Posted on by Patrick Shi

Aussies trapped in ‘commodity bust, housing boom’ cycle and the unwinding is going to be painful

There is an article published on financialpost.com dated 29/09/2016. I think it is worth to read.

Basically it argues that Australia is “having its central bank backed into a corner, forced to warn about the dangers of high debt and hot housing markets, while powerless to change interest rates as a commodity bust weighs on the economy.” Economists at Bank of America Merrill Lynch believe that Australia is heading for “an unwinding.” They blame the complicated situation on the crash in oil and metal prices, and a surge of money into real estate.

Bank of America Merrill Lynch lays out three scenarios for how the current housing boom will play out in Australia. They describe each scenario as “bad, worse and worst,” as all require a somewhat painful unwinding of the record debts accumulated by households.

The Baseline “Bad” Scenario

The baseline scenario involves a successful implementation of mortgage and housing policies, which avoids a housing crash, but household debt balances remain high. In this scenario, the Australia central bank maintains easy monetary policies. It doesn’t solve the debt problem which is of particular concern in Australia. Essentially, the status quo remains in the baseline scenario, with some easing of sales and prices.

The “Worse” Scenario

The “worse” scenario involves an overly aggressive tightening of policy, which leads to a sharp curtailing of demand, falling prices and sales. While domestic home buyers get cheaper houses, this scenario removes a significant amount of growth from each economy and forces the central bank to ease further.

Australia is particularly at risk in this scenario, because a huge amount of new supply is scheduled to come online next year in cities such as Sydney, and data shows that foreign buyers account for more than seven per cent of purchases — and growing.

The “Worst” Scenario

The “worst” scenario is one where Australia government is too timid on action, allowing the current real estate bubble to grow even larger. When government is eventually forced to act because of financial stability risks and populist pushes against growing unaffordability, the result is a much more serious price correction and potential housing crash.

No Happy Ending

Ultimately, BofAML says there is “no happy ending” for the current situation. The hope is that government and central bank at least make the right choices to tackle the problem sooner rather than later, and with the right tools.

You can read the full article here.

One Reply to “Aussies trapped in ‘commodity bust, housing boom’ cycle and the unwinding is going to be painful”

  1. The comment from Andy Holler, Perth, Australia on this article is a good one as well.

    Property is a cyclic business. If people invest for the short term they will lose in real estate. However, banks in Australia, Canada and New Zealand are borrowing overseas, mainly in Europe where the OCR is below zero. Mainly of course to make a profitable business in the on-lending of money [mortgages], because the real estate market in those countries is a huge speculative commodity. Of course Canadian, Australian and New Zealand banks are worried about the debts ratio household to actual asset value which really is only a value based on supply and demand.

    At present money is so cheap to get with any financial institute around the globe that it is invested in brick and mortar as most other financial vehicle have unfortunately proofed to be disasters. This is a construct of the banks and their bank reserves which usually are attached to government policies.

    If exchange rate values are getting out of hand for each of those countries the banks worry because their repayments are often in very strong currencies [UK pounds, Swiss francs, Euros]. The combination of chain reactive disaster:”Namely now Europe going broke and unstable, the currency market reacting to all this versus a huge dept ratio [households to asset value] makes everybody in the the individual bank reserve offices from Canada/Australia and New Zealand getting very jittery legs – the card house is wobbly and it seems to collapse.

    However, historic data shows that real estate [even though the USA has had huge losses, where government had to intervene with Tax-money to support their banking system] will outlast such economic turmoils. There is one enormous fact of life: Everybody has to live somewhere, and if this is no longer guaranteed then people will move on. And no government, including Canada, Australia or New Zealand wants to loose their citizens, as essentially these are the people who pay tax [and all the other affiliated taxes like GST, etc.].

    Therefore I agree that usually governments of these countries then resolve this with temporary monetary restriction measures [either increase deposits and security demands etc] . However, if we do not get out of this dept cycle we will always encounter financial crisis situations as the chain of debts once its broken somewhere, meaning if one of the partners in the chain cannot repay its debts, usually the crisis erupts.

    Unfortunately this very unstable financial system has its roots in the deep reaching credit system. And that’s how capitalism works = consumerism has to function, otherwise whole economies come to a standstill. Most people in developed countries cannot afford really what they wish to have, and therefore they require a credit or an advance. Banks of course want to earn interest on this advance and so it goes on.

    What we require to change is a fundamental behaviour issue and find new models of thinking : Namely buy today and pay tomorrow just does no longer really work. Perhaps we should ask > Do we really need it? The tower of dept has grown into cloudy skies where nobody any longer understands how such a tower of debts, who has no longer any relation to actual asset value can grow further – any structural engineer will be able to reconfirm this, that there are limits how tall one can build a tower, who outreaches any natural physical law existing on this planet.

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