We’ll Have What RBA Governor Glenn Stevens is Having


Whatever the Reserve Bank of Australia’s boss Glenn Stevens is on, we’ll have some too. We’ve simply been worrying too much. After reading Glenn’s speech, delivered in Honkers to the ’17th Annual Credit Suisse Asian Investment Conference’ we see now that there’s not much to worry about.

Global growth? On trend, on track, on par.

The worries from a few years ago? All behind us now. The hand-wringers were wrong.

China’s economy? Our largest export market and single-handed saviour of our economy post-GFC? They’ll be right…just a few little issues that they are more than capable of sorting out.

That Stevens didn’t acknowledge or mention the other side of these coins – the 30% increase in global debt levels over the past six years to over US$100 trillion…or China’s roughly $15 trillion credit expansion in just five years – should not be surprising. It is not the job of these central banking debt perpetrators to point out the flaws in the systems that they purport to manage.

No, it’s a two-headed coin in circulation where these guys live. Heads always wins.

Stevens’ comments on China were particularly entertaining. We’re going to reproduce some below. Keep in mind central bankers don’t do ‘concerned’. Their primary role is to foster confidence. As in, ‘everything’s sweet…as you were.’

But we still can’t help but think Glenn Stevens and the Reserve Bank of Australia will pay for these lack of concern down the track. Has the role of our nations’ central banker become one of ‘she’ll be right’ cheerleader? Is he there simply to point out the positives and ignore the very real underlying risks that exist?

Anyway, Stevens certainly didn’t sound too concerned over China’s economic outlook

China’s economy grew close to, and in fact a little faster than, the government’s target last year. Strong and about equal contributions to growth were made by household consumption and investment. Consumer price inflation continues to be stable.  

In fact, people may be too inclined to fret over what are still relatively small movements in monthly PMIs, and the like, in China…The greater concern is the risks involved with the build-up of credit in so-called ‘shadow banking’ over the past five or so years.

To a considerable extent this growth in financial activity surely reflects the natural tendency to avoid the effects of price and quantity constraints imposed on the core banking sector, in an environment of strong demand for credit.

In certain respects, it arguably provides genuine services to the economy. The potential problems, on the other hand, are all too familiar and well understood, at least in a qualitative sense…

Recent credit events in China have increased focus on the possibility of failure of entities with non-viable business models. There has been a widening of risk spreads for lower quality credits. To some extent this could be seen as a positive development, as a clear-eyed assessment and pricing of underlying economic risks is critical for sound longer-run development in China no less than in any other nation. But of course we cannot know how much further this re-assessment of risk may have to run, nor how disruptive it could turn out to be for the Chinese financial system and the economy.

It is clear that the Chinese authorities are across the issue, and in all likelihood they have the ability and resources to manage the situation.

In other words, ‘chill out’! China will comfortably pull off what no other economy has been able to do – manage a burst credit bubble successfully and generate continued strong economic growth in its aftermath.

And that means Australia will be sweet as well. Resource export volumes will pick up in the years ahead and Stevens thinks housing construction will pick up the slack from the drop off in mining investment.

So there is encouraging early evidence that the so-called ‘handover’ from mining-led demand growth to broader private demand growth is beginning. Putting all this together, we think economic growth will continue, and may strengthen a little later this year and pick up further during 2015.

If that does happen (a big if) or looks like happening, expect Stevens to start increasing interest rates from ’emergency low levels’ later this year. We explained yesterday why such an increase would stop the recovery in its tracks, but if the Australian economy does strengthen from here, rates will rise.

Stevens cannily acknowledges his own impotence, after spending most of the speech implying that central banks have it all under control:

It is important to stress that this outlook is, obviously, a balance between the large negative force of declining mining investment and, working the other way, the likely pick up in some other areas of demand helped by very low interest rates, improved confidence and so on, as well as higher resource shipments. The lower exchange rate since last April and the improved economic conditions overseas also help.

Because we are trying to assess the balance between very different forces, however, there is inevitably a very substantial range of uncertainty surrounding this central outlook. That is simply unavoidable. The fact is that no one can say with certainty just how smooth a ‘handover’ will occur. Nor can anyone pretend to be able to fine-tune it.

Hang on…’nor can anyone pretend to fine-tune it‘? What?! Isn’t that what you guys do? Fine-tune the economy and stuff? Isn’t that what you say the Chinese authorities will be able to do in managing their credit bust?

It just keeps getting better. After lowering interest rates in order to encourage speculation, Stevens then turns around and warns people not to speculate too much.

He might not have to worry about that though. It may be that the speculative surge in house prices has already been and gone…

Yesterday John Edwards from property data provider RESIDEX wrote in his blog:

recent data indicates that Sydney, the lead indicator market, is starting to look soft and as though it has peaked.

Historically, Sydney has been the lead indicator for other markets around Australia. Graph 1 presents Sydney’s growth pattern over the short term.

Sydney House Price Growth

click to enlarge

It’s early days but it looks like growth in Sydney is softening. That shouldn’t come as a surprise given the late 2013 growth surge we witnessed. But rather than a return to more sustainable growth levels, there is a chance you’ll see prices fall as the interest rate juice wears off.

Remember, most of the interest rate stimulus is in the system. The last cut was in August 2013. The adrenalin hit is wearing off. Now, with the prospect of rate hikes being discussed, the investor class driving this market might be backing off.

If you want some sort of confirmation of this point, check out the share price chart of the Commonwealth Bank. It peaked in November last year. We reckon that’s as good an indicator as any for the ‘peak stimulus’ point. Banks are the first to collect the stimulus dividend.

CBA Share Price – Peak Stimulus?

click to enlarge

Perhaps not coincidentally, Westpac’s consumer confidence survey peaked in November 2013 too, and is now down 10% from that point. They should just have some of what Glenn’s having.

In the last few months, the market has gone from worrying about Australia’s economic future and expecting a lower Australian dollar and interest rates…to expecting the complete opposite.

How long before it changes its mind again?


Greg Canavan+
for The Daily Reckoning Australia

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Greg Canavan
Greg Canavan is the Managing Editor of The Daily Reckoning and is the foremost authority for retail investors on value investing in Australia. He is a former head of Australasian Research for an Australian asset-management group and has been a regular guest on CNBC, Sky Business’s The Perrett Report and Lateline Business. Greg is also the editor of Crisis & Opportunity, an investment publication designed to help investors profit from companies and stocks that are undervalued on the market. To follow Greg's financial world view more closely you can subscribe to The Daily Reckoning for free here. If you’re already a Daily Reckoning subscriber, then we recommend you also join him on Google+. It's where he shares investment research, commentary and ideas that he can't always fit into his regular Daily Reckoning emails. For more on Greg go here.

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