Australia Sees Biggest Surge in Borrowing Since 1980

February begins with a reprieve. Bond insurer MBIA told American investors it had more than enough capital to keep its triple A credit rating. The company still lost US$2.3 billion in last year's fourth quarter (or $18.61 per share). But the big worry is that if MBIA loses its ratings, the US$652 billion in bonds it guarantees might have their ratings reconsidered by S&P, Moody's, and Fitch.

For its part, S&P says losses from securities linked to sub-prime mortgages will be US$265 billion before it's all over. Seeing as how we're at US$90 billion in bank losses already, that means we've got just US$175 billion to go.

You have to take these loss estimates with a handful of salt. After all, this is the same ratings agency that slapped the highest credit rating possible on sub prime debt to begin with. But there are obviously more losses in the pipeline for banks, brokers, and bond insurers. A study from J.P. Morgan says bond insurers have at least US$41 billion in losses to realize, and that a downgrade of the bond insurers would force banks to write down another US$70 billion.

These are all pretty huge numbers. But for the day, they don't seem to matter. Stocks rallied. And good for them. A resolute cheerfulness in the face of near certain destruction is nearly as admirable as it is stupid. But who are we to argue with the market?

Seriously, there is a very small chance that the Fed's rate cuts and the U.S. government socialist spending binge is enough to restore global confidence. But we wouldn't be betting on it. The de-leveraging of the world economy is going to take some time, and cost billions more, and leave investors with frayed nerves for most of the year.

Did someone say there was a credit crunch? Here in Australia we've just seen the biggest surge in borrowing since 1980. Total credit growth was 16.5% last year, according to Reserve Bank figures released yesterday. Business credit grew by a walloping 24.3%.

You can partly explain the strong rate in business credit by looking at the bond market. That is, businesses couldn't sell bonds last year to finance spending (because of the credit crunch) so they went the more conventional route, band lending and pre-arranged lines of bank credit. Let's hope they spent it on something productive.

Total credit grew by $260 billion. Business borrowing was $141, while households added another $117 billion to the tab. That's an 11% increase over last year.

Is there any doubt in your mind now that Australia has a debt problem, just like America? The silver lining is that the government-fat with GST revenues, stamp duty, and resource royalties-only had to borrow $2 billion. Okay, maybe a lead lining. But you can see an obvious trend: Australians are truly, madly, deeply in love with debt.

Hey. Where are all the homeless people? One of the perplexing aspects of the housing debate is the insistence that there is a housing shortage and that we need to release more land and build more houses. If housing inventories were so perilously low, why don't we see families living in the Royal Botanical Gardens on St. Kilda Road? It's a lovely spot.

The Housing Industry Association reported a 1.3% fall in new home sales last year. It was the second month and fourth year in a row that new home sales declined. HIA reported that apartment sales actually grew by 5.1%, but the overall rate was dragged down by the 2.9% decline in sales of detached homes.

Why aren't Australians buying new homes? Is it because there aren't enough of them? Or is it because they are too expensive? Hmmn. You tell me. Or post your own thoughts on our handy new message board. The volume of e-mails and comments has increased so much we don't have time to respond to all of them. We do read them, though. And if you want to share your ideas or just have a good argument with your fellow readers, head to the message board.

What a strange financial world. It was the worst January for the Australian share market since 1876, according to AMP economist Shane Oliver. Asset prices are falling. But prices for food, fuel, health care and nearly everything else seem to be rising. Inflation is on the march in nearly every continent (except Japan). In Europe, it has reached a 14-year of 3.2%. It runs at that rate or better in both Australia and America.

And now the Fed is probably set to lower rates again and again in the States. In Japan, monthly wages fell by 1.9% in December, the fastest pace in three years. After so many years of trying to escape deflation, Japan may be slipping back into it.

That sets us up for lower real rates (and possibly negative interest rates) in two of the world's three largest economies. Only Jean Claude Trichet in Europe looks like holding (or even raising) European interest rates.

So here's the key question as we say goodbye to January and greet February with a warm smile: will we see a revival of global carry trades? And if so, where will the money go? Will global investors borrow in yen and dollars and pour the money into higher yielding commodity currencies like the Canadian, Australian, and New Zealand dollars? And how much of the borrowed money will find its way into gold and oil?

The market did not offer us any clues overnight, with gold trading in the mid $920s and oil steady at $90. There were no major moves in the currency market either. But the pressure is building for the next move. Inflation is massing its forces. Global capital flows are responding to interest rate movements and heading toward higher, firmer ground. We'll see where they go next week…

Dan Denning
The Daily Reckoning Australia

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