The challenge for the ECB remains Italy and its banks

This week has seen something of an expected shifting of the sands from the European Central Bank ( ECB) about the economic prospects for the Euro area. On Monday its President Mario Draghi told the European Parliament this.

The data that have become available since my last visit in September have been somewhat weaker than expected. Euro area GDP grew by 0.2% in the third quarter. This follows growth of 0.4% in both the first and second quarter of 2018. The loss in growth momentum mainly reflects weaker trade growth, but also some country and sector-specific factors.

What he did not say was that back in 2017 quarterly growth had risen to 0.7% for a time. Back then the situation was a happy one for Mario and his colleagues as their extraordinary monetary policies looked like they were bearing some fruit. However the challenge was always what happens when they begin to close the tap? Let me illustrate things by looking again at his speech.

The unemployment rate declined to 8.1% in September 2018, which is the lowest level observed since late 2008, and employment continued to increase in the third quarter……..¬†Wages are rising as labour markets continue to improve and labour supply shortages become increasingly binding in some countries.

There is a ying and yang here because whilst we should all welcome the improvement in the unemployment rate, we would expect the falls to slow and maybe stop in line with the reduced economic growth rate. So is around 8% it for the unemployment rate even after negative interest-rates ( still -0.4%) and a balance sheet now over 4.6 trillion Euros? That seems implied to some extent in talk of “labour supply shortages” when the unemployment rate is around double that of the US and UK and treble that of Japan. This returns us to the fear that the long-term unemployment in some of the Euro area is effectively permanent something we looked at during the crisis. In another form another ECB policymaker has suggested that.

I will focus my remarks today on the economies of central, eastern and south-eastern Europe (CESEE), covering both those that are already part of the European Union (EU) and those that are EU candidate countries or potential candidates………..Clearly, for most countries, convergence towards the EU-28 average has practically stalled since the outbreak of the financial crisis in 2008

Care is needed as only some of these countries are in the Euro but of course some of the others should be converging due to the application process. Even Benoit Coeure admits this.

And if there is no credible prospect of lower-income countries catching up soon, there is a risk that people living in those countries begin questioning the very benefits of membership of the EU or the currency union.

I have a couple of thoughts for you. Firstly Lithuania has done relatively well but the fact I have friends from there highlights how many are in London leading to the thought that how much has that development aided its economy? You may need to probe a little as due to the fact it was part of Russia back in the day some prefer to say they are Russian. Also the data reminds us of how poor that area that was once called Yugoslavia remains. It is hardly going to be helped by the development described below by Balkan Insight.

At the fifth joint meeting of the governments of Albania and Kosovo in Peja, in Kosovo, the Albanian Prime Minister Edi Rama backed the decision of the Kosovo government to raise the tax on imports from Serbia and Bosnia from 10 to 100 per cent.

Banks

Here the ECB is conflicted. Like all central banks its priority is “the precious” otherwise known as the banks. Yet it is part of the operation to apply pressure on Italy and take a look at this development.

As this is very significant let us break it down and yes in the world of negative interest-rates and expanded central bank balance sheets Unicredit has just paid an eye-watering 7.83% on some bonds. Just the 6.83% higher than at the opening of 2018 and imagine if you held similar bonds with it. Ouch! Of that there is an element driven by changes in Italy’s situation but the additional part added by Unicredit seems to be around 3.5%.

If we look back I recall describing Unicredit as a zombie bank on Sky News around 7 years ago. The official view in more recent times is that it has been a success story in the way it has dealt with non performing loans and the like. Although of course success is a relative term with a share price of 11.5 Euros as opposed to the previous peak of more like 370 Euros. Now it is paying nearly 8% for its debt we need not only to question even that heavily depreciated share price and it gives a pretty dreadful implied view for the weaker Italian banks such as Monte Paschi which Johannes mentions. Also those non-performing loans which were packaged up and sold at what we were told “great deals” whereas now they look dreadful, well on the long side anyway.

Perhaps this was what the Bank of Italy meant by this.

The fall in prices for Italian government securities has caused a reduction in capital reserves and
liquidity and an increase in the cost of wholesale funding. The sharp decline in bank share prices has resulted
in a marked increase in the cost of equity. Should the tensions on the sovereign debt market be protracted, the
repercussions for banks could be significant, especially for some small and medium-sized banks.

Comment

We can bring things right up to date with this morning’s money supply data.

Annual growth rate of narrower monetary aggregate M1, comprising currency in circulation and overnight deposits, stood at 6.8% in October, unchanged from previous month.

So we are holding station to some extent although in real terms we are slightly lower as inflation has picked up to 2.2%. Thus the near-term outlook remains weak and we can expect a similar fourth quarter to the third. Actually I would not be surprised if it was slightly better but still weak..

Looking around a couple of years ahead the position is slightly better although we do not know yet how much of this well be inflation as opposed to growth.

Annual growth rate of broad monetary aggregate M3 increased to 3.9% in October 2018 from 3.6% in September (revised from 3.5%).

On the other side of the coin credit flows to businesses seem to have tightened.

Annual growth rate of adjusted loans to non-financial corporations decreased to 3.9% in October from 4.3% in September

Personally I think that the latter number is a lagging indicator but the ECB has trumpeted it as more of a leading one so let’s see.

The external factor which is currently in play is the lower oil price which will soon begin to give a boost and will reduce inflation if it remains near US $60 for the Brent Crude benchmark. But none the less the midnight oil will be burning at the ECB as it mulls the possibility that all that balance sheet expansion and negative interest-rates gave economic activity such a welcome but relatively small boost. Also it will be on action stations about the Italian banking sector. For myself I fear what this new squeeze on Italian banks will do to the lending to the wider economy which of course had ground to a halt as it is.

 

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The UK Budget outlook is good unlike that for car finance

Today sees two important pieces of economic news for the UK and we can look at the state of play for both by taking a look at the UK Gilt or government bond market. Only last Monday I pointed out this.

 there is a small or medium-sized island depending on your perspective which has seen its bonds doing well over the last week or so. It is the UK where the ten-year Gilt yield has fallen from above 1.71% to 1.53%.

Since then the good news has carried on coming to coin a phrase because the ten-year Gilt yield has fallen to 1.37%. If we look back to see what has happened we see that there was a change since around the tenth of this month as up to then bond yields around the world had been rising and took the UK Gilt with them. Actually it is not far off an example of groundhog day as we are pretty much where we were this time last year.

The UK Budget

What the development above means is that the media needs a large slice of humble pie after majoring on this issue.

British Prime Minister Theresa May declared on Wednesday that her government’s austerity push was over after nearly a decade of spending cuts in many areas of public services. ( Reuters on October 3rd).

They then cherry picked this part of the IFS Report from the middle of the month to give a cost for this.

Keeping to the spring statement plans, combined with the commitments to spending on the NHS, defence and aid, would mean that a total of ¬£19 billion would be cut from the day-to-day budgets of unprotected public services by 2022‚Äď23.

This had two problems.  The first was that this government declared the same thing back in October 2016 but then seemed to suffer from an outbreak of amnesia. The next and to be fair to the IFS they did mention this the public finances are performing well so the mentions of tax rises were not well thought out.

Thus we advance on today’s Budget noting that the recent fall in equity markets has had a much larger impact on Gilt yields than expectations about the Budget and also all the rhetoric about the implications of Brexit. Also it gives us another perspective on the 0.25% Bank Rate rise to 0.75% as Gilt yields are back to where they were then. It took Mark Carney four years to summon up the courage to do something which looks an ever smaller pea shooter.

There may be another impact of this which is on the housing market via fixed-rate mortgages. This is because they tend to track the five-year Gilt yield which has fallen below 1% to 0.96% from the recent peak of 1.26%, meaning there may be some cheaper deals in the offing.

Today

As ever we see that various details of the Budget have been leaked. The plan for higher spending on the National Health Service was announced a while back and the last week has seen hints of help for business rates for smaller businesses and more money for road potholes. As the troubled Universal Credit program rumbles on it would not be surprising if money was found to oil its wheels either. As the underlying public finances are good there is scope for the Chancellor to pull a rabbit from the hat should he wish.

Every Budget has the following feature.

Mechanically extrapolating the percentage change in net borrowing that we have seen so far this year over the full fiscal year would imply a deficit for 2018-19 about £11 billion lower than we forecast in March. But that would not take account of the fact that the recent strength of cash corporation tax receipts has yet to be reflected in the accrued borrowing measure.

This is the Office for Budget Responsibility ( OBR ) which has confirmed my first rule of OBR Club once more. This is around a £13 billion error if we allow for the corporation tax changes they mention which they have managed in spite of the economy doing nothing spectacular. Please remember that when their figures are being quoted later along the lines of this from the Colonel in Full Metal Jacket.

Son, all I’ve ever asked of my marines is that they obey my orders as they would the word of God.

The reality is that in this instance “the word of God” as expressed by the media over the next few days will be wrong again.

Monetary Data

This has been heading in the opposite direction recently as in a similar pattern to  the Euro area we have seen money supply growth weaken. Today;s update for September was mixed on this front. The annual rate of M4 growth fell to 2.5% but the amount of M4 lending rose by £16.5 billion raising its annual rate of growth to 3.1%. So we know that the trend is weak but due to the erratic nature of these numbers we are still not sure how weak.

Next comes something we have been looking for through most of 2018.

The fall on the month was due to weaker net borrowing for other loans and advances, which fell from £0.7 billion to £0.3 billion. Within this, new borrowing for car finance fell sharply, consistent with very weak car registration numbers in September,

That was from the Bank of England earlier and I hope readers will forgive me for putting the cart in front of the horse here. But we have been waiting for it to admit to this for some time! After all car registration numbers have been weak all through 2018. So let is now look at the overall data in this area.

The net amount of new consumer borrowing, excluding mortgages, fell to ¬£0.8 billion in September, down from ¬£1.2 billion in August……….The annual growth rate of consumer credit slowed further in September, to 7.7%, reflecting these weaker monthly lending flows. The annual growth rate was the lowest since June 2015, and well below the peak of 10.9% in November 2016.

There are various ways of looking at this. After all a 7.7% growth rate is not far off treble the rate of growth of wages and around quadruple economic growth. Although of course a few months back Sir Dave Ramsden did call an annual rate of growth of 8.3% weak. But apart from car finance other sectors of unsecured credit are still maintaining quite a rate of expansion as for example credit card debt is still rising at an annual rate of 8.7%.

Business Lending

Unlike consumers who seem to thirst for bank lending especially if it is unsecured businesses seem to be turning away from it.

The fall in bank lending to businesses was driven by lending to large businesses, which fell £2.0 billion in September following three months of positive flows. Bank lending to small and medium sized businesses (SMEs) increased by £0.4 billion in September. These flows left the annual growth rate of lending to large businesses unchanged at 2.2%, while the growth rate for SMEs remained close to zero for the ninth consecutive month.

I do not see this being reported elsewhere but it does beg a question of the bank bailout culture and also measures such as the Funding for Lending Scheme which gave banks yet another subsidy but crucially to help them boost business lending.

Comment

The UK public finances have more room for manoeuvre in them than we are being led to believe another sign of that has been given by the OBR.

Public sector net debt (PSND) fell by 2.4 per cent of GDP between September 2017 and September 2018.

Care is needed as such waters are always muddy rather than crystal clear. For example the August 2016 Sledgehammer actions of the Bank of England continue to inflate the national debt whereas the latest stage of the “hokey-cokey” dance of the housing association sector went the other way. Current Gilt yields will help the numbers and it is in HM Treasuries favour to have them as up to date as possible. So the Chancellor has room and will be happy that the media has suggested the reverse.

On the other side of the political fence from what is called the Progressive side is this from Ann Pettifor.

£50 billion added to the 2019/20 Budget would add £13 billion to the NHS; £12 billion to the social security budget and £12 billion to local government services. £13 billion would be added to other government departmental services.

Via the multiplier effect this would ripple through the economy.

So an injection of ¬£50 billion could generate another ¬£25billion of income ‚Äď thereby expanding the economic ‚Äėcake‚Äô.

So a multiplier of 1.5. Let me address that by going back to Friday where in the case of Italy the multiplier was suggested to be less than one partly through higher bond yields. As the series SOAP regularly informed us.

Confused you will be!

Let me offer some guidance. Is the UK in a situation where the fiscal multiplier is more than one? Yes I think so for two reasons. We have an economic growth record much better than Italy’s and Gilt yields start much lower. At some point the Gilt market would respond unfavourably but the tipping point depends on what we call “confidence”. Also the reference to “cake” tells us it has shrunk which it only has if you compare to pre crisis trends. So that bit is misleading.

Nearly Forgot!

It would not be a UK Budget without some form of a stealth tax. This time in comes in the form of a cut in likely interest for savers. From National Savings & Investments.

From 1 May 2019, existing holders of Index-linked Savings Certificates who renew into a new term will receive index-linking based on the Consumer Prices Index (CPI) measure of inflation, rather than the Retail Prices Index (RPI)

 

 

 

 

UK annual unsecured credit growth “slows” to 8.1%

Today brings us to the latest UK data on both the money supply and the manufacturing sector. Both of these are seeing developments. If we start with something which has boosted the UK money supply by some £445 billion there is of course the QE bond purchases of the Bank of England. Having given my thoughts on Friday here is David Smith of the Sunday Times who seems to have bought the Bank of England rhetoric hook,line and sinker. Firstly let me correct an early misconception.

At first, as in America, the process of running off QE assets is being achieved by not reinvesting the proceeds of maturing bonds.

That implies that the UK is no longer reinvesting its maturing Gilt holdings and if it were true would be a policy I support having originally suggested it some five years ago. This would, however be news to the Monetary Policy Committee.

The Committee also voted unanimously to maintain the stock of UK government bond purchases,

Moving back to how things might play out the musical theme is “Don’t Worry Be Happy” by Bobby McFerrin.

We are still, of course, some way away from the unwinding of the Bank’s £435bn of QE. It will not happen until interest rates reach 1.5%, and they are currently only half that level. It remains possible that, in the event of a rocky, no-deal Brexit, the Bank will think it is obliged to launch a further tranche of QE. But it will eventually be reversed. And there is no reason why we should be unduly worried about that.

So suddenly we are no longer reversing it, and we will not do so until Bank Rate reaches 1.5%. In case you are wondering if there is something especially significant about 1.5% there is not apart from the fact that the associated higher Gilt yields will mean a lower value for the holdings. Oh and we might get more! But don’t worry “it will eventually be reversed”¬† although using the strategy suggested, which of course has not started, it would not be until 2065.

As to what good it has done? We seem to just have to accept the line it has saved us.

any marginal increase in wealth inequality looks like a small price to pay for avoiding more serious economic damage and deflation.

Money Supply

This month’s data was a little bit of a curate’s egg but let us start with something that has become very familiar. From the Bank of England.

The annual growth rate of consumer credit slowed further in August, to 8.1%, reflecting weaker monthly lending flows. The annual growth rate was the lowest since August 2015, and well below the peak of 10.9% in November 2016. Within this, and consistent with lower monthly net flows over the past few months, other loans and advances growth fell to 7.7%, the lowest since December 2014. Credit card growth has been broadly stable for the past 18 months at close to 9%.

The official view can be seen quite clearly here, and if we take the ¬£838 million of July and the ¬£1118 million of August that is lower than the circa ¬£1500 million previously. The catch is the annual growth rate of 8.1% as can anybody thing of anything else in the UK economy growing at that sort of rate? After all it compares with real wage growth which is somewhere around zero and an annual rate of economic growth of between 1% and 2%. Although I am reminded that Sir Dave Ramsden of the Bank of England called an annual growth rate of 8.3% “weak” earlier this year.

Also if you look at the date of the peak you see that the “Sledgehammer QE” and Bank Rate cut of August 2016 did seem to achieve something, which was a peak in unsecured borrowing. Oddly we do not see the Bank of England trying to bathe itself in this particular piece of glory…..

Mortgage Lending

This has been fairly stable for a while now. The Funding for Lending Scheme got net monthly lending positive in 2013 and since then both the banks and our central bank have been happy. At the moment we mostly see net lending of around £3 billion per month.

Lending to business

There are two clear trends here.Let me open by pointing out the impact of the Funding for Lending Scheme on the metric it was loudly proclaimed to influence.

Annual growth in lending to small and medium-sized businesses remained close to zero for the eighth consecutive month.

This has been the pattern since it began which is why the central banking version of the¬† nuclear deterrent or the word “counterfactual” has been deployed. It tells us that however bad things are they would have been worse otherwise, so things are in fact a success. If we look at the breakdown we see that of the ¬£166 billion or so, some ¬£50 billion is for real-estate as opposed to the ¬£10 billion for manufacturing, which tells us something about the way the UK economic wind blows.

Another is that businesses are shifting away from banks which is a trend which would make my late father very happy if he was still with us.

Businesses can raise money by borrowing from banks or from financial markets (in the form of bonds, equity and commercial paper). The total amount outstanding of businesses’ borrowing from these sources increased by £3.2 billion in August. Within this, net finance raised from banks remained positive, but weak, at £1.0 billion.

Over the past six months the average raised from banks has been £1 billion but £1.5 billion has been raised from other sources of credit.

Money Supply

These are the curate’s egg part this month. This is because the actual monthly data was better.

The total amount of money held by UK households, businesses and non-intermediary other financial corporations (NIOFCs) (Broad money or M4ex) rose by £6.9 billion in August. This was above the £0.7 billion in July and the £2.6 billion average of the previous six months.

However the annual rate of M4ex fell to 2.8% which is poor and a further slowing. But if we look for perspective the problem months were July as you can see above and even more so June where it shrank by £2.6 billion. So we know the overall trend has been weak but we are a bit unsure about what is about to take place.

Manufacturing

There was some rather welcome news from this sector today as Markit published its PMI business survey.

Domestic market demand strengthened, while increased orders from North America and Europe helped new export
business stage a modest recovery from August’s
contraction. Business confidence also rose to a three-month
high.

The reading of 53.8 following an upwardly revised 53 for August shows some welcome growth and is rather different to the media perspective and coverage. Let us hope it bodes well.

Comment

The UK money supply data have been weak for a while now and on Friday we noted again that so has the economy.

Compared with the same quarter a year ago, the UK economy has grown by 1.2% ‚Äď revised down slightly from the previously published 1.3%.

That makes the Bank Rate rise in August look even odder to me. Of course there is an exception which is unsecured credit which is charging along albeit not quite a fast as before. The total has now reached £214.2 billion.

We are left hoping that the better manufacturing surveys will add to the GDP data for July and give us if not the economic equivalent of the long hot summer at least some solid growth. After all clouds are gathering around at least some of Europe (Italy) if not its golfers.

Meanwhile our official statistician rather than working on known problems seem determined to produce numbers which are meaningless in my opinion.

In 2017, the UK’s real full human capital stock was ¬£20.4 trillion, equivalent to just over 10 times the size of UK gross domestic product (GDP).

Perhaps there is a clue telling us where the author lives.

the average real human capital stock of those living in West Midlands fell the most, by 5% in 2017 to £568,168, the biggest drop in six years, reflecting negative real earnings growth. By contrast, the average real human capital stock of those living in East Midlands with a degree or higher qualification rose by 9% in 2017 to £564,790.

 

 

 

Slowing money supply growth puts the ECB between a rock and a hard place

Sometimes life is awkward and this morning is an example of that for the central bankers of the Euro area at the European Central Bank or ECB. Let me open with the hard place which is a development we have been following closely in 2018 and comes direct from the ECB Towers.

The annual growth rate of the broad monetary aggregate M3 decreased to 3.5% in August 2018 from 4.0% in July, averaging 4.0% in the three months up to August.

This matters because if we look forwards the rule of thumb is that it represents the sum of economic growth and inflation. So we initially see that something of a squeeze is on. In fact it has been one of the guiding variables for ECB policy. Let me give you an example of this from the January press conference where Mario Draghi told us this.

Turning to the monetary analysis, broad money (M3) continues to expand at a robust pace, with an annual rate of growth of 4.9% in November 2017, after 5.0% in October, reflecting the impact of the ECB’s monetary policy measures and the low opportunity cost of holding the most liquid deposits.

Back then the garden looked rosy with the Euroboom apparently still continuing. But in the April press conference Mario Draghi had gone from bullish to nervous.

¬†It’s quite clear that since our last meeting, broadly all countries experienced, to different extents of course, some moderation in growth or some loss of momentum. When we look at the indicators that showed significant, sharp declines, we see that, first of all, the fact that all countries reported means that this loss of momentum is pretty broad across countries. It’s also broad across sectors because when we look at the indicators, it’s both hard and soft survey-based indicators.

He did not specifically refer to the money supply data but we now know that in March the rate of M3 growth had fallen to 3.7% and that whilst he may not have had all the data warning signs would be there. In such circumstances always look for what they do not tell you about!

Since then the numbers have fluctuated somewhat as it their want but the trend is clear as they sing along to “Fallin'” by Alicia Keys. The big picture is that the 5.3% of March 2018 has been replaced by 3.5% now.

The Rock

This for the ECB is its inflation target as it is one of the central banks who really do try very hard to achieve it as opposed to the lip-service of say the Bank of England. I still recall Jean-Claude Trichet defining it as 1.97% in his valedictory speech, and whilst that contains some spurious accuracy you get the idea. So in a sense what we now have are happy days.

The euro area annual inflation rate was 2.0% in August 2018, down from 2.1% in July 2018. A year earlier, the rate
was 1.5%.

Except if you take my rule of thumb above and in a broad sweep the amount left over for economic growth has gone from ~3.5% to more like 1.5%. This morning has brought news which suggests the inflation collar may be getting a little tighter. We do not get the overall number for Germany until later today but the individual lander have been reporting higher numbers with Bavaria leading the charge at 0.5% monthly and 2.5% annually for its CPI. However we do now have what appears to be a leaked number as @fwred explains.

Yep, German CPI apparently leaked early once again . 0.4% MoM consistent with strong regional data, would push inflation rate to 2.3-2.4% YoY, way above expectations.

As the largest economy in the Euro area that will pull inflation higher directly and of course there is also the implicit influence that many inflation trends will be international within the shared currency. Returning to my rule of thumb there is even less scope for economic growth if this is an accurate picture of the inflation trend.

Narrow Money

If broad money growth gives us the general direction of travel then narrow money gives us the impulse for the next few months or so. How is that going?

The annual growth rate of the narrower aggregate M1, which comprises currency in circulation and overnight deposits, decreased to 6.4% in August from 6.9% in July.

This compares to the 9.9% of September last year which is the recent peak. So the short-term impulse has weakened considerably since then and in terms of quarterly GDP growth we have seen a drop from around 0.7% to 0.4% or so. Of course we are now left wondering if more is to come?

A significant part of this has been the actions of the ECB itself as the 9.9% growth of last September was a consequence of monthly QE purchases being ramped up 80 billion Euros per month in the year from April 2016. Now of course we are in a different situation with them about to drop from 30 billion to 15 billion. This suggests that the fall in M1 growth has further to go.

What about credit?

These have been in a better phase so we can expect the ECB and its area of influence to give them emphasis.

However in my view there are two issues with this. The opening one is that they are  backwards as well as forwards looking as they represent a response to the better growth phase the Euro area was in. The next is that they are in the M3 numbers and in fact represent basically its growth right now ( 3.4%) as the other components net out.

Comment

Today’s news continues a theme of 2018 which is that money supply growth has been fading. In the Euro area this has been exacerbated by the winding down of the expansionary monetary policy of the ECB. Some of it is still there as it used to tell us that a deposit rate of -0.4% was a powerful influence here but much of the QE flow has gone. Thus in the period ahead we will find out if the Euro area economy was like a junkie sipping the sweet syrup of combined QE and NIRP. This morning’s economic sentiment data showing a drop of 0.7 to 110.9 might be another example of people and businesses getting the message.

Looking at the international environment we see that the ECB is increasingly out of phase. Not only did the US Federal Reserve raise interest-rates but so did a central bank nearer to home.

At its meeting today, the CNB Bank Board increased the two-week repo rate (2W repo rate) by 25 basis points to 1.50% ( C = Czech )

The situation is complex as we wait to see if they depress the international economy or we shake it off. But the ECB remains with negative interest-rates when economic growth looks set to slow. What could go wrong?

Me on Core Finance TV

 

 

 

 

Both money supply growth and house prices look weak in Australia

The morning brought us news from what has been called a land down under. It has also been described as the South China Territories due to the symbiotic relationship between its commodity resources and its largest customer. So let us go straight to the Reserve Bank of Australia or RBA.

At its meeting today, the Board decided to leave the cash rate unchanged at 1.50 per cent.

At a time of low and negative interest-rates that feels high for what is considered a first world country but in fact the RBA is at a record low. The only difference between it and the general pattern was that due to the commodity price boom that followed the initial impact of the credit crunch it raised interest-rates to 4.75%, but then rejoined the trend. That brought us to August 2016 since when it has indulged in what Sir Humphrey Appleby would call masterly inaction.

Mortgage Rates

However central bankers are not always masters of all they survey as there are market factors at play. Here is Your Mortage Dot Com of Australia from yesterday.

The race to raise interest rates is on as two more major lenders announced interest rate hikes of up to 40 basis points across mortgage products.

According to an Australian Financial Review report, Suncorp and Adelaide Bank have raised variable rates of investor and owner-occupied mortgage products to compensate for increasing capital costs.

Adelaide Bank is hiking rates for eight of its products covering principal and interest and interest-only owner-occupied and investor loans.

Starting 07 September, the rate for principal and interest mortgage products will increase by 12 basis points. On the other hand, interest-only mortgage products will bear 35-40 basis points higher interest rates.

 

This follows Westpac who announced this last week.

The bank announced that its variable standard home-loan rate for owner occupiers will increase 14 basis points to 5.38% after ‚Äúa sustained increase in wholesale funding costs.‚ÄĚ

A rate of 5.38% may make Aussie borrowers feel a bit cheated by the phrase zero interest-rate policy or ZIRP. However a fair bit of that is the familiar tendency for standard variable rate mortgages to be expensive or if you prefer a rip-off to catch those unable to remortgage. Your Mortgage suggests that the best mortgage rates are in fact 3.6% to 3.7%.

Returning to the mortgage rate increases I note that they are driven by bank funding costs.

This means the gap between the cash rate and the BBSW (bank bill swap rate) is likely to remain elevated.

That raises a wry smile as when this happened in my home country the Bank of England responded with the Funding for Lending Scheme to bring them down. So should this situation persist we will see if the RBA is a diligent student. Also I note that one of the banks is raising mortgage rates by more for those with interest-only mortgages.

Interest Only Mortgages

Back in February Michele Bullock of the RBA told us this.

Furthermore, the increasing popularity of interest-only loans over recent years meant that by early 2017, 40 per cent of the debt did not require principal repayments . A particularly large share of property investors has chosen interest-only loans because of the tax incentives, although some owner-occupiers have also not been paying down principal.

So Australia ignored the view that non-repayment mortgages were to be consigned to the past and in fact headed in the other direction until recently. Should this lead to trouble then there will be clear economic impacts as we note this.

As investors purchase more new dwellings than owner-occupiers, they might also exacerbate the housing construction cycle, making it prone to periods of oversupply and having a knock on effect to developers.

In central banking terms that “oversupply” of course is code for house price falls which is like kryptonite to them. Indeed the quote below is classic central banker speak.

 For example, since it is not their home, investors might be more inclined to sell investment properties in an environment of falling house prices in order to minimise capital losses. This might exacerbate the fall in prices, impacting the housing wealth of all home owners.

What does the RBA think about the housing market?

Let us break down the references in this morning’s statement.

Conditions in the Sydney and Melbourne housing markets have continued to ease and nationwide measures of rent inflation remain low. Housing credit growth has declined to an annual rate of 5¬Ĺ¬†per¬†cent. This is largely due to reduced demand by investors as the dynamics of the housing market have changed. Lending standards are also tighter than they were a few years ago, partly reflecting APRA’s earlier supervisory measures to help contain the build-up of risk in household balance sheets. There is competition for borrowers of high credit quality.

Sadly we only have official data for the first quarter of the year but it makes me wonder why Sydney and Melbourne were picked out.

The capital city residential property price indexes fell in Sydney (-1.2%), Melbourne (-0.6%), Perth (-0.9%), Brisbane (-0.6%) and Darwin (-1.1%) and rose in Hobart (+4.3%), Adelaide (+0.5%) and Canberra (+0.9%).

You could pick out Sydney on its own as it saw an annual fall, albeit one of only 0.5%. Perhaps the wealth effects are already on the RBA’s mind.

The total value of residential dwellings in Australia was $6,913,636.6m at the end of the March quarter 2018, falling $22,498.3m over the quarter. ( usual disclaimer about using marginal prices for a total value)

As to housing credit growth if 5 1/2% is low then there has plainly been a bit of a party. One way of measuring this was looked at by Business Insider back in January.

The ABS and RBA now estimate total Household Debt to Disposable Income at 199.7%, up 3% on previous estimates,

The confirmation that there has been something of a party in mortgage lending, with all the familiar consequences, comes from the section explaining the punch bowl has been taken away! Lastly telling us there is competition for higher credit quality mortgages tells us that there is not anymore for lower quality credit.

Comment

If we look for unofficial data, yesterday brought us some house price news from Business Insider.

Australian home prices fell for an eleventh consecutive month in August, led by declines in a majority of capital cities.

According to CoreLogic’s Hedonic Home Value Index, Australia’s median home price fell 0.3%, adding to a 0.6% drop recorded previously in July.

That took the decline over the past three months to 1.1%, leaving the decline over the past year at 2%.

That is not actually a lot especially if we factor in the price rises which shows how sensitive this subject is especially to central bankers. If we look at the median values we perhaps see why the RBA singled out Sydney ( $855,000) and Melbourne ($703,000) or maybe they were influenced by dinner parties with their contacts.

This trend towards weaker premium housing market conditions is largely attributable to larger falls across Sydney and Melbourne’s most expensive quarter of properties where values are down 8.1% and 5.2% over the past twelve months.

Another issue to throw into the equation is the money supply because for four years broad money growth averaged over 6% and was fairly regularly over 7%. That ended last December when it fell to 4.6% and for the last two months it has been 1.9%. 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. Would that mean one more rally for the housing market against the consensus? Well it did in the UK as we move into watch this space territory.

Also this slow down in broad money growth we have been observing is getting ever more wide-spread,

 

 

UK money supply data continues to suggest weak economic growth

This morning brings us the data which will tell us if the UK has joined the trend in July for monetary conditions to weaken. It comes after a day where monetary policy tightened from another source. The comments from the European Union Commissioner Michel Barnier saw the UK Pound £ rally by 1% against most currencies and by 1.5% versus the Japanese Yen. This was equivalent to a 0.25% Bank Rate rise or what it took the unreliable boyfriend some four years to muster up the courage to do. This reminds us that in terms of monetary policy it is exchange-rate moves that are often the bazooka these days with interest-rate moves being more of a pea shooter.

The banks

The official story has been one of supposedly tighter lending standards in this area. This comes on two fronts because if we look back there were the promises made by politicians and banks that the mistakes which helped create the credit crunch would not happen again. There have also been several moves by the Bank of England to tighten standards the latest of which was in June last year. From Mortgage Strategy.

The Bank of England has tightened mortgage affordability rules to prevent loosening underwriting standards, which it warns will cause some lenders to raise interest cover ratios……….the new rule says lenders should instead consider how borrowers would handle a 3 per cent increase in firms‚Äô standard variable rates.

Yet on Monday the Financial Times reported this.

Britain’s banks and building societies are loosening lending standards and cutting fees to maintain growth, as competition and a weakening housing market squeeze profit margins. The number of mortgage deals where banks are willing to lend at least 90 per cent of the property value has increased by a fifth to 1,123 in the past six months alone, according to comparison website Moneyfacts.

We have noted such trends along the way and I note that below longer mortgage terms merit a mention.

Earlier this month, HSBC’s M&S Bank increased the maximum loan-to-value (LTV) on three of its mortgage products to 95 per cent, and extended the term it is willing to lend for to 35 years. In July, CYBG introduced a new 95 per cent LTV mortgage that also had a higher limit on how much it would lend relative to borrowers’ income.

Some are moving into more specialist or niche areas.

Andy Golding, chief executive of¬†OneSavings, which sells mortgages under the Kent Reliance brand, said particularly aggressive risk-taking was happening in some more specialist markets such as ‚Äúsecond-charge‚ÄĚ mortgages, a second mortgage on the same property.

Intriguingly in something of a complete regulatory misfire new rules seem to have encouraged this.

New rules that force banks to separate retail and investment banking operations have also had an effect ‚ÄĒ analysts at UBS estimated that the changes left HSBC‚Äôs domestic business with around ¬£60bn that could not be used by the rest of the group, encouraging it to expand its mortgage business and putting more pressure on competitors.

As to what I have already referred to as Mark Carney’s peashooter it is to some extent being bypassed.

Competition has forced companies to keep mortgage rates near historic lows even as their funding costs have risen. Competition has been encouraged by the growth of independent mortgage brokers, which has made it easier for borrowers to access a wider range of options.

UK Wealth

Perhaps the banks have drawn encouragement from reports like this which emerged from the Office for National Statistics yesterday. Apparently we are in the money.

The UK’s net worth rose by £492 billion from 2016 to £10.2 trillion in 2017 (Figure 1), which is an average of £155,000 per person in the UK.

The banks will no doubt have noted this approvingly.

Land was by far the largest contributor to the increase in net value, rising by £450 billion since 2016.

Good job they have managed to keep that sort of thing out of the inflation data! The apocryphal civil servant Sir Humphrey Appleby would have an extra large glass of sherry for a job well done. Meanwhile first-time buyers face higher prices which in other spheres would be recorded as inflation.

The banks will be quite happy to cheer along with this as it provides backing for their mortgage loans.

In 2017, the UK‚Äôs net worth was estimated at ¬£10.2 trillion; an average of ¬£155,000 per person…….Land accounts for 51% of the UK‚Äôs net worth in 2016, higher than any other measured G7 country.

So a bit over £5 billion. Whilst this may make the banks happy there are more than a few problems with this. I have already pointed out that at least some of this is inflation rather than wealth gains. This is something that reflects my work about inflation measurement where I argue that it is to easy to book asset price rises as wealth gains when inflation has also come to the party. Next there is the issue of using marginal house prices for an average concept like wealth as if we tried to sell UK land lock stock and barrel the price would plainly be a fair bit lower. Also there are the problems with house price indices giving different answers which means that really such numbers should be taken with not just a pinch of salt but the whole cellar.

Today’s data

If we start with broad money growth then the outright fall seen in June was not repeated but annual growth remained at 3.4%. So we have not repeated the falls seen elsewhere in the world but the annual rate of growth is not inspiring. If we move to lending the picture looks better as it has been picking up with annual growth going 2.7%,3.1% and then 3.3% in the last 3 months.

We see from the mortgage data why the banks are trying to boost lending as otherwise it looks like it would be slip-sliding away.

Households borrowed an extra ¬£3.2 billion secured against their homes in July. Net lending has been relatively stable over the past year or so, but this was the lowest monthly secured net lending since April 2017………The number of mortgages approved for house purchase fell a little in July, to 65,000, close to their average over the past six months.

Unsecured Credit

This has been a bugbear for a while and let me illustrate today by comparing the official presentation of such things with reality.

In July, the annual growth rate of consumer credit slowed a little to 8.5%. Within this, the annual growth rate of credit card lending was 8.9%, whilst the growth rate of other loans and advances was 8.2% – the lowest since March 2015.

The copy and paste crew have as presumably intended been reporting the number as if it is low. Indeed this sort of thing was encouraged by the Bank of England as this from LiveSquawk back in May shows.

Bank Of England’s Ramsden Says Weak Consumer Credit Data

It was growing at an annual rate of 8.8% at the time. So is 8.5% “very weak” Sir Dave?

If we return to reality we see that 8.5% compares with wages growth of 2.4% inflation on the highest measure is at 3.3% ( although care is needed here as Sir Dave is of course against RPI and its derivatives albeit that it is apparently good enough for his pension) and economic growth at 1.3% over the past year. So we see that in reality unsecured or consumer credit remains on quite a surge in spite of July seeing slower growth of £800 million. Putting it another way the growth remains extraordinarily high when we consider the way that one of the factors that has been driving it ( car sales) has fallen this year.

Comment

The good news is that the UK credit impulse did not weaken further in July and broad money lending improved a bit. The not so good news is that it was already weak meaning that the 0.5% GDP growth for the third quarter forecast by the NIESR looks like the peak of what it might be and we would be unlikely to maintain that in the fourth quarter. Perhaps the banks are feeling the weaker credit impulse and are responding via lower credit standards for mortgages.

Meanwhile unsecured credit is out of kilter with pretty much everything and must be posing its own risks as this has been sustained for several years now in spite of the official denials. If the banks have lowered credit standards for mortgages are you thinking what I am thinking? The reality is that it now amounts to £213.5 billion.

Also we should not forget business lending and regular readers will recall that the Funding for Lending Scheme from back in 2012 was supposed to boost lending to small businesses. How is that going?

The twelve-month growth rate of lending to SMEs was -0.2% in July; this growth rate has been at or below zero for the past four months.

For newer readers wondering about the past 6 years Bob Seeger and his Silver Bullet Band will help you out.

Cause you’re still the same
You’re still the same
Moving game to game
Some things never change
You’re still the same

 

Euro area money supply data looks worrying again

One of the features of the credit crunch era is that conventional economics not only clings at times desperately to theories that do not work but also looks the other way from ones which do. I have been reminded of that this morning as I look at the money supply data for the Euro area and note that there is not many of us who publicise it on social media. That is a shame as it has been working pretty well as a signal for economic trends in recent times. The experiments of the 1980s especially in the UK where money supply data was taken very literally taught us to use it for broad trends rather than exact specifics. But the broad trends have sent accurate signals which brings us to this mornings clues as to what will happen next in the Euro area?

Broad Money

From the European Central Bank or ECB.

The annual growth rate of the broad monetary aggregate M3 decreased to 4.0% in July 2018 from 4.5% in
June, averaging 4.1% in the three months up to July.

So the opening salvo returns us to thoughts of an economic slow down. If we look back for a general trend we see that the monetary stimulus lifted M3 growth to around 5% and it rumbled on around that sort of growth in 2016 and 17 with several peaks at 5.2% the most recent being last September. But December 2017 gave a warning as growth fell to 4.6% and this year has seen a clear dip especially when growth fell below 4% in March and April. June gave a hint of a recovery and ironically has been revised up to 4.5% but July has sunk back to 4%.

The rule of thumb is that looking ahead this is the trend for nominal GDP growth which provokes an awkward thought. If 4% is the new trend and the ECB hits its 2% inflation target as it is roughly doing now then annual GDP growth should also be 2%. So the “Euroboom” will continue to fade. Also of note is the fact that¬†in 2016/17 the ECB achieved a level of broad money growth which would be consistent with nominal GDP growth of 5% which we have seen several Ivory Towers make a case for. That may well have been the signal used for deciding the amount of QE bond purchases and other credit easing.

The overall growth can be broken down as follows.

 the annual growth rate of M3 in July 2018 can be broken down as follows: credit to the private sector contributed 3.3 percentage points (up from 3.2 percentage points in
June), credit to general government contributed 1.4 percentage points (down from 1.5 percentage points),
longer-term financial liabilities contributed 0.7 percentage point (down from 0.8 percentage point), net
external assets contributed -0.7 percentage point (down from -0.4 percentage point), and the remaining
counterparts of M3 contributed -0.8 percentage point (down from -0.6 percentage point).

I would counsel taking care with such numbers as this sort of mathematical economics is always advanced confidently by its proponents who in my experience become somewhat elusive when as happens so often it ends in tears.

Narrow Money

This is usually a much more direct line of impact on the economy of say a few months ahead as opposed to the a year plus of broad money. Accordingly this month’s release is not optimistic.

The annual growth rate of the narrower aggregate M1, which comprises currency in circulation and overnight deposits, decreased to 6.9% in July from 7.5% in June.

This is the lowest number for the series so far in this phase eclipsing the 7% of April. Overall the annual rate of growth has been falling for a while now. The double-digit growth of late 2015 and early 2016 drifted into single digits but it has been this year where a clear move lower has been seen. The 8.8% of January was followed by 8.4% and 7.5% and now we seem to be circa 7%.

The difference?

People ask for breakdowns and definitions of the above so here we go.

  • M1¬†is the sum of currency in circulation and overnight deposits;
  • M2¬†is the sum of M1, deposits with an agreed maturity of up to two years and deposits redeemable at notice of up to three months; and
  • M3¬†is the sum of M2, repurchase agreements, money market fund shares/units and debt securities with a maturity of up to two years. (ECB)

Putting that into numbers at the end of July M1 was 8050 billion Euros of which 1136 billion was cash/currency and the rest was overnight deposits. Moving to M2 brings us up to 11,486 billion Euros as we add in time deposits and more technical additions brings us to 12,130 billion Euros.

Negative Interest-Rates

The financial media often points us to the 0% current account rate of the ECB and looks away from the -0.4% deposit rate but some find it applying to them. From Handelsblatt.

Frankfurt¬†Starting in September, Hamburger Sparkasse (Haspa) intends to charge private customers a fine of 0.4 percent for deposits of more than ‚ā¨ 500,000.¬†This applies to checking and overnight money accounts.¬†The second largest German savings bank after Berlin¬†reacts to the European Central Bank (ECB)¬†, which in turn charges¬†the banks negative interest-rates¬†, which park money at short notice.

Handelsblatt goes on to tell us that around a dozen savings institutions are now applying negative interest-rates. There has been a slow spread of this since the first one to break ranks did so in the summer of 2016. This reinforces our theme that banks are in fact very nervous about what would happen to deposits if they fully applied negative interest-rates which has mean that relatively few have applied them. Also the way that they are usually applied to larger deposits means they are particularly afraid of applying them to the European equivalent of Joe Sixpack. In addition a lesson from the mortgage rates we looked at on Friday is that banks soon adjust margins to keep them out and usually well out of the negative zone as well.

Thus the fears about the profitability of “the precious” have proved mostly unfounded and in my opinion negative interest-rates would need to go deeper to change this. Past say -1% towards -2%.

Comment

The monetary data suggests not only that the “Euroboom” is over but that the trajectory looks downwards. As it happens that seems to coincide with monetary data for elsewhere in the world for July so a general trend may be in play as we wait a day or two for the UK data. For the ECB and its President Mario Draghi this has a couple of elements. The elephant in the room today has been the reduction in the QE ( Quantitative Easing) bond purchases which have fallen to 15 billion Euros a month from a peak of 60 billion. That has been a factor in the monetary slowing although how much puts us in a chicken and egg situation as it should be crystal clear but rarely is.

In a technical sense that may suit the ECB as it can slap itself on the back for its role in the better economic growth phase for the Euro area. But also it revives my argument that there has been an element of junkie culture here because if growth fades away as the sugar supply is reduced then all the talk of reform fades away too. With Germany running a fiscal surplus it will be less easy to fire up the QE engine looking forwards as there will be fewer bunds to buy and many are have remained at negative yields. There may well of course be plenty of Italian bonds to buy but that is a potential road to nowhere for the ECB.

Looking ahead the battle has begun to be the next ECB President but as the Bank of England may be about to show the earth can move in mysterious ways.

Carney reportedly asked to remain governor of BOE until 2020 ( @RANsquawk )

Although the ECB itself seems keen to emphasise other matters.