Interest rates - thegoodwills.com

Submarines or social housing?

housing-crisis-homelessness — Image by Jon Tyson www.unsplash.,com

One of our readers commented that on the same day the media were banging on about the Federal Government’s $368 billion submarine plan, a lone SBS panel programme focused on the national housing crisis.

It is tempting to compare spending on affordable housing with the capital cost of up to five nuclear-powered submarines. The Federal Government’s (annual) commitment to affordable housing (currently $1.6 billion), equates to about 13% of its annual submarine budget (ie if the $368 billion is spread equally over 30 years). This assumes that successive governments will continue to spend that much on affordable housing (and submarines).

While housing is the responsibility of individual States and Territories, the Federal Government develops national policy and funds it with grants to the States and Territories.

That’s the theory, but in reality the critical shortage of housing, the cost of housing and the rising tally of homelessness is a clear and present danger to Australia’s social stability. Just this week the 2021 Census data on homelessness was released – what kept them, you might ask?

More than 122,000 people in Australia experienced homelessness on Census night, an increase of 5.2% from 2016, according to the Australian Bureau of Statistics (ABS).

The ABS interpreted the numbers as representing 48 people for every 10,000 people, compared with 50 people for every 10,000 in 2016.

While that is a reduction, the historical snapshot would seem to be an unreliable statistic, given that measures to reduce the spread of COVID-19 throughout 2021 contributed to some of the changes in the data.

“During the 2021 Census, we saw fewer people ‘sleeping rough’ in improvised dwellings, tents or sleeping out, and fewer people in living in ‘severely’ crowded dwellings and staying temporarily with other households,” ABS spokesperson Georgia Chapman said.

The affordable housing issue is not just about people sleeping in doorways. A new report produced by the Queensland Council of Social Services (QCOSS) clearly shows that working families are among those falling prey to the acute rental housing market shortage. It’s worse in some States than in others.

The report from QCOSS and The Town of Nowhere campaign is sobering reading. It predicts more than 220,000 households in the State will not have affordable housing within 20 years.

The report was prepared by national housing expert, University of New South Wales Professor Hal Pawson, and UNSW colleagues.

The tough conclusions include that there are around 150,000 households across Queensland with unmet housing needs. This includes 100,000 households who would typically be eligible for social housing. These households are either experiencing homelessness, or are low-income households in private rentals, paying more than 30% of household income in rent.

The figure is more than twice the official indicator of 47,306 households on the Queensland social housing waiting list. The latter has grown by 70% over the past three years.

Un-met housing needs are highest in satellite cities south of Brisbane. Pawson’s study shows that 10% of all households in Logan, Beaudesert and Gold Coast are homeless or living in unaffordable housing.

Professor Pawson said Queensland would need 11,000 affordable and social homes each year for the next 20 years, about 2,700 of which would need to be social housing.

He told the ABC the government had promised to build 13,000 social and affordable homes by 2027. But the QCOSS report found that the number of people with “very high need” for social housing was 37% higher than the system could accommodate.

In the decade leading up to 2017, there was “minimal” investment by State and Federal governments in affordable and social housing, Professor Pawson said.

“Unless they can get a grip on the situation, it’s a problem that over the next generation will continue to become more stressed and more pressurised.”

Much of the blame for the current problem is laid at the feet of private landlords. Private rentals in Queensland have risen as much as 33% since 2020. The sharpest increases, however, have been in regional markets. For example, over the past five years median rents rose by 80% per cent in the industrial town of Gladstone, by 51% in the tourist town of Noosa and 33% in the Gold Coast area. Nearly 60% of low-income households in the private rental market are facing unaffordable housing costs, with 15% in extreme housing affordability stress (rent accounting for more than half of total income).

While rentals have risen steeply, the bigger problem is a lack of rental accommodation. Rental vacancies are close to zero not only in Brisbane and the Gold Coast but also in regional towns.

The report states: “Queensland’s private rental housing has seen several years of declining vacancy levels and rent inflation rates far above the national norm. More generally, the sector remains entirely dominated by small-scale investor landlords whose usual prioritisation of capital growth over rental revenue inherently compromises tenant security.”
The upshot of this is that landlords are selling on the rising market, resulting in fewer houses for rental. Coupled with this is the inadequacy of tenant rights on rents, security and conditions. The Queensland Government enacted significant rental regulation reforms in 2022, but these fell far short of the changes advocated by tenants’ rights campaigners.

The Productivity Commission reported last year on the National Housing and Homelessness Agreement framed by the Albanese Government.

The agreement provides $1.6 billion a year in federal funding to the States and Territories, with the aim of improving access to affordable and secure housing.

However, the Commission judged the programme ineffective and in need of a major shake-up. With rents rising and vacancies falling, low-income private renters are spending more on housing than they used to. One in four households have less than $36 a day left for other essentials, the Commission said.

For those who might argue against more investment in social housing, there are success stories. The Queensland Government has funded a small number of permanent supportive housing (PSH) tenancies for people who have experienced long-term homelessness. PSH combines subsidised long-term housing with access to intensive but voluntary support services. One PSH programme, Brisbane Common Ground (BCG), established in 2012, is a 146-unit apartment block with 24/7 on-site support. Studies reported high tenancy sustainment rates and tenant satisfaction levels. It also produced significant savings via reduced use of emergency services and crisis accommodation. (QCOSS Report).

Despite the success of projects like BCG, there are many examples of State governments backing away from the commitment to social housing. For example, the New South Wales government is reportedly preparing to sell its Waterloo social housing complex in Sydney. The ABC reported that Waterloo Estate, the biggest social housing estate in Australia, houses almost 2,500 people.

The 18ha site will be redeveloped under a NSW government strategy called Communities Plus, where public land is offered to developers on the proviso 30% of what they build is dedicated social housing. This is clearly a retrograde move away from a project that is 100% dedicated to social housing. Meanwhile, more than 51,000 hard-pressed households are waiting for a home in NSW.

In an even more backward step, Darwin’s local Council has reportedly been issuing $162 fines to ‘rough sleepers’. The latter may or may not be indigenous people known as ‘longgrassers.’ (see link below)

Darwin Council issued a statement saying it had been subject to significant pressure from some current Northern Territory government MLAs. The MPs wanted to increase the number of infringements (and the size of fines), issued to vulnerable people who are sleeping rough in public places. (And what happens when these people cannot pay the fines? Imprisonment for non-payment? I guess that’s one way of getting people off the streets..Ed)

In its defence Council said council rangers issued fines as a “last resort”.

“We do not consider the fining of vulnerable people the solution to complex issues such as homelessness.”

More reading

https://www.theguardian.com/australia-news/2022/jul/12/queenslanders-miss-out-on-social-housing-due-to-failures-to-build-homes-and-inaccurate-waiting-lists

https://www.drbilldayanthropologist.com/resources/Longgrass%20people%20of%20Darwin%202012.pdf

Squeezed between inflation and interest rates

inflation-interest-rates — The Australian cash rate since 1998 (Reserve Bank of Australia chart)

I just happened to be reading a novel set in the Edwardian era at the same time as the media was going bonkers (again) about the Reserve Bank raising interest rates by 0.25% to 3.6%. In Louis de Bernieres’s* book, The Dust That Falls from Dreams, one of the characters is holding forth about the sudden rise in the bank rate and subsequent collapse of the share market in 1914.

Hamilton McCosh, a daring entrepreneur and investor, is at first delighted when the bank rate goes to 4% because he has ‘a few bob invested here and there’. Then the rate doubles to 8% and quickly rises to 10%.

“Just as I was gleefully rubbing my hands the blighters closed the Stock Exchange”, he tells his pals at the Atheneum, a gentlemen’s club.

This is late July 1914, you gather, a few weeks before World War I broke out. McCosh didn’t know then that the stock market would stay closed for five months. Rather than cause inflation, this financial crisis functioned like the ultimate credit squeeze. Inflation stayed low, well at least until 1915, when it rose rapidly to 12% then to 25% in 1917.

In the pre-war period, De Bernieres’s McCosh is aghast – you can’t get credit anywhere and there’s a rout on the stock market. “What’s Serbia got to do with us?” he complains.

In 2023 you could insert “Ukraine’“and immediately realise that we have seen cycles like this before. In times of war, the supply of money is tested, oil is expensive and hard to source, there is much unemployment, securities can’t be sold and supplies of necessities are dwindling.

The 1914 financial crisis in the City was a liquidity crisis of massive proportion, the likes of which was not seen again until 2007/2008. Amidst much intervention by the government and the Bank of England, the day was ultimately saved.

In De Bernieres’s novel, McCosh regroups and singles out two stocks he thinks will do well – Malacca Rubber and Shell Oil (as he calculates where money will be spent in the war effort).

Self-interest and venality arises quickly whenever a country’s financial welfare is threatened. Survival of the shiftiest is the order of the day.

At this point in time, many of Australia’s mortgage holders must be in a state of anxiety as yet again the goal posts are moved.

Not that the RBA had any option. Monetary policy is under pressure from forces beyond the Reserve Bank’s control. We are not the only country where inflation and interest rates have risen sharply. You can chart the increases in Australia back to the onset of a pandemic in March 2020, then steeply rising since Russia’s invasion of Ukraine, in February 2022.

The impact of Covid is what initially sent the cost of living index soaring. From March 2020, when it was 2.2%. Inflation rose steadily through the Covid years, driven up by stock shortages, the impact of bushfires and floods on production, disruptions to supply chains and the ever-rising cost of fuel.

Inflation reached 7.3% in the September quarter of 2022, about six months after Russia invaded Ukraine. The RBA now thinks inflation may have peaked (at 7.8% in December 2022). But as ABC business reporter Peter Ryan observed, the March quarter figure will be the one to clarify matters when released on April 23. Wherever it rests, Australia’s inflation rate is a long way north of the 2%-3% range promised in 2019.

When inflation rises, central banks almost always use monetary policy to beat it into submission. This week’s interest rate rise – the 10^th in a row, takes the official cash rate to 3.6%.

As Peter Martin observed in a timely piece for The Conversation, Tuesday’s interest rate hike was the culmination of a process that has added $1,080 to the monthly cost of payments on a $600,000 variable mortgage.

Martin, Visiting Fellow, Crawford School of Public Policy, Australian National University, calculated this increase ($12,960 per year) by comparing payments on the National Australia Bank’s base variable mortgage rate before the Reserve Bank started its series of hikes in May 2022.

Before the Reserve Bank began raising the cash rate, the base variable rate was 2.19%. It’s about to be 5.49%, pushing up the monthly payment on a $600,000 mortgage from $2,600 to $3,680.

The Reserve Bank acknowledges it is a “painful squeeze”, but hints it might not need to squeeze much harder.

There’s more pain across the ditch. NZStats revealed that the annual inflation rate for 2022 reached 7.2%. Housing and household utilities was the largest contributor to the annual inflation rate. This was due to a 14% hike in the cost of building a house and rentals also rose.

As if to demonstrate its independence from the government of the day, New Zealand’s Reserve Bank pretty much ignored the impact of Cyclone Gabrielle. While all around people were shovelling silt out of their houses, the RBNZ increased the cash rate from 4.25% to 4.75% on February 22. This was a more dramatic increase than seen this week in Australia. But New Zealand is anxious to suppress the spiralling cost of housing. You’d think a country which is over-endowed with pine forests would have this covered, eh?

I guess the new UK prime minister will want to take credit for the drop in inflation recorded in January (8.8%) compared with 9.7% in December 2022. The Bank of England Governor has warned that it may need to raise rates again if inflation re-asserts itself. After 10 successive increases since December 2021, the official rate is at 4%. Meanwhile in the US, the Federal Reserve is flagging higher and faster rates rises (4.75% in February), despite inflation dropping below 7%.

Why does all this matter and who does it matter to? If you are young, working and buying your own home, yet another 0.25% increase in the cash rate wrecks your household budget. Those who borrowed their deposit (from the Bank of Mum and Dad) will be desperate for another pay rise, as inflation eats into the recent 4.5% increase in wages.

As The Guardian reported just last month, almost 25% of borrowers were at risk of mortgage stress as of December 2022. Another 800,000 borrowers face higher repayments as fixed loans end later this year and revert to the variable rate.

Tim Lawless, research director at CoreLogic, says the clear reason for mortgage stress is that interest rates increased faster and earlier than anyone was thinking. (Whatever happened to the notion of buying a modest first home then upgrading as finances permit?Ed.)

“We are expecting that the rate of mortgage stress will push higher into 2023,” Lawless told The Guardian, “partly because of higher interest rates, but also because of the cost of living.”

Theo Chambers, chief executive of Shore Financial added: “People probably borrowed more than they could have today. With borrowing capacities down almost 35% from 12 months ago, these people wouldn’t get approved today.”

As for De Bernieres’s Hamilton McCosh, how is he supposed to earn a living in Edwardian Britain, he fumes, saddled with four children, a truculent wife and two mistresses current (one retired), all of whom have children to feed?

As the Norwegian playwright Henrik Ibsen once said, “Home life ceases to be free and beautiful as soon as it is founded on borrowing and debt“.

*author of Captain Corellli’s Mandolin

It’s a Nation, Not Just an Economy

economists-recession-covid-19 — Recession? What recession? Image by www.pixabay.com

It’s traditional to write about economics and economists at this time of year, the end of the financial year in most jurisdictions. Publishers like to ask economists to offer their predictions for the year. The cruel editors then go back a year later and mark their score cards.

Forecasts are all very well in ‘normal’ times, but few had forecast a deadly global pandemic that (so far) would infect 10.5 million people and kill 511,000. Even in Australia, where the progress of the virus has been carefully monitored, we have had 7,832 infections and 104 deaths. The long-term effect on economies – ours and every other country’s – is yet to be seen.

Trying to forecast economic trends for the next year or two has been rendered difficult by the ongoing effects of COVID-19. Nevertheless, economists will try, because they are (in my experience) optimistic people. Before we go to our panel of experts (he said, sounding like David Speers on Sunday morning), let’s recap what the politicians are saying.

Prime Minister Scott Morrison recently promised to lift economic growth by “more than one percentage point above trend” (an average 4% per year), to 2025.

Economists from 16 universities in seven states came to a less ebullient conclusion, forecasting annual GDP growth averaging 2.4% over the next four years, “tailing off over time”.

22 economists were polled by The Conversation, an independent alliance of journalist and academics, and delivered their forecasts for the next four years.

The headline view is a weak recovery, getting weaker as time goes by, amid declining living standards. The panel expects weak economic growth in all but one of the next five years. The panel comprises macro-economists, economic modellers, former Treasury, IMF, OECD, Reserve Bank of Australia (RBA),. financial market economists and a former member of the RBA board.

The panel included well-known doomsayer Steve Keen, who writes for Crikey and other publications. Keen was the economist who in January forecast a 75% probability of a recession.

The ANU’s Crawford School of Public Policy Visiting fellow Peter Martin wrote an 18-page report on the survey, warning that the results imply living standards 5% lower than what the PM expects. Moreover, the panel expects unemployment to peak at 10% and to be still above 7% by the end of 2021. Wages are unlikely to grow beyond 0.9% in 2020, lower than the rate of inflation (expected to be 1.2%).

I’m frankly surprised The Conversation found 22 economists prepared to forecast the future, particularly as it seems a second wave of COVID-19 is upon us. One economist withdrew from the panel before the poll saying, “It’s a mug’s game now”. Another who did participate said forecasting had been reduced to “guessing”, in the context of an unprecedented event.

The panel more or less agreed on expectations for incomes and production. They expect those figures to shrink when the June quarter figures are released, confirming that Australia is in a recession. The panel forecast an average 4.5% decline in GDP for 2020.

So what’s the good news?

The Government’s budget deficit will be easily financed, with the 10-year borrowing cost at 0.9% and the panel forecasting 1.4% per year thereafter and not expected to rise until late 2021.

The RBA has made a commitment to buy as many bonds as needed to keep the figure low. For this reason alone, Australia has maintained its AAA credit rating.

Mining investment is expected to continue its recovery in 2020 into 2021, after huge falls between 2014 and 2019, the latter attributed to the collapse in infrastructure projects and large LNG plants being completed.

It might be bread and circuses, but don’t forget the Federal Government is unleashing a second round of stimulus payments on July 10. Those eligible received the first payment between March and April. Stimulus payments include $750 for eligible pensioners, seniors, carers, student payment recipients and concession card holders.

Two stimulus payments totalling $1,500 might not seem like much but in terms of people with no disposable income, it is an absolute windfall.

A homeless person could spend his or her $750 on a swag or a Himalayan standard sleeping bag, fleecy pants and jacket, thick socks, underwear and a cheap pre-paid phone. They might even have money left over for smokes. If you are employed but have no disposable income, you might be tempted to yield to those ‘sale ends tomorrow’ exhortations to buy a smart TV, laptop, tablet or mobile phone.

Whether you are unemployed and poor or the working poor, the main problem is a lack of disposable income. The Conversation’s panel expects disposable income to fall on average 4.5% for the year to December 2020. Most also expect household spending to decline in calendar 2020 (by 4.3% on average).

Gloomy as this picture may be, it redresses the balance between reality and the daily ‘spin’ from State and Federal governments.

In his 1964 book, A Lucky Country, Donald Horne said Australia was “a lucky country run by second-rate people”. By that he meant that Australia was lucky to be blessed with natural resources and agricultural wealth, despite its second-rate political and economic system. Decades later, it seems, more Australians agree with Horne’s harsh assessment, which has been a set text in universities since it was published.

A 2018 survey showed that 40.56% of Australians have lost faith in the notion of democracy since 2007. Successions of administrations – Rudd, Gillard, Abbott, Gillard, Turnbull and Morrison – have evidently lost a lot of the people somewhere along the line. The Guardian mentioned this survey in a story about politicians billing taxpayers for doubtful travel expenses.

Trust and Democracy in Australia shows a majority of Australians have lost faith in democracy, from a high of 86.5% trusting in 2007 to 40.56% in 2018. As The Guardian’s Christopher Knaus and William Summers comment in their article on travel rorts, “On current trends, that would leave fewer than 10% of Australians trusting politicians and political institutions by 2025”.

We who live in this vast, under-populated democracy should be grateful for what we have. The sun is still shining, the water is potable, it’s a mild winter thus far; the supermarkets have replenished their shelves; the footy is back and life continues relatively untrammelled. (Ed: Broncos fans may not agree).

All up, Australia is a considerably better place to be than the favelas of Rio De Janeiro, the slums of Kolkata or Mexico City or even one of Donald Trump’s Republican States that thought the coronavirus was ‘fake nooz’.

Even in the UK, our far away traditional Motherland, last month’s relaxing of the COVID19 lockdown appears to have led to the emergence of 10 new hotspots across England. This unhappily coincides with news that the level of public debt has surpassed the UK economy for the first time since the 1960s.

If you are still feeling besieged, spare a thought for migrants forced out of Yemen at gunpoint by the Iran-backed Houthi militia that controls most of northern Yemen. The militia has expelled thousands of migrants since March, blaming them for spreading the coronavirus. According to a report in the New York Times this week, they were dumped in the desert without food or water.

Compare that to young Queenslanders complaining about not being allowed to dance at their local nightclub.

It’s all about perspective

(The Democracy 2025 report is available for download here):

FOMM back pages (despite the headline, this is about economics)

How deep is the financial hardship well?

financial-hardship-savings — How many weeks your savings will last without income – graph provided by The Grattan Institute

It is probably no comfort to anyone to reflect on the year when investors could get 14.95% on a bank term deposit. It was January 1991, the recession Paul Keating said we had to have. People with personal loans and credit card debt watched horrified as repayment rates went to 20% and beyond. The average variable mortgage rate rose to 17.5% at the same time. The gap between the haves and have-nots in that era was painfully obvious.

In the early 1990s, financial hardship forced many younger Australians, unable to service their mortgage repayments, to walk out of their mortgaged houses, leaving the house keys on the bank’s counter. Meanwhile, the lucky worker/investor with a lazy $100k to invest could earn $14, 950 in interest (the price of a new car), over 12 months with no risk whatsoever. Except, of course, if the deposit was with one of the eight financial institutions that went broke in that era.

In 2020, the COVCID-19 pandemic has certainly made it clear how many Australians are suffering financial hardship. At one end of the scale, you have self-funded retirees, on the pig’s back, really, but struggling with the collapse in the value of shares and difficulties finding safe places to store their cash for a return of more than 1.75%.

At the other end of the generational spectrum, while the official unemployment figure is an improbably low 6.2%, it does not reflect the one million casuals who not only lost their jobs, but did not qualify for the Federal Government’s safety net, Jobkeeper.

COVID-19 struck at a time when the Australian household savings rate had dropped to 3.6% (20% is the ideal), and is forecast to drop to 2% or lower in 2021-22. The rate is calculated as a percentage of the amount saved from disposable income.

Meanwhile household debt – most of it linked to mortgages – is at a high of 119.60% of GDP. Economist Gerard Minack told the 7.30 Report in November that household debt at 200% of household income was a “massive macro risk”.

Then came COVID-19 and an economic shutdown the likes of which the country has not seen since the 1930s.

I’m running these confronting numbers past you because there is a lot of nonsense written about Poor Pensioners vs Irresponsible Millenials. Also, some commentators, particularly in the housing sector, are ‘talking it up’ at a time when worst-case scenarios predict a 30% drop in prices.

Conversely, stock market analysts are talking the market down, even as it keeps (slowly) recovering. You have to wonder why.

In mid-April the share market was officially proclaimed a “bull market’’ by the Australian Financial Review (AFR), because share prices had jumped 20% since mid-March.

What’s amazing is that the market has rallied at the same time that Australian superannuation funds paid $9.4 billion in financial hardship paymentsto approximately 1.17 million fund members. Australian super funds have a large exposure to equities, so they have managed the payments so far by selling investments, including shares and holdings in managed funds.

They also asked for help. As the AFR’s exceptionally well-informed Chanticleer observed, The Australian Superannuation Fund Association (ASFA) put a proposal to Treasurer Josh Frydenberg to allow the Australian Taxation Office to cover the hardship withdrawal payments. The plan was super funds would repay the payments over a period of time. The industry also called on the Reserve bank of Australia to provide a liquidity buffer. None of this happened, but Australian funds are expecting a continuation of the rush to withdraw hardship payments.

Under the COVID-19 measures, individuals whose income has been affected can withdraw up to $10,000 of their superannuation balances prior to June 30. They can, if necessary, apply for a further $10,000 after June 30.

There are ordinarily a few hoops to jump through to apply for an early-release hardship payment. As we know, superannuation is meant to be locked away until you retire or reach an age when you can officially tap the fund for money. But in these dire times, super funds worked with the Australian Tax office and other government departments to expedite hardship payments.

By close of business on May 7, ASFA made around 1,175,000 individual payments, totalling around $9.4 billion in temporary financial support. ASFA estimated that 98% of applications were paid within five working days.

Applying for a super hardship payment is a risky business if you are under 35. According to AMP, the average super balance for people aged 25-29 is $23,371 for men and $19,107 for women. In the age group 30-34, the average balance for men is $43,583 and for women $33,748. So it does not take too many trips to the hardship well to run out of cash. I used those age groups deliberately, as most pollsters agree that so-called Millennials are people now aged between 22 and38.

But it is not just the young that have little in the way of savings. According to the Grattan Institute, 50% of working households have less than $7,000 in savings. This probably explains the rush of super fund hardship applications. The Institute admits the data is a few years old, but says the scenario is unlikely to have changed much.

“As you might expect, working households on lower incomes tend to have less in the bank. Among working households in the bottom fifth of household income, the median total bank account balance is just $1,350.

“The meagre savings of many low-income workers are a big worry because they are most likely to be employed as casuals and therefore not have paid sick leave or annual leave.”

The Grattan Institute makes the point that as the lockdown drags on, more people will start to run out of ready cash.

“Our analysis shows that half of working households have five to six weeks’ income or less in the bank. The bottom 40% of working households has about three weeks’ income or less in the bank. A quarter of all working households have less than one week’s income in the bank.”

This last figure may bring your head up, if you remember news stories from New York, which we found shocking, of people with less than $400 in the bank.

Sometimes I think about these matters when doing the weekly grocery shopping, where retail prices are clearly outpacing inflation. (Ed: We did score a large pumpkin from a roadside stall for $3, so you can get lucky).

Those with a job who have not had a pay increase in years can justifiably feel cheated. Admittedly, the Federal Government came to the National Cabinet table with an extraordinary rescue package. But while one of these measures temporarily doubled the unemployment payment overnight, it now seems to be flawed piece of legislation.

People may rightly point out that employers are obliged to pass on the Jobkeeper payment of $1,500 a fortnight, regardless of what the employee was being paid previously. At some stage, these payments will stop and we will revert to the status quo. Will recipients who were technically overpaid have to repay some of this money, or does it just go to the deficit?

Robodebt II, coming soon to a cinema near you.

FOMM backpages:

Taking An Interest In Recessionary Economics

interest-rates-inflation-consumtion — Australia’s savings rate, spending and disposable income on a downward trend

The end of financial year meeting of the Basil and Sybil Cheeseparer Superannuation Fund was going well until the Trustees (a) found that their investment strategy was out of sync with reality and (b) failed to find a fixed interest investment that would return more than 2.50% over five years.

“We should stick it under the mattress,” said Sybil.

“Your side or mine?” quipped Basil.

As you should know, even if economics is not your forte, the Reserve Bank of Australia this week cut official rates for the second month in a row to a new low of 1.0%. They could have heeded this warning from Sydney’s University of Technology Professor Warren Hogan, but the RBA is not often swayed by commentary.

The RBA continues to be driven by persistently low inflation (1.3% in the March 2019 quarter). The theory is that if the RBA cuts rates low enough, business and consumer confidence will return and inflation will resume its normal trajectory (2% to 3%). This in itself should build a case to raise interest rates, albeit gradually.

This current cycle of record low economic growth, inflation and interest rates is best explained by the graph ‘household consumption’.

It clearly shows consumption/spending falling off, concurrent with a decline in disposable income. Note the 10-year decline in our savings habit. Not much point saving if you are only going to get 2% or less in a bank and then pay a fee for the privilege, eh? (a nod to Canada Day).

An official interest rate of 0.1% is not as dire as that of Japan, Switzerland, Sweden or Denmark which have negative interest rates. Actually, since the onset of the Global Financial Crisis in 2007, many countries drastically cut interest rates in an attempt to stimulate growth (production and jobs). A blog by the International Monetary Fund (IMF) reasoned that while, the global economy has been recovering, and future downturns are inevitable:

“Severe recessions have historically required 3–6 percentage points cut in policy rates,” authors Ruchir Agarwal and Signe Krogstrup observe.

“If another crisis happens, few countries would have that kind of room for monetary policy to respond.”

IMF staffers periodically write blogs where they test models and theories (the IMF disclaimer says they do not represent the IMF’s views).

In this context, Agarawai and Krogstrup construct an argument for countries to survive financial crises by using negative interest.

The authors posit that, in a cashless world, there would be no lower bound on interest rates.

“A central bank could reduce the policy rate from, say, 2% to minus 4% to counter a severe recession. The interest rate cut would transmit to bank deposits, loans, and bonds.”

“Depositors would have to pay the negative interest rate to keep their money with the bank, making consumption and investment more attractive. This would jolt lending, boost demand, and stimulate the economy.”

Yes, but how do retirees like Basil and Sybil, who have surplus cash to invest, fit into this system? When the B&S Cheeseparer Superannuation Fund was formed, the cash rate was still climbing to its peak of 7.25% in 2009. That made it possible to invest cash in term deposits paying 5% or more, an attractive option for older people who wanted a safe haven.

Now, the return for risk-averse investors barely covers the cost of self-managed super fund administration. And to think that Labor were talking about taking away much-needed dividend credit refunds! (The fact that this would only affect a small number of wealthy individuals was a fact not well explained by Labor and gleefully misinterpreted by the government).

Continuing low inflation is the main reason Australia’s central bank keeps cutting interest rates. Inflation dropped to 1.3% in March – the cost of living as represented by the Consumer Price Index (CPI) minus ‘volatile items’ like home purchase costs. However, Commonwealth Bank senior economist Gareth Aird argues that adding housing costs could add 0.55 percentage points to the CPI, giving the RBA less reason to lower interest rates.

Warren Hogan writes that ‘Australia is in a new environment where tinkering with interest rates may not be as relevant as it once was.’ Inflation is subdued around the world, he notes, yet the global economy is growing and unemployment is low.

Likewise in Australia, unemployment is low, although wages growth has stalled. As Hogan says, it isn’t at all clear that even lower interest rates would have a meaningful effect on inflation.

Australia has not plunged into a recession for 28 years, yet some commentators have used the R word when talking about the latest round of retail closures. (I should point out that uttering the R word is regarded in some circles as akin to walking under a ladder, breaking a mirror, toppling a salt shaker or seeing a priest in the street).

Retail closures included Maggie, T, Roger David, The Gap, Esprit and Laura Ashley. National retailers planning to downsize include Big W, Target, Myer and David Jones.

While some retail closures involved inevitable job losses, there will be more jobs to go as the big national chains roll out their smaller formats.

For the benefit of those aged under 28, an ‘R’ sets in after two consecutive quarters of negative GDP growth.

As we can see, the GDP result over nine months (+0.3%, +0.4% and +0.4%), means we are in dangerous territory.

The Gross Domestic Product (GDP) number is the one that measures whether the economy is growing or retracting. Safe to say at this point that a 0.4% increase in the March 2019 quarter (published this week) is not what the market or the government was looking for. The annualised GDP is 1.8% − the lowest since the GFC. Some pundits are calling it a GDP-per-capita-R, that is, population growth is overtaking economic growth.

The low interest rate scenario (and the data implies more cuts to come), is good for young people buying houses, but has a detrimental impact on retirees. Most people in retirement mode take a conservative view, preserving their remaining capital as long as possible. Bucket-list advocates would say what the hell and head off to Antarctica while there are still icebergs, glaciers and penguins.

Retirees typically have 60% to 70% of their super fund/savings in fixed interest products, with the balance in income-producing shares. But when faced with returns of 2.45% and less, it is difficult to stick to this formula. Shares or investment housing offer riskier but more attractive returns, though not as risky as spending all your cash on travel adventures or stashing it under her side of the mattress.

What to do? I have no answers, nor, I suspect, does the central bank, or the government, which is seemingly obsessed with the notion of stimulating the economy via $158 billion in tax cuts over 10 years.

Everyone under 30 needs to be across this subject because, as Herbert Hoover once said: “Blessed are the young, for they will inherit the national debt.”

We’ll leave you with some insights from Clarke & Dawe about banks, the debt crisis and interest.

PS- I’m offering a choice of home-made, gluten free cake to whomever can explain to me why inflation is a ‘good thing’ – Ed..

No interest at all

piggy-bank-1239661 — Johanna Ljungblom/FreeImages.com

Though the headline might put you off, we must ask: why are interest rates dropping, who does it affect and where will it all end?

Few people would be unaware that the Reserve Bank of Australia (RBA) dropped the official cash rate to 1.50% on August 2, the lowest rate since records have been kept.

The supposed reason is to stimulate the economy (that is, to encourage spending and borrowing). It is theoretically OK to do this when inflation is low or falling as it is now. Conversely, as inflation rises, so do interest rates (RBA considers that this will restrain borrowing and spending).

An official cash rate of 1.50% is a huge problem for self-funded retirees such as yours truly and She Who Supports Ethical Investment. Four years ago we invested in a bank term deposit paying 5%, with interest paid annually. The annual payment dropped into our bank account this week. But where do we turn when this tiny golden goose gets killed off next year?

On current speculation, cash rates could drop to 1.25% by the second quarter of 2017. Given that inflation is currently 1%, that is a pretty skinny return.

The theory is we (self-funded retirees and younger people trying to save), will turn to the share market, where one can not only get better yields, but also the prospect of capital gains (and a tax break via dividend imputation). That means the company paying the dividend has already paid tax on it, so the franking credits (tax component) is refunded to the investor. But as we all know, the share market is volatile; you can lose money, companies can reduce or suspend dividends; gadzooks, companies can go broke and your modest $12,000 investment drifts away like steam from a kettle.

We’re told inflation has dropped from 1.7% in January to 1% in June, yet each week we seem to spend more at the supermarket and the petrol pump. House insurance premiums are rising, ditto rego, electricity and water rates. What’s really going on?

The low interest scenario, not by any means restricted to Australia, is set to continue for the foreseeable future.

Pre the GFC (2008), self-managed retirees could obtain interest rates of 6% to 7% on term deposits so their SMSFs were earning a fair, tax-protected return, sufficient to pay pensions and preserve capital (thus avoiding the inevitable dip into the public purse).

In this low interest rate environment, the biggest risk is that naïve investors will be lured into higher-rate schemes which are either unsecured and risky or just outright scams. The best known of scams is the Ponzi scheme, where a promoter offers you 12% on your investment, making interest payments with new deposits and eventually fleeing to some country with no extradition treaty.

Caveat emptor, mate.

Nevertheless, an official interest rate of 1.5% looks generous compared to the UK, US and Japan, the latter entering negative interest* territory in February. In post-Brexit UK, the Bank of England cut the cash rate this month to 0.25%, its first rate cut in seven years. The rationale for doing so was to support growth and return inflation to a sustainable target of 2%. UK inflation was 0.3% in May, so we can see what they mean.

Steve Worthington, adjunct Professor at Swinburne University of Technology revealed an odd cultural reaction to negative interest rates in an article written for The Conversation.

One month after the Bank of Japan’s decision to unleash negative interest rates, applications to join the loyalty programmes of Japanese department stores such as Mitsukoshi, Daimaru and Takashimaya (which offer discounts on goods of 5% to 8%), were 100-200% higher than in the same month of 2015.

Such consumer behaviour undermines the intentions of the central banks. Prof.Worthington proffers that if the weapon of negative interest rates does not work as expected on currency values or domestic consumption and investment, what else is there left to deploy to prevent deflation and a further slowdown in economic activity?

Prof. Worthington says negative interest rates are intended to boost domestic demand by forcing banks to lend money out and encourage consumers to both borrow and spend.

But they cannot bank on the unpredictable behaviour of individuals and organisations. Prof Worthington referred to the unexpected result this week after New Zealand’s central bank cuts its cash rate to a new low of 2%.

“Rather than that lowering the value of the NZ dollar, it has actually sent their dollar higher – economics theory meets reality and is found wanting!”

Many Euro Zone countries are already in negative interest mode, Japan has just joined the club and the US (0.5%) and UK (0.25%) is as close to zero as you can get. There are even a few economists in Australia who believe we could be at zero interest within a couple of years.

A collaborative essay in the Wall Street Journal examined the trend to negative rates, uncovering some evidence the policy was backfiring. The authors wrote: “some economists now believe negative rates can have an unintended psychological effect by communicating fear over the growth outlook and the central bank’s ability to manage it.”

If the primary motive of low or zero interest rates is to encourage citizens to borrow or spend, it appears to be a lost cause. The OECD index of household savings shows savings are high and likely to go higher in countries such as Germany, where the percentage of disposable income which is being devoted to saving rose to 9.7%, and is forecast to rise to 10.4% this year. The OECD also forecasts the rate to rise in Japan.

While Australians now are saving just under 10% of their disposable income, in the noughties we were saving virtually nothing and gearing ourselves into unsustainable debt.

A Federal Treasury paper, The rise in household saving and its implications for the Australian economy, theorises that had household savings remained at 2004-05 levels, consumption would have been 11% higher than its current level – about 6% of GDP.

“The primary effect of the turnaround in household saving has therefore been to reduce the extent to which interest rates and the exchange rate have needed to rise to maintain macroeconomic balance.”

The paper noted that subdued household spending will also present challenges to the retail and residential construction sectors.

So what does the average punter do – buy a safe (apparently ‘trending’ in Japan), stash the cash under the mattress, buy gold bullion, collectables or vintage wines?

You can still find a few banks with term deposit rates around 3%, though the rate does not vary much between six months and five years.

Self-funded retirees who need a certain level of return to maintain their lifestyles have only a few options: take riskier investment strategies (hybrids, debentures, unlisted property trusts), dig in to capital; apply to Centrelink for a part-pension or (shudder) start job-hunting. (Either that, or forget about that trip overseas…Ed).

*instead of receiving a return on deposits, depositors must pay regularly to keep their money with the bank.