Estimates released by the Ministry of Trade and Industry today, the Singapore economy grew by 0.1% year-on-year in Q3 2019, similar to the preceding quarter. In the last six months, the drag on GDP growth exerted by the manufacturing sector has intensified, reflecting the ongoing downturn in the global electronics cycle as well as the pullback in investment spending, caused in part by the uncertainty in US-China relations.

They are very sharp with the GDP number perhaps helped by being a City state. The future does not look too bright either if we look through the rhetoric.

On the whole, Singapore’s GDP growth is projected to come in at around the mid-point of the 0–1% forecast range in 2019 and improve modestly in 2020.

The Straits Times has fone a heroic job trying to make the data below look positive.

Non-oil domestic exports (Nodx) fell by 8.1 per cent in September, a somewhat better showing than the 9 percent fall in August, according to data released by Enterprise Singapore on Thursday (Oct 17).

This was the third month in a row where shipments improved, and the August figure – revised downwards from the 8.9 per cent fall previously reported – also marked a return to single-digit territory after five consecutive months of double-digit declines.

But many eyes will have turned to this bit.

Electronics products weighed down Nodx, shrinking 24.8 per cent year-on-year in September, following a 25.9 per cent contraction in August.

China

This morning has brought the news we were pretty much expecting.

China’s economic growth slowed in the third quarter amid weak demand at home and as the trade war with the U.S. drags on exports.

Gross domestic product rose 6% in the July-September period from a year ago, the slowest pace since the early 1990s and weaker than the consensus forecast of 6.1%. Factory output rose 5.8% in September, retail sales expanded 7.8%, while investment gained 5.4% in the first nine months of the year. ( Bloomberg ).

Back on the 21st of January I pointed out this.

The M1 money supply statistics show us that growth was a mere 1.5% over 2018 which is a lot lower than the other economic numbers coming out of China and meaning that we can expect more slowing in the early part of 2019. No wonder we have seen some policy easing and I would not be surprised if there was more of it.

The numbers have been slipping away ever since although Bloomberg tries to put a brave face on it. After all you fo not want to upset the Chinese as you might find yourself like the NBA.

Even with the slowdown, year to date growth of 6.2% suggests the government can hit its 6% and 6.5% for 2019.

Actually M1 money supply growth picked up after January to as high as 4.4% but has now fallen back to 3.4%. So the easing has helped and we are not looking at an “end of the world as we know it” scenario in domestic terms but rather caution.

Before I move on let me point out the consequences of the African swine fever outbreak in the pig industry.

Of which, livestock meat price up by 46.9 percent, affecting nearly 2.03 percentage points increase in the CPI (price of pork was up by 69.3 percent, affecting nearly 1.65 percentage points increase in the CPI), poultry meat up by 14.7 percent, affecting nearly 0.18 percentage point increase in the CPI. ( China Bureau of Statistics )

Japan

Overnight the Cabinet Office has informed us that the Bank of Japan is getting ever further away from its inflation target.

  The consumer price index for Japan in September 2019 was 101.9 (2015=100), up 0.2% over the year before seasonal adjustment, and the same level as  the previous month on a seasonally adjusted basis.

They will of course torture the numbers to find any flicker so if you here about furniture and household utensils ( up 2.7%) that will be why.

Next month the issue will be solved by the Consumption Tax rise but of course that takes money out of workers and consumers pockets at a time of economic trouble. What could go wrong?

Comment

As you can see there are plenty of signs of economic trouble in the Pacific region. Many of these countries are used to much higher rates of economic growth than us in the west. According to Bloomberg Indonesia is worried too.

Indonesia‘s central bank has room to cut interest rates further, perhaps as soon as next week, says its deputy governor

Then of course there is the Reserve Bank of Australia which is cutting interest-rates at a rapid rate. In fact Deputy Governor Debelle gave a speech in Sydney updating us on his priority.

The housing market has a pervasive impact on the Australian economy. It is the popular topic of any number of conversations around barbeques and dinner tables. It generates reams of newspaper stories and reality TV shows. You could be forgiven for thinking that the housing market is the Australian economy.[1] That clearly is not the case. But at the same time, developments in the housing market, both the established market and housing construction, have a broader impact than the simple numbers would suggest.

 

 

Australia cuts interest-rates for the third time in five months

This morning has brought news that we were expecting so let me hand you over to the Reserve Bank of Australia or RBA.

At its meeting today, the Board decided to lower the cash rate by 25 basis points to 0.75 per cent.

This means that the RBA has cut three times since the fifth of June. Thus those who travel in a land down under are seeing a central bank in panic mode as it has halved the official interest-rate in this period. It means that they have joined the central bankers headbangers club who rush to slash interest-rates blindly ignoring the fact that those who have already done so are singing along with Coldplay.

Oh no I see
A spider web it’s tangled up with me
And I lost my head
And thought of all the stupid things I said
Oh no what’s this
A spider web and I’m caught in the middle
So I turned to run
The thought of all the stupid things I’ve done.

If we look at the statement we get a reminder of our South China Territories theme.

The US–China trade and technology disputes are affecting international trade flows and investment as businesses scale back spending plans because of the increased uncertainty. At the same time, in most advanced economies, unemployment rates are low and wages growth has picked up, although inflation remains low. In China, the authorities have taken further steps to support the economy, while continuing to address risks in the financial system.

We can cut to the nub of this by looking at what the RBA also released this morning.

Preliminary estimates for September indicate that the index decreased by 2.7 per cent (on a monthly average basis) in SDR terms, after decreasing by 4.6 per cent in August (revised). The non-rural and rural subindices decreased in the month, while the base metals subindex increased. In Australian dollar terms, the index decreased by 3.5 per cent in September.

So the benefit from Australia’s enormous commodity resources has faded although it is still just above the level last year.

Over the past year, the index has increased by 1.8 per cent in SDR terms, led by higher iron ore, gold and beef & veal prices. The index has increased by 5.2 per cent in Australian dollar terms.

Aussie Dollar

The index above makes me think of this and here is a view from DailyFX.

Australian Dollar price action has remained subdued throughout most of 2019 with spot AUDUSD trading slightly above multi-year lows.

As I type this an Aussie Dollar buys 0.67 of a US Dollar which is down by 6.6% over the past year. The trade-weighted index has been in decline also having been 65.1 at the opening of 2018 as opposed to the 58.9 of this morning’s calculation.

So along with the interest-rate cuts we have seen a mild currency depreciation or devaluation. But so far President Trump has not turned his attention to Australia.

Also if we stay with DailyFX I find the statement below simply extraordinary.

 if the central bank continues to favor a firm monetary policy stance since announcing back-to-back rate cuts.

A firm monetary stance?

Back to the RBA Statement

Apparently in case you have not spotted it everybody else is doing it.

Interest rates are very low around the world and further monetary easing is widely expected, as central banks respond to the persistent downside risks to the global economy and subdued inflation.

As central bankers are pack animals ( the idea of going solo wakes them up in a cold sweat) this is very important to them.

Then we got a bit of a “hang on a bit moment” with this.

The Australian economy expanded by 1.4 per cent over the year to the June quarter, which was a weaker-than-expected outcome. A gentle turning point, however, appears to have been reached with economic growth a little higher over the first half of this year than over the second half of 2018.

Now if you believe that things are turning for the better an obvious problem is created. Having cut interest-rates twice in short order why not wait for more of the effect before acting again as the full impact is not reached for 18/24 months and we have barely made four?

Mind you if you look at the opening of the statement and the index of commodity prices you may well be wondering how that fits with this?

a brighter outlook for the resources sector should all support growth.

Indeed the next bit questions why you need three interest-rate cuts in short order as well.

Employment has continued to grow strongly and labour force participation is at a record high.

With that situation this is hardly a surprise as it is only to be expected.

Forward-looking indicators of labour demand indicate that employment growth is likely to slow from its recent fast rate.

The higher participation rate makes this hard to read and analyse.

Taken together, recent outcomes suggest that the Australian economy can sustain lower rates of unemployment and underemployment.

Moving to inflation the RBA seems quite happy.

Inflation pressures remain subdued and this is likely to be the case for some time yet. In both headline and underlying terms, inflation is expected to be a little under 2 per cent over 2020 and a little above 2 per cent over 2021.

It does not seem to bother them much that if wage growth remains weak trying to boost inflation is a bad idea. Also if they look at China there is an issue brewing especially as the Swine Fever outbreak seems to be continuing to spread.

Pork prices have surged more than 70% this year in China due to swine fever, and “people are panicking.”

( Bloomberg)

House Prices

These are always in there and we start with an upbeat message.

There are further signs of a turnaround in established housing markets, especially in Sydney and Melbourne.

Yet the foundations quickly crumble.

In contrast, new dwelling activity has weakened and growth in housing credit remains low. Demand for credit by investors is subdued and credit conditions, especially for small and medium-sized businesses, remain tight.

Comment

A complete capitulation by the RBA is in progress.

It is reasonable to expect that an extended period of low interest rates will be required in Australia to reach full employment and achieve the inflation target. The Board will continue to monitor developments, including in the labour market, and is prepared to ease monetary policy further if needed to support sustainable growth in the economy, full employment and the achievement of the inflation target over time.

They like their other central banking colleagues around the word fear for the consequences so they are getting their retaliation in early.

The Board also took account of the forces leading to the trend to lower interest rates globally and the effects this trend is having on the Australian economy and inflation outcomes.

This is referring to the use of what is called r* or the “natural” rate of interest which of course is anything but. You see in this Ivory Tower fantasy it is r* which is cutting interest-rates and not their votes for cuts. In fact it is nothing at all to do with them really unless by some fluke it works in which case the credit is 100% theirs.

Sweet fantasy (sweet sweet)
In my fantasy
Sweet fantasy
Sweet, sweet fantasy ( Mariah Carey )

 

 

What is happening to house prices in Australia?

I thought that today we would look at an economy via one of the priorities of central bankers, You can present all the economic output and GDP data that you like but they will be impatiently waiting to see what is taking place with house prices. After all rising house prices provide wealth effects and support the balance sheet of the banks in something of a central banking double whammy. If we journey to the other side of the world we see a country that had quite a bit of that as the resources boom meant it avoided any credit crunch recession but the party has ended and was replaced by something of a hangover being experienced. This has been illustrated by this morning’s official data release.

Residential property prices fell 0.7 per cent in the June quarter 2019, according to figures released today by the Australian Bureau of Statistics (ABS).

The falls in property prices were led by the Melbourne (-0.8 per cent) and Sydney (-0.5 per cent) propertymarkets. All capital cities apart from Hobart (+0.5 per cent) and Canberra (+0.2 per cent) recorded falls in property prices in the June quarter 2019……….Through the year, residential property prices fell 7.4 per cent in the June quarter 2019. Prices fell 9.6 per cent in Sydney and 9.3 per cent in Melbourne. Hobart (+2.0 per cent) was the only capital city to record positive through the year growth.

Grim news for any central banker as the report then thrusts a dagger in any central banking heart,

The total value of Australia’s 10.3 million residential dwellings fell by $17.6 billion to $6,610.6 billion in the June quarter 2019. The mean price of dwellings in Australia is now $638,900. The total value of residential dwellings has fallen for five consecutive quarters, down from $6,957.2 billion in the March quarter 2018.

Reserve Bank of Australia

Of course this was really painful for them and as I pointed out on the 2nd of July so painful that they could not actually bring themselves to say house prices were falling.

Conditions in most housing markets remain soft, although there are some tentative signs that prices are now stabilising in Sydney and Melbourne. Growth in housing credit has also stabilised recently.

But they could at least respond in boom,boom fashion.

At its meeting today, the Board decided to lower the cash rate by 25 basis points to 1.00 per cent. This follows a similar reduction at the Board’s June meeting.

Whilst they would have not know the full detail at the time the report below, especially the bit I have highlighted will have got their attention as reports came in.

The main contributors to the fall in the housing group this quarter are electricity (-1.7%), gas and other household fuels (-0.5%) and new dwelling purchase by owner-occupiers (-0.2%). This is the first quarterly fall for the housing group since the March quarter 1998, driven by lower electricity and gas prices, weak housing market conditions and increasing rental vacancy rates in some capital cities. ( ABS)

Credit Easing and Tax Cuts

The Australian authorities will have learnt from others experience that interest-rate cuts may be a necessary requirement for house prices to rise again but in the credit crunch era they are not sufficient so we got this too in July. From Reuters.

The Australian prudential regulator on Friday scrapped a minimum 7% interest testing rate for bank customers’ loan applications, adding to the stimulatory tools being deployed to revive the sluggish economy………..the government passed A$158 billion ($111 billion) worth of tax cuts to boost an economy that is threatening to stall.

Like elsewhere criticism of the banks only lasted as long as it took house prices to fall.

The changes also mark a softening of APRA’s more strident position on mortgage regulations that followed a scathing year-long public inquiry into banking sector misconduct.

These people are what you might call intellectually flexible. You see the household debt to disposable income ratio was 189.7% at the end of March as opposed to 157.5% a decade earlier. The housing debt to disposable income ratio has risen from 84.5% to 109.3% over the same time period.

What about now?

There must have been a huge sigh of relief at the RBA as this news came in. From today’s Minutes.

Established housing market conditions had steadied in recent months. Reported housing prices in Sydney and Melbourne had risen noticeably in August and auction clearance rates had increased further, although volumes had remained low.

What do they mean by that? Well here is new.au.com.

The national property market has recorded its largest monthly increase in more than two years as Australians capitalise on low interest rates, tax cuts and a slight loosening in lending standards.

The national market lifted 0.8 per cent over the last month.

Sydney had been at the centre of the downturn, but the New South Wales capital appears to be once again on the rise.

I hope the numbers are more accurate than the one later in their piece.

“One of the key considerations for policymakers is household debt levels remain around record highs, around 90 per cent of disposable income.”

Just the 100% short…

If we return to the RBA then it will be worried about the low volumes.

Housing turnover had remained low.

It will be much happier with this bit.

Variable mortgage rates had declined broadly in line with the reductions in the cash rate in June and July. Fixed mortgage rates had also declined substantially over the preceding six months.

Green shoots?

Growth in housing credit had been little changed over the year to July, having declined steadily through 2018. Credit to investors had declined slightly over previous months. Meanwhile, housing loan approvals to both owner-occupiers and investors had increased for the second consecutive month in July.

Oh and in case you were wondering what mortgage rates are lets go back to news.au.com

You can now find advertised mortgage interest rates below 3 per cent. That’s an extremely cheap loan,

Comment

Let us now switch to the other matter that will be concerning the RBA.

More generally, global trade volumes had fallen over the previous year, reflecting both the escalation of trade tensions and slower growth in Chinese domestic demand.

If you are in effect the South China Territories you will have been further worried by the August industrial production number for China only showing an annual growth rate of 4.4%. Whilst the oil price rise ( Brent Crude is around US $69 as I type this) is neutral for Australia it is most definitely negative for China.

If we look at the money supply data then I am afraid there is a cautionary note.

The history of M1 has been revised to include all transaction deposits, whereas previously some of these deposits were only included in M3. The history of M3 and Broad Money has also been revised, reflecting minor conceptual changes. Beyond these historical revisions, movements in transaction and non-transaction deposits between June and July 2019 are larger than usual.

Indeed they are and all I can tell you is that in July broad money ( M3 ) contracted as whoever the clown was at the RBA who made these changes they have made M1 useless as a guide. Unless of course you believe it rose by 11% in a month. They should have run both series for a while . Returning to broad money growth an annual rate of 2.5% is not much as we recall it covers both future inflation and growth.

So in spite of higher oil prices and the likely effect on inflation from it I expect a ying and yang. The Australian authorities will move to support house prices via more interest-rate cuts and credit easing but can that offset a weaker economy which might include an actual contraction? Much might change of course especially as my reliable signal via narrow money has been neutered.

 

 

 

 

 

 

Australia cuts interest-rates to another record low

This morning eyes turned to a land down under to see what the Reserve Bank of Australia would do. It will have been no great surprise to regular readers as this hit the newswires.

At its meeting today, the Board decided to lower the cash rate by 25 basis points to 1.00 per cent. This follows a similar reduction at the Board’s June meeting.

There are a lot of perspectives here but let me start with the point that it is getting ever harder to find any country with any sort of positive interest-rate. Even Australia with an economy cushioned by its enormous commodity resources cannot escape the trend to ever lower interest-rates that looks ever more like this.

Glaciers melting in the dead of night
And the superstars sucked into the super massive
Super massive black hole
Super massive black hole
Super massive black hole ( Muse)

There was a time that Australia was able to stand apart from this trend due to its ability to essentially dig money out of the ground. Actually if we take a look at The West Australian we can see that in fact this continues to boom.

Australia’s commodity exports earned a record $275 billion over the past 12 months, and another record is tipped next year.

Officials are scrambling to adjust their forecasts to account for the unexpected boom, with high iron ore prices driving the strong figures.

So a setback here was not the cause of the double cut in interest-rates and in case you are wondering why Iron Ore prices are booming as the world economy slows it has been caused by this.

The impact of the tailings dam collapse at one of Vale’s iron ore mines in Brazil this year, which led to a sharp fall in Brazilian iron ore exports, looks set to last at least two years.

This means that the situation in this area is not only rosy for Australia but looks set to be so.

It means the seaborne iron ore market is likely to remain tight, and prices elevated, at least until 2021, and Australia is the main beneficiary.

Official forecasts for resource and energy commodity earnings in 2019-20 have now been revised up by $12.9 billion to $285 billion, which would be another record.

What does the RBA say?

As we find so often the statement accompanying the announcement is somewhat contradictory. Let me show with this.

This easing of monetary policy will support employment growth and provide greater confidence that inflation will be consistent with the medium-term target.

But why does employment need supporting when later we are told this?

Employment growth has continued to be strong. Labour force participation is at a record level, the vacancy rate remains high and there are reports of skills shortages in some areas.

But wait there is more.

The strong employment growth over the past year or so has led to a pick-up in wages growth in the private sector, although overall wages growth remains low. A further gradual lift in wages growth is still expected and this would be a welcome development.

Back in the day central banks explained interest-rate increases like this! The situation gets even more bizarre as we note this.

Taken together, these labour market outcomes suggest that the Australian economy can sustain lower rates of unemployment and underemployment.

If we look at the latest data from Australia Statistics we are told this.

Employment increased 28,400 to 12,856,600 persons

It’s chart shows us that this has risen from just over 11.5 million five years ago. Over the same period the unemployment rate has fallen from 5.9% to 5.2%.

Why did they cut then?

On a superficial level there is a case from the inflation target. Here are the inflation numbers from Australia Statistics.

was flat (0.0%) this quarter, compared with a rise of 0.5% in the December quarter 2018……rose 1.3% over the twelve months to the March quarter 2019, compared with a rise of 1.8% over the twelve months to the December quarter 2018.

Except if they push it higher to 2% then as “overall wages growth remains low” they will reduce real wages and make things worse for the ordinary person. Unless of course the wages fairy turns up and we have learnt that he or she has been in rather short supply in the credit crunch era.

However there is this from the RBA.

Conditions in most housing markets remain soft, although there are some tentative signs that prices are now stabilising in Sydney and Melbourne. Growth in housing credit has also stabilised recently.

This is typical central banker speak as we note they invariably avoid any mention of pries falling or declining so we get euphemisms like “soft” and “stabilised”. The subject is obviously too painful for them. If we look at the situation then Australia Statistics gave us some insight on Thursday.

Residential real estate experienced its fifth consecutive quarter of real holding losses.

This has led to this.

The ratio of mortgage debt to residential real estate assets was 29.0, up from 28.1 in the previous quarter, indicating that mortgage debt grew faster than the value of residential real estate owned by households. The rise reflects falling residential property prices rather than strong growth in mortgage debt.

If we switch to the latest house price data then you can see for yourselves about the claimed tentative stabilisation in Sydney and Melbourne.

All capital cities recorded falls in property prices in the March quarter 2019, with the larger property markets of Sydney (-3.9 per cent) and Melbourne (-3.8 per cent) continuing to observe the largest falls……..Through the year growth in property prices fell 10.3 per cent in Sydney and 9.4 per cent in Melbourne. Adelaide (0.8 per cent) and Hobart (4.6 per cent) are the only capital cities recording positive through the year growth.

As to the RBA it will have mixed views on this from the Sydney Morning Herald.

The National Australia Bank, Commonwealth Bank of Australia and Westpac will not pass on the full benefit of the latest Reserve Bank interest rate cut to all of their home loan customers.

In response to the Reserve Bank’s move to cut the cash rate from 1.25 per cent to 1 per cent on Tuesday, NAB said it would cut all of its variable home loan interest rates by 0.19 percentage points.

On the one hand not all the easing is flowing into mortgage-rates but on the other thee rest will help “The Precious”.

Comment

There are two main issues here. The first is that as Australia cuts its interest-rates to a record low it is joining a trend and theme which just builds and builds. Perhaps the maddest example of this has popped up this morning.

Italy 2 year yield falls below 0% ( @mhewson_CMC )

So being the South China Territories has bought some time but appears to have only delayed the inevitable. The catch is that if it did any real good the places that preceded Australia on this road to nowhere would have recovered by now, but they just look to cut further. Whereas I would be mulling the response of the ordinary person as highlighted by the Sydney Morning Herald.

“Two months in a row to have a drop like that, it’s just fuelling the uncertainty,” Mr Chapman said.

“It just scares me we’re going down the same road as the global financial crisis, which means chaos. And if I see chaos on the radar, I want to have enough money behind me to see me through.

If other people think that then we see a mechanism which makes things worse and not better. A case I have been making for some years now. However the Governor feels the need to hint at even more.

Given the circumstances, the Board is prepared to adjust interest rates again if needed.

Odd that as in the speech he has just given in Darwin you could think that the economy is in fact going rather well.

Second, Australia’s terms of trade have risen again, largely due to higher iron ore prices. Investment in the resources sector is also expected to increase over the next few years…..Third, the exchange rate has depreciated over the past couple of years and, on a trade-weighted basis, is at the bottom end of its range of recent times…..And fourth, we are expecting stronger growth in household disposable income over the next couple of years,

The next issue is one of timing as we were on the case last September 4th.

So there has been a clear credit crunch down under which of course is related to the housing market changes. This is further reinforced by the narrower measure M1 which has stagnated so far in 2018. Much more of that and the RBA could either cut interest-rates further or introduce some credit easing of the Funding for Lending Scheme style.

So what have they been doing for the last ten months? This is even worse when we remind ourselves that monetary policy is supposed to lead not lag events. As we see so often they seem to have leapt from complacency to panic.

Looking Ahead

As it happens the situation with M1 growth is the same one of stagnation or around 0.1% higher than a year ago. Thus I doubt this rate cut is the last and still think a Funding for Lending Scheme or something similar is on its way.