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- Economic & market outlook - quarter ending 30 September 2009
Economic & market outlook - quarter ending 30 September 2009
- By Martin Fowler
- Published 21/10/2009
- Investment Insights
- Unrated
Key Risks
The data suggests, unequivocally, that the Australian economy is in a recovery phase. While clearly this is good news, it must be said that a number of dangerous imbalances exist both internationally (which we will discuss later) and domestically. In our view the key imbalance on the domestic front remains the asset price bubble that continues to buoy the Australian housing market.
The data suggests, unequivocally, that the Australian economy is in a recovery phase. While clearly this is good news, it must be said that a number of dangerous imbalances exist both internationally (which we will discuss later) and domestically. In our view the key imbalance on the domestic front remains the asset price bubble that continues to buoy the Australian housing market.
While the financial crisis taught the corporate sector harsh lessons about financial responsibility - forcing it to deleverage due to the inability to access credit - the same cannot be necessarily said for the over-indebted household sector. The rapid easing of monetary policy coupled with the various fiscal stimulus measures most probably prevented a collapse in housing prices that otherwise appeared imminent. Moreover, not only did the measures prevent a collapse but the ill conceived1 first home buyer’s grants have actually worked to reignite parts of the residential property market. The core asset price problem has not been resolved, merely deferred.
On any measure, Australian housing prices are among the most expensive in the world. This continues to present a very high future risk to the over-indebted homeowner. Housing prices have already fallen sharply in the United States and parts of Europe. Should unemployment and interest rates rise sharply in future years (as may be likely at the onset of the next recession, whenever that may be) a similar fall in Australian property prices appears likely. The catastrophic outcomes of such an event are already well known. A percentage2 of unemployed homeowners would be forced to default on their mortgages. Houses would be sold at values that would not cover the outstanding loan. Banks would incur huge losses and some inevitably would fail. As property values fall, consumption would too as equity diminishes. Corporate profits would follow and growth would grind to a halt. Remember, this is not some nightmare scenario, it is exactly what has happened already in the US and parts of Europe.
Conclusion
With business and consumer confidence improving, the prospects for positive growth in the short term for the Australian economy remain promising. While corporate balance sheets are much improved as a result of the deleveraging reprocess, the housing price bubble remains a significant concern for, not only the over-indebted homeowner, but the broader economy. Until this bubble deflates we recommend individuals exercise caution when borrowing against equity in their homes to fund future consumption.
1 In our view the policy was ill conceived because it increased demand for housing, which placed more upward pressure on prices. Increasing the supply of dwellings (e.g. building affordable housing) would have been a much better use of funds as it would at least go some way to addressing the demand/supply imbalance and, at the same time, create additional jobs for builders and tradesmen.
2 Refer to graph of non performing home loans. The American experience shows that you don’t need to have a large percentage of impaired loans to cause untold damage on the financial system.
On any measure, Australian housing prices are among the most expensive in the world. This continues to present a very high future risk to the over-indebted homeowner. Housing prices have already fallen sharply in the United States and parts of Europe. Should unemployment and interest rates rise sharply in future years (as may be likely at the onset of the next recession, whenever that may be) a similar fall in Australian property prices appears likely. The catastrophic outcomes of such an event are already well known. A percentage2 of unemployed homeowners would be forced to default on their mortgages. Houses would be sold at values that would not cover the outstanding loan. Banks would incur huge losses and some inevitably would fail. As property values fall, consumption would too as equity diminishes. Corporate profits would follow and growth would grind to a halt. Remember, this is not some nightmare scenario, it is exactly what has happened already in the US and parts of Europe.
Conclusion
With business and consumer confidence improving, the prospects for positive growth in the short term for the Australian economy remain promising. While corporate balance sheets are much improved as a result of the deleveraging reprocess, the housing price bubble remains a significant concern for, not only the over-indebted homeowner, but the broader economy. Until this bubble deflates we recommend individuals exercise caution when borrowing against equity in their homes to fund future consumption.
1 In our view the policy was ill conceived because it increased demand for housing, which placed more upward pressure on prices. Increasing the supply of dwellings (e.g. building affordable housing) would have been a much better use of funds as it would at least go some way to addressing the demand/supply imbalance and, at the same time, create additional jobs for builders and tradesmen.
2 Refer to graph of non performing home loans. The American experience shows that you don’t need to have a large percentage of impaired loans to cause untold damage on the financial system.
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