Economy As Conundrum

"Modern Money Theory"

Here's something that might surprise people. There's a new theory of modern money and it is going to piss off all the people wanting budget surpluses.

The MMTers claim that in the modern era of floating exchange rates and deregulated financial markets, governments can, and should, run deficits whenever they are needed. There is a strong moral case for this: in a modern economy, there's no good reason to have unemployed labour or capital. For the MMTers mass unemployment is a great evil and its daily, human cost dwarfs other economic challenges. 

They acknowledge there are limits to government spending. Resources in the real economy can be constrained and taxes are an essential tool to ensure demand for the currency and to cool the economy if it overheats. But there's plenty of scope for governments to print and spend money without causing inflation or triggering a financial crisis. MMTers say sophisticated modern economies like the US and Australia are in no danger of the hyper-inflation which plagued Zimbabwe last decade or Germany's Weimar Republic in the 1930s. 

Modern Monetary Theory has an intriguing link to Australia. The term was coined by veteran University of Newcastle economist, Professor Bill Mitchell, and he is a passionate advocate for the theory. 

Mitchell argues that outdated "gold standard-type thinking" – from a time when governments accepted effective constraints on how much currency they could print – is wrongly applied to the modern financial system with fiat currencies, floating exchange rates and deregulated financial markets. 

"The economics that apply now are nothing like the economics that applied under a fixed exchange rate, convertible system," he said. 

Mitchell says a fundamental problem is that most people, including politicians, wrongly equate government finances with managing their own household budget.
"The way mainstream economics is taught plays on that analogy all the time in the sense that the government has a financial constraint just like you and I," he said. 

If fact, says Mitchell, household budgets and government finances have nothing whatsoever in common. He doesn't even like to use the word "budget" to describe the government's finances because it implies they work like a household budget.
"A government that issues its own currency, like the Australian government, has no financial constraint. That's the starting point."

Which goes back to what Taro Aso was saying 5 years ago about the Japanese currency. Naturally, you can see a huge cadre of resistance to this notion of a government printing as much currency it needs. But in Japan, they've been doing this simply to stave off massive deflation that happens when the equivalent money simply sits in the banks. It remains true that printing money leads to inflation - but in the face of massive deflation, it might just be what is needed. After all, interest rates certainly have room to move up should inflation actually become a problem in Japan. 

In Australia, it might be a little trickier because there already is a Property Bubble that shows no signs of abating. If the government printed money, chance are it would get sucked into the property market and simply inflate prices there without ever heading out to where the capital is needed. In fact, it's not as if it's working great in Japan either because even with negative interest rates, the money tends to go from the Central Bank out to the banks and then doesn't get invested. It doesn't get invested because there's no demand. 

Which begs the question about helicopter money and just where this helicopter money is being dropped. For the last seven years, it is banks that have been getting the kid-glove treatment of low interest rates and Quantitative Easing programs to shore up their loan books and bottom line. Naturally the banks have bounced back strongly even as the actual economy has stayed stagnant in the G-20 world. When you think about it, the various QE programs and money printing programs on the whole have been showered upon banks. And there's no reason to think that banks would contribute to aggregate demand in the context where the banks are supposed to offer more credit to the already indebted private sector. Nobody wants more debt in this current context of record private sector debt. 

If the government really wants their helicopter money to work, you need to shove it straight into the pockets of the ordinary citizens to bolster their spending - not hand it banks in the hope the ordinary citizen decides to up their credit card limit when they're already n debut to their eyeballs. The obvious-as-daylight answer is that governments should spend more on welfare payments. Just ramp it up to a living wage and let the people decide how that money should be allocated in the economy. 

You can hear the howls of complaint that this is "rewarding" the 'dole-bludgers', but the point is, you're not going to get more aggregate demand out of a population that has little cashflow and maybe in hock to the eyeballs on credit. Debt relief from the bottom up is likelier to go along way. 

Two From Pleiades

If you want to know why banks aren't particularly helpful, well I've got just the pair of articles for you from Pleiades. 

The first is about how contemporary economic orthodoxy might be a big con job to enrich the 1%. 

The National Income and Product Accounts treat the interest, profits and other revenue that Wall Street extracts – along with that of the rentier sectors it backs (real estate landlordship, natural resource extraction and monopolies) – as if these activities add to Gross Domestic Product. The reality is that they are a subtrahend, a transfer payment from the “real” economy to the Finance, Insurance and Real Estate Sector. I therefore focus on this FIRE sector as the main form of economic overhead that financialized economies have to carry.  

What this means in the most general economic terms is that finance and property ownership claims are not “factors of production.” They are external to the production process. But they extract income from the “real” economy.

They also extract property ownership. In the sphere of public infrastructure – roads, bridges and so forth – finance is moving into the foreclosure phase. Creditors are trying to privatize what remains in the public domains of debtor economies. Buyers of these assets – usually on credit – build interest and high monopoly rents into the prices they charge.

In case you were wondering, the whole QE thing didn't really help people on Main Street; it basically fluffed the pillow for Wall Street so it could continue to exploit the real economy. That extract there also points out the folly of the Gillard Government when it wanted the post-mining-boom economy to be led by housing and construction. It was a dumb idea because houses aren't really capital investments in the sense that factories or even shop-fitting might be. A house is much moe like infrastructure. Once it is built, it does no provide production. Just like roads and public transports and utilities, it serves a vital function of providing shelter, but a house in of itself does not become a production centre in the economy. 

In fact, this great muddling of infrastructure and capital investment has become worse in the context of privatisation and Private Public Partnership projects whereby a project like WestConnex is deemed worth doing even though it will have zero positive effect, simply because it costs $18billion. The logic of the government is that if it pumps 18billion through the economy, something's bound to stick. It completely ignores the fact that if you spend $18billion and the outcome is zero effect, then you've wasted the time and money.

The reason the big end of town and especially banks like deals like WestConnex is because they profit first, and all the money that goes through their system somehow sticks into their profit structure through fees. But I digress.  

This brings me to the second article which posits that the global financial markets are a great big Ponzi scheme:

HUDSON: Here’s what happened. Marx traumatized classical economics by taking the concepts of Adam Smith and John Stuart Mill and others, and pushing them to their logical conclusion.

Progressive capitalist advocates – Ricardian socialists such as John Stuart Mill – wanted to tax away the land or nationalize it. Marx wanted governments to take over heavy industry and build infrastructure to provide low-cost and ultimately free basic services. This was traumatizing the landlord class and the One Percent. And they fought back. They wanted to make everything part of “the market,” which functioned on credit supplied by them and paid rent to them.

None of the classical economists imagined how the feudal interests – these great vested interests that had all the land and money – actually would fight back and succeed. They thought that the future was going to belong to capital and labor. But by the late 19th century, certainly in America, people like John Bates Clark came out with a completely different theory, rejecting the classical economics of Adam Smith, the Physiocrats and John Stuart Mill.

HEDGES: Physiocrats are, you’ve tried to explain, the enlightened French economists.

HUDSON: The common denominator among all these classical economists was the distinction between earned income and unearned income. Unearned income was rent and interest. Earned incomes were wages and profits. But John Bates Clark came and said that there’s no such thing as unearned income. He said that the landlord actually earns his rent by taking the effort to provide a house and land to renters, while banks provide credit to earn their interest. Every kind of income is thus “earned,” and everybody earns their income. So everybody who accumulates wealth, by definition, according to his formulas, get rich by adding to what is now called Gross Domestic Product (GDP).

And there, lies the trick. 

The dirty big secret is that banks are not a productive part of the real economy. They have never lent to business as stated in the current economic theory. When you think back to medieval banking, they sure didn't lend to businesses. The Medicis lent to governments and sovereigns - as did the Rothschild banks in the 18th and 19th century. Historically, and traditionally, banks simply don't lend to businesses if they can get away with not having to do so.  Thus we begin to understand why all the helicopter money thrown about from the successive Quantitative Easing regimens have done so little to add to aggregate demand. The banks simply used that money to shore up their bottom line and handed the profits to the rentier classes. All that money created in the USA and Japan, ended up in the vaults of banks with no intention of being actually utilised. But you be your bottom dollar it got counted towards GDP when they paid themselves. 

The rebound of the Big Four banks and Macquarie Bank in Australia tells a story where the historic low interest rates have  allowed the flow of money to the rentier class as well. House prices have stayed inflated, but everybody is up to their eyeballs in debt. Even if interest rates were cut to zero, it's not going to help the ordinary citizen, but it will add fuel to the rush of money heading to the 1% -  money which will stay unproductive and mostly locked into more rentier activity.

If you don't believe me, just today there's something on Macquarie Bank.

There are no flies on those Macbankers. No sooner had they tapped taxpayers for help during the global financial crisis than they raised $25 billion on global bond markets with a sovereign guarantee. It saved their bacon, then, with breathtaking flair, they doubled down. 

Until now, it was common knowledge that the bank merely lent out its cheap government-guaranteed money again at higher rates and pocketed the difference. 

What we didn't know is the quality and quantity of the loans. Revelations by the Australian Financial Review's this week however established the bank has since ploughed $33 billion into junk loans.

It is the biggest junk bond binge in the nation's history, a sub-prime tour de force.
Unlike other famous gamblers such as Wild Bill Hickok and Nick The Greek, who punted their own money, the Macbankers – newly monikered the Junk Yard Dogs – have gambled everybody else's, after blithely leveraging it 10 times.

The upshot is that the bank now has more junk debt than it has equity and its default rate is five times that of the major banks. 

It poses the question, should taxpayers be subsidising, not just Macquarie's garish executive bonuses, but standing behind what appears to be more of a leveraged hedge fund than a bank?

How the hell are those junk bonds going to help aggregate demand? Clearly the helicopter money went to the wrong part of town to shore up aggregate demand. The better thing to do would be to hand the welfare recipients more money and raise interest rates, and stop pretending going back to surplus is something noble (It's not - it shrinks the real economy). We might even get back the semblance of the real economy we once knew. Heck, it might even grow at 5%. All the same, you don't even see the ALP advocating this because they too have drunk the 'Budget Surplus Is Good' Kool-Aid as well. It's a real shame the lobbyists keep winning in Canberra as they do in Washington D.C. and Tokyo. 

Quick Shots - 06/Nov/2015

That's Not Chump Change

Making the headlines is how increased regulatory scrutiny has revealed there is an additional $50 billion of property investor loans on the banks' books. This is such a big discrepancy, it was enough to boost the portion of investor loans on banks books from 35% to 40%. Naturally the RBA is letting it known they are unhappy.

The Reserve Bank's deputy governor has scolded the banks over poor home loan data that is "complicating" its understanding of the housing market and clouding its ability to make and enact policy decisions. 

In a strongly worded speech delivered at the Finsia regulators' panel in Sydney on Thursday, Philip Lowe said he was surprised and concerned over recent problems with the data relating to banks' owner-occupier and investor housing loans, a development he described as disappointing.

Disappointing might be an understatement. Figures like this mean the banks are far more precarious than previously thought.

Ross Garnaut Spells It Out

With all this talk of tax reform you would think that they were going to make taxation feel good. They're not. Yet it also needs to be said that the whole reason they should look for efficiency and better balance is to spur better growth in the economy. So in the quest for more revenue, the government's going to hurt our wallets, but it's all for the good of the economy so that you'll get something in your wallet again, okay? Uh-huh.

Ross Garnaut has come out swinging saying that there's no point in doing taxation reform if it adds to the inequality.

"Does increasing inequality and stagnant or declining real incomes of ordinary people in the developed countries matter if it occurs alongside rising incomes in the developing world?" he said. 

"I think it does," he said. "Stagnant incomes for most people place a great strain on a democracy. Governments tend to be nasty, brutish and short. 

"If there was any doubt about this simple reality, it was removed through observation of the fate of the Abbott government. We have no experience of democracy flourishing with stagnant or declining living standards for most people."

As strange as that seems, he's got a very big point. If at the end of raising the GST, and then compensating the low income earners, and they are worse off for the exercise, the taxation system being more balanced and efficient isn't going to do much for the betterment of society.

It's true that unbalanced taxation systems give rise to perverse incentives. The same could be said of all the corporate welfare given to rentseekers. When you look at the kind of money the GST may raise (the maximal version sits at about $130billion), and you look at how much corporate welfare is expended, one might think it was stupid not to cut the corporate welfare first before raising the GST. 

Hypocrisy At Its Most Shameless

George Brandis is a funny man, isn't he?

Attorney-General George Brandis has hit out at criticism of Tony Abbott's religious beliefs, describing the "ridicule" to which the former prime minister was subjected as "bigotry at its most shameless". 

Senator Brandis, who last year defended people's "right to be bigots" amid debate over proposed changes to the Racial Discrimination Act, has told a roundtable meeting of religious and non-religious representatives that "religious freedom is every bit as important as political freedom".

So, the man says people have a right to be bigots. AND the ridicule of Tony Abbott's religious beliefs  was bigotry at its most shameless" because Tony Abbott is religious freedom to have his religion the way he likes it. I mean, by his own reasoning, the people doing the ridiculing of Tony Abbott have a right to be doing it; he can't very well be complaining about the kind of ridicule when he's not willing to stand up for others, like say, Muslims.

Besides which religious freedom does not include freedom from ridicule. Get over it George; especially if you go around espousing freedom of expression.

He then says Catholics cop it hard from prominent intellectuals and this is bad. But he's a Liberal Party MP - it's not that long ago that the Liberal and Nats on one side and the ALP on the other, was a cover for a Protestant/Freemasons versus Catholic split. It's kind of weird seeing Liberals who are Catholics, and Liberals who want to defend Catholicism. 

Really, the world has changed. 

Puncher & Wattmann

I started part-time work at the niche publisher this week. It's pretty cool so far. It's closer to home, the work's pretty clear cut. There's lots of it, but that's the good part. I won't starve, get bored, live in anxiety or for that matter lose headspace to the work. It's just what the doctor ordered. 

News That's Fit To Punt - 02/Oct/2015

The Bubble We Had To Have

Not sure how people construct notions like that, but here you can see it as the headline.

"The government has to try and talk it down and say it's inflated, but at the same time all they can try and do is control the ongoing growth as best they can," Mr Van-Petersen said. "If they wanted to prick it, they could, but Australia simply cannot afford to." 

New Zealand and Singapore have enacted strong policies to force adjustments in housing markets and Mr Van-Petersen said Australia could easily deflate the bubble by pulling the stamp duty tax charged to foreign buyers from properties of more than $15 million to, say, $1.5 million. 

But the property market is one of the few areas of the economy that is growing adequately as terms of trade plummet and mining companies shed value because commodity prices are falling in light of a slowing China. 

"Australia can't afford for property to have a hard landing. If housing prices bust, the banks will get hit hard. And then what is there? It's in everyone's interests right now."

Pretty spooky when they couch it that way. There are lots of places and things that can't afford to have hard landing - for instance China - but we know they're going through one as we speak; and if we are to understand correctly how our real estate market is connected to the Chinese economy and the money trying to get out of China, then it's likely not going to be the happy 9.8% growth prognostication.

What Banks Are Doing To Hide Bad Credit

You won't hear this anywhere else. This is my exclusive. :)
Recently a 20year old kid borrowed 25k from one of the Big Four banks. At the time he had a steady job, and he had the patter to sound like he was a good bet to pay it back. So they lent him 25k with a 5year repayment schedule. He then went and splurged the 25k on what you and I might surmise are more toys than chattels or assets. Then he lost his job and couldn't pay. Thus he marched into the bank and told them the situation. They asked him just how much he could pay, and he replied $20 a month. So the bank said that was okay and took the $20 per month on good faith. It took a few months for him to find a job again but by then the bank unilaterally closed out the account, saying the 25k had ben paid (news to the kid, he couldn't imagine who it might be). What happened is unclear, but basically the bank told him because the loan had been paid off, the loan account was closed.

I know it sound amazing but it's true. The bank closed out the 25k in bad debt by writing it off quietly, rather than pursue the money. The 20year old kid effectively walked out of the bank 20k or so richer, for no reason other than the bank didn't want that bad loan on its books. So the banks purged the bad loan off its books.

The question you should be asking yourself is, just how much of this kind of things going on? How safe then are the Big Four banks? I'll leave that with you to decide.

There's Water On Mars

The big announcement of the week was that NASA says there's liquid water on Mars. It seems like it's been coming for a long time, but it's taken until 2015 for NASA to verify all the data and say, yes, there's liquid water on Mars. If you stop to think about it, it seems quite obvious that there would be water, and liquid water at that given the conditions of the planet, but that is just an aside. Science says, not until all the data is in, is it incontrovertible, so here we are.

The weirder turn was how Ridley Scott knew that NASA knew, but couldn't revise his film 'The Martian' to include that new discovery, because it would have let the cat out of the bag. Ridley Scott also made news in that he spoke to Foreign Minister Julie Bishop saying he wanted to shoot the sequels to 'Prometheus' in Australia.

The fact that there is liquid water on Mars bodes well for a possible future human colony on Mars.What doesn't bode well still are the low gravity, thin atmosphere and punishingly cold temperatures. It's not like we can grow things with much ease on Mars which means we won't be getting a food cycle happening easily. Ironically, what Mars needs for human habitation is a good dose of greenhouse effect.

View From The Couch - 13/Aug/2015

Double Dose of Chinese Reality

For two days in a row, the Chinese government devalued the Renminbi in what is seen as a currency war. Xi Jiping denied it was a currency war, but sometimes when you get punched in the face, you have to accept it's a fight even though the other guy denies it was a punch thrown in anger. The devaluation hit the AUD as one would expect seeing that we are a handful of economies that are seen to be largely commodity-driven. Indeed, Brazil might be the only other nation that is just as deeply dependent on commodity exports and specifically exporting them to China.

As it stands we saw the bourse drop in Australia, as well as seeing the AUD drop 1.3% before it regained some ground. The good news is that China's share market crash doesn't reflect the entire Chinese economy; much in the same way that the All-Ords does not reflect the entire Australian economy. The bad news is that taken as a whole, the collapse in the Chinese markets as well as the devaluation and the resultant drop in the AUD and the ASX are all part of the one big picture where by China is struggling to adjust to slowing growth.

China of course even denies it is doing the devaluations because of the slowing economy. If a government lies this much about what it is doing, do we ever trust it with any announcement? It's hard to say. There's a certainly level where if it talks like a duck and walks like a duck but denies it's a duck, you call it a duck at your own peril because it's a duck that's in charge of 1billion people of the planet, and you never know what might do with those numbers.

A quick look at Brazil suggests that this downturn in demand for its commodity exports as wells the devaluation of the Yuan indicates this is a terrible thing to have happened to Brazil, one year out from their staging of the Olympics. Iron ore, copper, oil are all falling. Even agricultural commodities are falling to 6 year lows and 7 year lows. Those figures have not been this bad since 2009 when the markets turned around thanks to Quantitative Easing by the US Fed. Naturally, Australia is not too far behind in being hit by investors because the income we thought we had coming from China doesn't seem to look like it's going to materialise. It's not a catastrophe yet - but as Rob Gordon asks, does "yet" mean we will eventually end up doing/witnessing/living the catastrophe?

On The Radio They Said...

I caught a snippet on the radio in Pleiades' car today. They were saying that as unemployment has gone up, so has personal loan defaults. The bank spokesperson also said so far loan defaults have not broken out amongst mortgage holders, but they are "keeping an eye on it". An interesting thing is happening with the banks: they are posting record profits on then hand, but they're also raising capital from their shareholders. That bring up the question - why?

Obviously Basel II means they have to have a certain amount of cash handy to withstand any shocks to the financial system, but it's also curious that ANZ, NAB and the CBA have all chosen to undertake the raising of capital this year. If nothing else, it telegraphs they are expecting trouble. If China really falters, then there will be deeper impacts to Australia's economy. Investors will run to the door. If that brings about a collapse in the property market in Australia...

It's Still 'Binfield For Bankers'

The Banks Are Not Safe As Houses


Pleiades wanted me to have a look at something today to do with banks in the AFR. It's behind a pay wall so I can't really be copying and pasting the whole thing, but I want to share some things he wanted me to see:

The big four had been desperately pleading for APRA to kick the FSI's all-important capital and risk-weight can down the road at least 12 to 24 months. In its response, CBA amusingly had the regulator considering the recommendations through to 2018. Perfect for 27 times leveraged big bank bosses that can continue punching out 19 per cent returns on equity until policymakers wake up. 

That leverage number, by the way, is based on APRA's latest estimate of the big banks' assets divided by APRA's calculation of their common equity tier one capital as at December last year. Another way of expressing the same point is that the majors carry real, or non-risk-weighted, equity capital of just 3.7 per cent of assets. Perversely, you cannot get a home loan from the same banks providing that little equity, with most capping loan-to-property value ratios at 95 per cent.

------------ 

During a briefing with Murray for a panel session at The Australian Financial Review's Banking & Wealth Summit this week, he said it was "incredible" that the equity the majors hold against their home loans was completely destroyed in APRA's 2014 stress tests. The better capitalised regional banks had no such difficultly and were able to cover the losses flowing from the simulated defaults in a 1991-like downturn. 

The result should not, though, have been surprising. One only needs to read Westpac's response to Murray's report. The $114 billion bank revealed it only holds "capital of 1.32 per cent" against $468 billion of home loans (see second chart). That means Westpac is leveraging its wafer-thin equity 77 times when extending half a trillion dollars of finance to home owners, which is exactly the same leverage estimate we calculated in this column in July last year. Imagine how Westpac would react if you told them you could only provide a 1.3 per cent deposit for your home.

Which is to say the big 4 banks are really leveraged to the max on the strength of the Too Big To Fail guarantee. During the GFC, the Federal government under Kevin Rudd made courageous decisions to shore up the Big 4 banks plus Macquarie so they wouldn't collapse. By that, we mean so that something like 70% of Australians wouldn't lose their savings and deposits in a flash. Since then there's been BASEL and BASEL II to make sure banks held enough capital, but of corset was voluntary for the big banks to sort outlier ledgers. Somehow -  unsurprisingly - the Big 4 banks have dawdled on sorting out this issue and remain utterly vulnerable to the kind of seismic shift in the market place that could deprive them of liquidity or place them on the wrong end of a big margin call.

Which is kind of scary. The Federal Government under Tony Abbott might not be in a position to shore them up for ideological reasons or simple lack of brainpower or excessive love of  laissez faire neo-classical economics. Unlike under the ALP where they pulled out all the stops to make sure the banks didn't explode, this is a government that made all the noises to ensure Ford and General motors and Toyota gave up manufacturing automobiles in Australia for ideological reasons ("ending the age of entitlement!"). If something should happen, they will necessarily fuck it up because it's not so much in their blood or DNA, but in their defective ideology and therefore headspace.

Still, I shouldn't be slamming them for the fuck-ups of the Christmas Future they are yet to make. Nonetheless those Westpac figures are terrible. They sit as a grim warning to the irrational exuberance surrounding property prices in Sydney. And while it's having a difficult time figuring out a scenario in which the property Bubble pops in Sydney, if that should happen, it's going to be the Armageddon of banks we all feared when the GFC broke. 8years on, they've done nothing to fix the deer problem and set themselves up for bigger fall instead. What on earth were they thinking?

Sometimes these bankers and central bankers and prudential regulatory authority people live in a cloud of their own with gilded cages and distorted perspective. It's even more disturbing that they probably donate more towards the conservatives in the hopes of less regulation and after a generation of less and less regulation and oversight, they've created the current precarious position. Australia's economy might be advanced and post-industrial, but it is small. If the world's central banks are in Zero Interest Rate Policy land and can't get out of it, it's reasonable to think that Australia will be dragged down to that level. At a certain point there is no horizon for future growth - we'll arrive at the effective endpoint of development like the rest of the advanced economies have done. At which point it's conceivable that the only thing that can grow are house prices independent of any other economic indicator, and that is what is happening in Sydney - there is nothing but property to speculate upon, and that is why all the money is being printed by banks to place bets.

It sure is bleak.

View From The Couch - 19/Sep/2014

I Was Wrong (Again!)

Some time ago before Tony Abbott came to power, I made the awful observation that a Tony Abbott Prime Ministership may well be a DLP government with all kinds of BA Santamaria-like notions making their way in to the Liberal Party position. That, even if Abbot had own, in some ways the Labor party in one guise or another would leave an imprint on things.

One year along, I have to admit, that was totally hopeful, wishful ,idiotically optimistic blather; clearly it was one of those stages of grief called negotiation. During the process of moving the blog back here, I had to confront the reality that as awful as the Gillard ALP government got, nothing could have prepared us for the ongoing enormous clusterfuck that is the Abbott government. For that I cannot apologise to my readers enough.

It was always going to be bad; it is bad, and it's not going to get better - just worse.

No Such Thing As An Energy Superpower

Pleiades sent in this article about how this notion of an energy superpower is misguided.

Former Treasury secretary Ken Henry gave a speech on Tuesday outlining the danger that we have fallen under the spell of a narrative which says the route to economic prosperity is built on exports above all else. 

Henry pointed out that a focus on improving the competitiveness of our exporters was a good thing, but this was part of achieving the final end-game – improving both present and future Australians’ overall quality of life. Henry noted that this focus on exporters was very useful in helping the general public to see the value in a range of economic reforms which unfolded over the 1980s. Yet these reforms were, in fact, great for the economy as a whole – not just exporters. However, he was worried this heavy emphasis on export competitiveness was now acting to distort public debate in ways which distracted us from the final end-game. 

Unfortunately, this government is in real danger of falling for a sub-narrative related to this, one that has its roots in the 1970s but doesn’t make sense today. 

A range of statements from this government seem to suggest it believes that Australia’s economic prosperity and competitive advantage rides upon the availability of cheap energy for domestic use.

Because the Abbott government is basically a mouthpiece for the corporate control of this country and wants to do the bidding of the rich mining magnates - except Clive who went into politics instead of simply buying it - we keep getting this distorted view that somehow mining and its support industries are somehow the most important thing in the Australian economy. Hence the twin repeals of Carbon Pricing and Mining Rent Resources Tax can be made to look like important planks of an imaginary tax reform agenda when in fact all it does is absolve the same mining magnates from having to pay tax for their polluting ways and pay less on their excess royalties.

Be that is it may, the whole point of having energy in proximity to other resources for doing things as a benefit, has been shot out of the water. We certainly don't do steel any more, and this is in spite of iron ore being as abundant as coal. We don't do chemicals and chemicals is intensive on gas - and we sell what we have already and it's over-priced. Building materials is the third plank but of course this stuff weighs too much to be shipped around the globe - so as with steel it's not really going to be an export winner.

Therefore it's worth noting this bit:

Even if Australia’s major competitive advantage is cheap energy and, particularly, cheap electricity for domestic use – it ain’t worth much. What does seem to be far more valuable is the exporting of energy to others. 

If Abbott and Macfarlane think we’re going to get rich on the back of being an affordable energy superpower they’re fooling themselves. So time to abandon that narrative.

And that just about sums it up. This illustrates yet another way in which this current government really has no idea what it is doing with industrial policy.

How Risks Layer Up

There was a bit of argy-bargy this week about whether Australia's banking sector is in fact healthy. It's implicitly tied up with whether the big 4 banks are borrowing too much, and further still, whether they are lending out to the wrong areas, feeding a bubble in property (although the worst-treasurer-ever Joe Hockey says it's not a bubble, it's just a shortness of supply). I'm no economist so it's hard to go to charts and demonstrate how the risks are layering up, but I think I can offer up some issues that might make people a little more concerned.

The news this week included reports that house prices are up in Sydney and Melbourne, but the majority of buying was done by investors. First time buyers have declined to historic lows. This suggests - no let's be more blunt - this underlines the fact that the worst-treasuer-ever Joe Hockey is entirely wrong in his statement that it is a shortness of supply. Again, going back to the definition where price inflation is too much money chasing too few assets, it's easier to explain that the ordinary dwelling-buyer has receded to give ground to speculators who are chasing the short supply, pushing up prices. Whether one calls this price inflation a bubble or not is academic next to the rampant speculation going on in the property market.

Amazingly, banks want to be in this market rather than in the business of lending to businesses. So instead of lending to a business that might want to invest in capital and ratchet up production, banks have lined up to lend money to people who are flipping houses. Not only are they doing it as fast as they can, they're doing it as big as they can. It has the net effect of making banks look bigger because they're lending out more money to cover the same few positions. Once again, you see the definition of inflation right there. It's a misallocation of capital.

Here's the thing. If people are using their self-manage super funds to be in property to speculate, that's one thing. But ordinary people have superannuation in funds, which in most part are exposed to equities and indexed, so they too would be exposed to banks. The ordinary folks might even be exposed to REITs who also borrow heavily and put money into property. And every week/month/quarter, the super money keeps going into these funds and gets dispersed and invested, which largely goes to chasing the ever-diminishing pool of assets, pushing up prices even more.

Just for the sake of the argument, even if there isn't a bubble in property, that's a lot of risks lining up onto property. Consider for a moment the mining construction boom is over, manufacturing is beating a retreat under the Abbott government; retail is hurting thanks to competition from on-line merchants,; agriculture is getting bought out by overseas entities in an ever increasing rate; just why should finance and property be so far ahead of the curve when the rest of economy is crawling along? If the whole of Australia is growing at around 3%, wages aren't growing at all, why should property be growing at a 15-18% clip, if not but for a misallocation of capital?

Not only that, what happens when there is a crisis to the banks? A lot of debt positions are going to be wound up and a lot of it is going to happen in the property market first. Not only will property prices be hit, banks will look insecure, the stock market will crash and take people's superannuation with it. The Australian government will probably do everything it can to keep prices inflated, but that's essentially where we are at in Europe and Japan. Nobody wants to take a hit on their major asset, so everybody agrees to socialise the losses and cut welfare.

Do people really think the worst-treasuer-ever Joe Hockey is credible when he says there isn't a property bubble in Australia? Oh, and by the way, we've gone to war now.

Steve Keen Says...

Some Sobering Graphs

Pleiades pointed me towards this last week and this week. Having read through the 2 installments I couldn't tell you which one was more frightening. Lets try a taste from the first week first:

While wages have risen, the 2.8 times increase in loan repayments means that mortgage payments on an average first home loan have gone from taking 40 per cent of after-tax income of the average worker in the 1990s to 64 per cent now – after reaching a peak of 74 per cent in late 2008 before the RBA slashed interest rates (the ratio fell to 53 per cent, and it would have fallen further had the first home vendors boost not caused house prices to skyrocket again).

In the early 1990s, a young wage earner could aspire to financing a house purchase using his or her income alone. Now, that’s out of the question.

Faced with this level of potential debt-servicing costs, young would-be house-buyers are giving up on the dream of home ownership – and its attendant nightmare of debt peonage. Recently there have been calls for a first home buyers' strike. A 'buyers’ strike', whether organised or not, is what will end the Ponzi scheme of debt-inflated house prices, because like all Ponzi schemes it only continues to work so long as new entrants outweigh those trying to cash out.

That's it in a nutshell. There are some interesting graphs that follow but the take home point of the first article is that yes, there's a bubble going on, and it's gettng to the point where the bubble can't be supported by the willing participation of the market. Cutting to the chase, the growth in mortgage debt is at once the secret of our banking sector's success. Here's the elaboration in the second article:

Looking back over past data there are several consistent patterns that can be seen.

Firstly, house prices and bank shares are correlated. There was one aberration – the 1970s – but that was marked by peculiar dynamics arising from the historically high inflation at the time. Generally, bank shares go up when house prices rise, and fall when the fall.

Partly, this is the general correlation of asset prices with each other, but partly also it’s the causal relationship between bank lending, house prices, and bank profits: banks make money by creating debt, rising mortgage debt causes house prices to rise, and rising house prices set off the Ponzi scheme that encourages more mortgage borrowing. The bubble bursts when the entry price to the Ponzi scheme becomes prohibitive, or when early entrants try to take their profits and run.

Secondly, the fall in the bank share price is normally very steep, and it occurs shortly after house prices have passed their peaks. Holding bank shares when house prices are falling is a good way to lose money – and conversely, if you get the timing right, betting against them can be profitable. That’s why Jeremy Grantham – and many other hedge fund managers from around the world – is paying close attention to Australian house prices.

Thirdly, house prices and bank shares are driven by rising debt, and when debt starts to fall, not only do house prices and bank shares fall, the economy also normally falls into a very deep recession or depression. This is the crucial role of deleveraging in causing economic downturns, including the serious ones where debt falls not just during a short cycle prior to another upward trend, but in an extended secular decline.

There is also one cautionary note about the current bubble: though history would imply that there is a very large downside to bank shares now, it’s also obvious that bank shares fell a great deal in 2007-09, so that much of the downside may already have been factored in.

It's well worth checking into those pages to have a good look at the graphs because they're very scary. The graphs bear very close inspection. The numbers clearly tell us we're in one big mighty property bubble. The rest of what is said to describe it is window-dressing.

I'm wondering how all this leveraging into mortgages is going to get de-leveraged when we fully switch into the 2speed economy where miners will  boom and drive inflation while the rest of the economy gets taken for a ride. There's some pain up ahead if you aren't somehow hooked into the mining sector, and if your career's all about finance and banking, then you may well be in for a mighty wallop when the bubble bursts. It's going to be the Australian financial crisis. We're going to hate every bit of it, just as people  in the rest of the developed world are hating their post-GFC medicine right now.

Binfield For Bankers - 15/01/10

"The Nerve Of The Guy!"

Lloyd Blankfein, head of Goldman Sachs, the leading investment bank that led the markets to the brink in the GFC says he's sick of apologising for it.

Called to Washington on Wednesday to testify before the Financial Crisis Inquiry Commission, Mr Blankfein made it plain that he was done apologising.

The commission chairman, the former treasurer for California, Phil Angelides, pointed out that some regarded Goldman's behaviour - in which the firm sold mortgage securities to customers and then placed bets against those same - was ''the most cynical'' of practices.

''It sounds to me a little bit like selling a car with faulty brakes and then buying an insurance policy on the buyer of those cars,'' said the chairman.

''That's what a market is,'' Mr Blankfein said.

''I do know what a market is,'' Mr Angelides replied sourly. He tried again to get Mr Blankfein to acknowledge that ''excessive risk was being taken''.

''Look, how would you look at the risk of a hurricane?'' the man from Goldman retorted.

''Acts of God we'll exempt,'' Mr Angelides said. ''These were acts of men and women.''

What do you do with people like this? I'm surprised there isn't  vigilante group out to find where he lives and fire bomb his property.Not that I'm advocating it, but you wouldn't be surprised if it happened.

CBA's Profit Upgrade

Get this. The CBA has made a huge pile of money in a year of the GFC.They've upped their profit forecast by a dirty big margin, sending their shares up 2.31% in the last 15minutes of the trading day.

Key drivers of the result were the solid income growth across the business, good volume growth, disciplined cost management and a decline in impairment expenses, the bank said.

Also helping the result was a positive return of $240 million after tax as equity markets recovered over the six month period.

The profit forecast shows that CBA has rebounded from the slowdown associated with the global financial crisis, and is driving earnings higher with its biggest market share in home loan lending and deposits.

EL&C Baillieu analyst Stewart Oldfield said CBA is just getting stronger.

‘‘They have got the premier retail franchise in the country and it’s a case of the strong getting stronger,’’ Mr Oldfield said. ‘‘In an environment post the GFC the strongest have just gotten stronger.’’

I guess it's a company that won't be allowed to fold, so you would buy their shares.  Lots of institutional buyers in that one, judging from the volume. It's about recaptured its peak from just before the GFC.

So seriously, what exactly the hell was the GFC to Australia? Iceland's been completely shafted by the GFC and here's Australia sailing smoothly as if nothing had ever happened. Take this column on unemployment.

Yesterday’s confirmation of labour market strength makes a return to neutral monetary policy a given. It used to be thought that a neutral cash rate was about 5 per cent, but the banks boosting lending rates by more than the RBA’s official increases has lowered that a touch. And with higher personal debt loads, it’s arguable that the RBA doesn’t have to do as much to achieve its desired impact on purses and wallets.

So, pick another number. Maybe neutral now is more like 4.5 per cent, just three more consecutive monthly rate rises of 25 points and we’d be there.

And, as the RBA has reminded us, just because it hasn’t done something before, it doesn’t mean it won’t do it.

Also remember that the unemployment rate is supposed to be a lagging indicator, in which case the extraordinary straight-line employment growth since June is all the more amazing, even while being the sort of performance that naturally has any graph watcher thinking that there must be some sort of pause at some stage.

In other words, if you're an employer, the labor market is tight, inflation is knocking on the door, the economy is right back to the point where it is about to overheat, as it was in July 2007.  It's worth asking, what exactly the hell was the GFC and all that drama? Because as of today, it's looking like it never happened for the big banks.

From The Mailbox - 13/01/10

4-Piles-Of-Dung Policy

The famous 4 pillars policy of Australian banking regulation is a bit of two edged sword. The problem is that it is anti-competitive to only have 4, but anything smaller either was going to get swallowed up or has already been swallowed up. On the other hand, it was anti-competitive enough that they didn't feel a rush to place bets on sub-prime loans... allegedly. Either way the Australian consumer gets to feel smug and mugged at the same time.  It's fascinating to see. :)

With that said, I want to share with you this link from Pleiades:

Since it became clear to our Government that the local economy could not remain immune from the global downturn, the public largesse handed out to the self proclaimed 'healthy' banks has been astounding. We've had deposits guaranteed, all overseas borrowings guaranteed (using the Federal Government's credit rating), car dealer finance has been propped up and former CEO aspirant at the NAB, Ahmed Fahour, is now in charge of the aptly named 'Ruddbank' which has been designed to support the commercial property sector (to which the Big Four Banks have over $100bn of loan exposure).

The question which now comes to mind is this - as is the case with A.I.G., do Australian banking executives need to be paid large salaries and bonuses when the ever grateful taxpayer is the one doing all the heavy lifting? As a free marketeer I'm happy for any bank brave enough to wean itself off the public teat to pay its senior people whatever it likes. But while my (and your) money is being used to support their businesses, I say it's time for banking bonuses to be stopped.

Like I said, it's pretty interesting to see. It's a good question indeed to ask, how com our banks get propped up and their top execs get to keep their top pay?

Here's another link from Pleiades:

Australia is undoubtedly over-banked. The banking regulator, APRA, lists over 190 ADIs (Authorized Deposit-taking Institutions) for which it is responsible, including foreign and domestic banks, credit unions, building societies and various specialists. That works out at one whole bank for every 120,000 Australians (men, women and children). For comparison, the largest bank in the USA, Bank of America, reports almost three times as many customers as the entire population of Australia. Who picks up the bills for all of this duplication and waste in this country - the Australian consumer!

The big banks have long claimed that the Four Pillars policy restricts them from growing, presumably overseas since the local market is saturated. The creation of an OzzieBank would free up the banks to go their own way if they wanted to, although they might find the going a bit tough without an implied government guarantee and the resulting AA credit rating.

But the needs of Australians for basic banking services are changing anyway. Young Internet savvy customers are demanding services delivered instantly and electronically on their iPhones. Ageing baby boomers have less need of traditional banking services but increased demand for superannuation advice - which is why banks are piling into that particular niche, with little evidence that they will do it any better than the incumbents.

I'm actually in the fortunate position to be able to say that my four-pillars bank is quit satisfactory in its performance. But I can imagine it could easily change with a slight tilt of the global financial axis.I guess I should be happy my deposits got guaranteed but at the same time I'm thinking, is this even *right*?

As I look through the shares of the big four, I note that while their bottom line looks fine, I'm still inclined to think their shares are priced way too high.

Bank

Global Fried Chicken

Last week I had a problem with my credit card. I rang the bank to sort it out. At the end of the conversation, the guy said they could raise my credit limit.
"Dude," I said "there's a credit crunch going on and you want to extend credit to me?"
"Yes sir, you've been a great customer."
"Don't you guys learn?" I asked and the guy simply laughed.

He knew it was ridiculous. I still have to ask, "Don't these people learn?"