The end of Down Wonder

The end of Down Wonder

The Economist jokingly referred to Australia as ‘Down Wonder’ in the early 2000s.

Somehow, Aussies managed to sail through the Asian financial crisis.

No recession. No stock market crashes.

Just business as usual.

That event was a blip to our major index — the All Ordinaries at the time.

Our miracle economy survived financially crippling events.

Wait. Hold up.

More doom and gloom again today, Shae?


You can bet your 27-year recession-free run today is more doomy and gloomy.

Except with a difference.

I’m going to tell you something no one else will.

Then I’ll show you how to plan for it.

What happens in debt markets doesn’t stay in debt markets

Today is a lesson about crises.

Specifically, why we’ve dodged them before.

See, no one talks about debt markets

Why is that?

Well, for two reasons.

Firstly, they are stupendously boring. The sort of backroom stuff better left for those who do trigonometry calculations in their head.

The other reason is because debt markets sound complicated.

They’re hard to simplify for ordinary people like you and me.

Debt markets are wrapped up in jargon. A whole bunch of terms only the Wall Street types would understand.

And that alone is enough to deter mainstream economists from trying to explain them to you.

More to the point, debt markets feel like other people’s problems. More important people. Something for those at the top of the food chain at an investment bank…

But that’s the thing with debt markets.

What happens in debt markets doesn’t stay in debt markets.

The decisions made by a few with billions end up affecting those with only a few bucks to their name.  

The Asian financial crisis was not our problem

Someone once told me that Australia dodged the 1997 Asian financial crisis because of our strong economic management.

Their reasoning was that Asia is our closet neighbour, so if we didn’t ‘catch’ the crisis from them, our economy must be strong.

Nothing could be further from the truth.

The reason the Asian financial crisis had very little impact on us wasn’t because of a strong economy.

The ability to shake it off was the result of not being deeply linked to international markets.

Our banks didn’t have much exposure to offshore lending or international shares. Our nascent superannuation system was mostly in local investments.

In fact, in 1997, we had a relatively immature financial market compared to our international counterparts. The XJO didn’t even exist back then…

We dodged the crisis because our financial markets and our corporations had very little exposure to global debt markets.

You know what started the mess in the first place?

On 4 July 1997, the bondholders of Thai property developer Somprasong Land Development voted to default on an US$80 million debt. Within a couple of days, a major Japanese bank and broking firm failed and withdrew funding from Thailand.

Over the course of July 1997, the Thai baht, Philippine peso, Singaporean dollar and Indonesian rupiah all began to tumble.

By the end of that month, Thailand went hat in hand to the International Monetary Fund for emergency financial aid.

Come early 1998, South Korea was on the brink and Russia was ready to default. Major global stock markets fell…

…but the real catastrophic market drops didn’t come until September that year, when Brazil defaulted.[1]

Major developed economies were crippled as emerging markets were defaulting.

Their economies and currencies were wiped out because their debt markets were intertwined.

At this point, Australia hadn’t yet been weaved into the international debt market.

It took another decade before that happened…

The subprime crisis linked us

Most Aussies forget the 1997 crisis ever happened, simply because our dollar and economic fortunes weren’t caught up in it.

But many of us remember the 2008 crash.

This one is still fresh in our minds.

The panic of 2008, the great financial crisis, the subprime crash — whatever you want to call it — was the first example showing just how far Australia had waded into the financial markets.

Superannuation fund values dived, our major indices halved, and the Aussie dollar got smacked down to 60 cents to the US dollar.[2]

People lost their jobs. Kevin Rudd gave millions of Australians $900 each to go shopping with.

Years later, we found out that major Aussie banks took out billions of dollars in emergency loans from the Federal Reserve Bank.

This one crash highlighted just how much closer the Aussie economy was tied to international markets.

Suddenly, things happening overseas — things that had nothing to do with our economy — were bankrupting truck drivers and small business owners.

You see, what caused the market to crash in September 2008 actually began in a dingy London office in March 2007.

Some cowboys running credit default swaps for a subsidiary of US-based insurance firm IAG defaulted on their payments from their Mayfair office…18 months before global markets collapsed.

That same firm was turning over less than $100 million per year.

Yet it brought a $30 trillion financial system to the brink.

Funny how the decisions of a few people in debt markets hurt ordinary people with no banking experience.

One trader on the other side of the world can bankrupt you


We got a little heavy there.

But that’s why understanding debt markets matters.

A very select group of people have the privilege of playing with billions of dollars in one part of the world — and can be completely ignorant to how those billions are connected to people on the other side of the world.

In Australia, our ‘frontline’ connection to events is watching the value of super funds plummet. These have greater exposure to international markets now than a decade ago.

And let’s not forget our Aussie banks.

Fun fact: Aussie banks began increasing their use of international financing during 1997.[3] We had to get the money to fund all those house purchases from somewhere…

Our bank CEOs may trumpet the fact that 60% of their funding comes from ‘domestic deposits’ — the cash you and I keep at the bank. But our banks still have $750 billion in international liabilities.

That is, the money our banks owe other people.

Exactly who is it? Hard data on this is opaque at best. Various sources such as the United Kingdom, the Netherlands, Switzerland and France are mentioned.

Of the data we do have, at least half of the wholesale debt is priced in US dollars. Then about a quarter of that is in euros and yen.[4]

Our access to all of this, however, must come from the debt markets.

And here’s the thing: We just don’t know who else is accessing the same debt provider as us…and who is going to default on that.

Because this time around, our market is intractably knitted into global debt markets.

What does it mean for Aussies?

I understand how ‘big’ this all feels.

Afterall, there is a reason why no one talks about debt markets. Because they are something completely removed from everyday life. And, as I said at the start…stupendously boring.

But these stupendously boring debt markets have the power to undo any wealth you’ve accumulated, in just a few months.

You see, I needed you to have some background on this.

Think of it like this: Debt markets work in the shadows, so few people truly know how they operate. But their consequences play out in sunlight, and we all feel it.

Tomorrow, I bring it all home with a short video series about the dangers lurking in the Aussie economy.

The very real chance of an Aussie recession…

The potential for a wealth-eroding market collapse…

Why am I doing this?

Because I’m seeing things unravel in both international and local markets.

What look like little things here and overseas paint a dire picture when you start joining the dots.

Join me tomorrow.

Best wishes,

Shae Russell Signature

Shae Russell,
Editor, The Daily Reckoning Australia