RBA – Page 62 – Digital Finance Analytics (DFA) Blog

There’s Never Been a Tougher Time to be a Central Banker

The two central banks that matter most for Australians – the Reserve Bank of Australia (RBA) and the US Federal Reserve (the Fed) – released minutes from their latest meetings this week. And although there were not a lot of surprises, there was a fair bit of detail about what we can expect on interest rates going forward.

The Federal Open Market Committee’s (FOMC) main message was unmistakable -expect interest rate rises, and expect them sooner rather than later:

Many participants expressed the view that it might be appropriate to raise the federal funds rate again fairly soon if incoming information on the labor market and inflation was in line with or stronger than their current expectations or if the risks of overshooting the committee’s maximum-employment and inflation objectives increased.

and that they:

continued to see only a modest risk of a scenario in which the unemployment rate would substantially undershoot its longer-run normal level and inflation pressures would increase significantly.

This is exactly what markets have been expecting, and it seems clear that the balance of risks is no longer that the labour market is too weak or inflation too low, but that the Fed might wait too long to continue its path of rate rises.

The really big unknown is how the Fed goes about unwinding a good chunk of its balance sheet, which involves US$2.64 trillion (with a “T”) of treasury bonds that were purchased as part of its effort to stimulate the economy in the wake of the financial crisis. The Fed also holds around US$1.75 trillion of mortgage-backed securities (“MBSs”).

The natural way to unwind this is by not reinvesting those funds when the securities mature. The Fed gets its money back and doesn’t purchase new treasuries or MBSs.

But it’s more complicated than that. New post-crisis capital rules require commercial banks to keep a large amount of reserves sitting at the Fed. This is now around US$2 trillion. The Fed has to match this liability with assets, like treasuries.

Nobody knows, but my guess is that the Fed shifts MBSs to treasuries over time, but has to keep a large asset side of the balance sheet. This suggests that maybe the whole balance sheet unwinding problem may not be as significant an issue as first thought. But this is genuinely unchartered territory.

At home, the RBA minutes confirmed the ongoing dilemma governor Philip Lowe faces. Like his predecessor, Glenn Stevens, Lowe is trying to manage: unemployment, the Aussie dollar exchange rate, business investment, overall growth, inflation and housing price stability all at the same time, but with only one instrument: the cash rate.

To see this, just look at the opening sentences of the long section of the RBA minutes titled “Considerations for Monetary Policy”. They read as follows:

In considering the stance of monetary policy, members viewed the near-term prospects for global growth as being more positive, although recognised the risks from policy uncertainty in the medium term… Domestically, the economy was continuing its transition following the end of the mining investment boom… Non-mining business investment was also expected to gain some momentum…

Conditions in housing markets varied considerably across the country… Inflation outcomes for the December quarter were much as had been expected and there had been very little change to the forecast for inflation…Labour cost pressures were expected to build gradually from their current low levels…

Wow. That’s a whole lot of targets to try and hit with a single (non-magic, non-silver) bullet. No wonder Dr Lowe has now taken to giving speeches that essentially plead businesses to invest.

It hasn’t quite gotten to “there’s never been a better time to be a business in Australia”. But close. It may, however, be that it’s never been a tougher time to be a governor of the RBA.

Author: Richard Holden , Professor of Economics and PLuS Alliance Fellow, UNSW

Canada Vs Australia On Housing

The RBA Governor gave a speech comparing aspects of the Australian and Canadian economies. I found the comparisons relating to housing interesting. In summary, high prices, high debt, and high risk.

We have both had strong housing markets over recent years and there are concerns about the level of household indebtedness. There are some similarities in the factors at work.

One is that our populations have been growing quickly for advanced industrialised countries. In Australia, population growth has averaged 1.7 per cent over the past decade, while in Canada it has averaged 1.1 per cent. Over the past couple of years the growth rates have moved closer together.

Another similarity is that there has been strong demand from overseas residents for investments in residential property, particularly in our wonderful Pacific-rim cities. Not only are these cities attractive places to live, but we also offer investors security of property rights and economic and financial stability. Given the strong demand and its impact on prices in some areas, some state and provincial governments have recently levied additional taxes on foreign investors in residential property.

Our housing markets have also been affected by the global monetary environment. We both run independent monetary policies, but the level of our interest rates is influenced by what happens elsewhere in the world. With interest rates so low and our economies being resilient, it is not so surprising that people have found it an attractive time to borrow to buy housing.

Another characteristic that we have in common is that at a time of strong demand from both residents and non-residents, there are challenges on the supply side. I understand that zoning is an issue in Canada, just as in Australia. In some parts of Australia, there has also been underinvestment in transport infrastructure, which has limited the supply of well-located land at a time when demand for such land has been growing quickly. The result is higher prices.

We are also both experiencing large differences across the various sub-markets within our countries. The strength in housing markets in our major cities contrasts with marked weakness in the mining regions following the end of the mining investment boom.

The increase in overall housing prices in both our countries has gone hand in hand with a further pick-up in household indebtedness. In both countries the ratio of household debt to income is at a record high, although the low level of interest rates means that the debt-servicing burdens are not that high at the moment.

In Australia, the household sector is coping reasonably well with the high levels of debt. But there are some signs that debt levels are affecting household spending. In aggregate, households are carrying more debt than they have before and, at the same time, they are experiencing slower growth in their nominal incomes than they have for some decades. For many, this is a sobering combination.

Reflecting this, our latest forecasts were prepared on the basis that growth in consumption was unlikely to run ahead of growth in household income over the next couple of years; in other words the household saving rate was likely to remain constant. This is a bit different from recent years, over which the saving rate had trended down slowly.

This interaction between consumption, saving and borrowing for housing is a significant issue and one that I know both central banks are watching carefully. It is one of the key uncertainties around our central scenario for the Australian economy. It was also cited as one of the key risks for the inflation outlook in the Bank of Canada’s latest Monetary Policy Report. We are still learning how households respond to higher debt levels and lower nominal income growth.

RBA Minutes Says Little On Housing

The latest minutes from the RBA says little about housing, considering the words on the last page of the statement on monetary policy.

Private dwelling investment had declined unexpectedly in the September quarter, largely because poor weather had disrupted construction. However, dwelling investment had grown at an above-average rate over the previous year, supported by low interest rates and further increases in housing prices. The large amount of work in the pipeline was expected to support dwelling investment at high levels over the next year or so, although there was some risk of more cancellations than usual if conditions in apartment markets deteriorated.

The combination of increased supply and lower population growth had already depressed rents and apartment prices in Perth and, increasingly, Brisbane. In contrast, conditions in the established housing markets in Sydney and Melbourne had strengthened over the second half of 2016 and investor housing loan approvals had risen over recent months. Members noted that housing market activity in Melbourne and surrounding areas had been supported by strong population growth and improvements in transportation infrastructure.

Over recent months there had been a small increase in variable housing lending rates for investors in housing, but little change in overall lending rates for owner-occupiers and in business lending rates. Over the prior year, the major banks had lowered lending rates by a little less than the decline in the cash rate.

Conditions in housing markets varied considerably across the country. Housing prices and rents had been falling in Perth and there were signs that the significant increase in the supply of apartments had begun to affect prices and rents in Brisbane. In contrast, activity in the established housing market had picked up in Sydney and Melbourne in the second half of 2016, and investor credit growth had increased. Supervisory measures had strengthened lending standards and some lenders were taking a more cautious attitude to lending in certain segments.

A reminder of the warning in the SMP.

Housing prices have picked up over the second half of 2016, most notably in Sydney and Melbourne. This could see more spending and renovation activity than is currently envisaged.

On the other hand, a widespread downturn in the housing market could mean that a more significant share of projects currently in the residential construction pipeline is not completed than is currently assumed. While this is a low-probability downside risk, it could be triggered by a range of different factors.

Low rental yields and slow growth in rents could refocus property investors’ attention on the possibility of oversupply in some regions.

Although investor activity is currently quite strong, at least in Sydney and Melbourne, history shows that sentiment can turn quickly, especially if prices start to fall. Softer underlying demand for housing, for example because of a slowing in population growth or heightened concerns about household indebtedness, could also possibly prompt such a reassessment.

Not sure I can reconcile the two!

RBA Warns on Housing – Sort of…

Hidden away at the end of the 62 page Statement on Monetary Policy is a gem of a paragraph relating to housing. I think this is the first warning I can remember on the subject, as up to now the RBA has been remarkable bullish. Will this mean the regulators efforts to control the risks be accelerated?

Housing prices have picked up over the second half of 2016, most notably in Sydney and Melbourne. This could see more spending and renovation activity than is currently envisaged.

On the other hand, a widespread downturn in the housing market could mean that a more significant share of projects currently in the residential construction pipeline is not completed than is currently assumed. While this is a low-probability downside risk, it could be triggered by a range of different factors.

Low rental yields and slow growth in rents could refocus property investors’ attention on the possibility of oversupply in some regions.

Although investor activity is currently quite strong, at least in Sydney and Melbourne, history shows that sentiment can turn quickly, especially if prices start to fall. Softer underlying demand for housing, for example because of a slowing in population growth or heightened concerns about household indebtedness, could also possibly prompt such a reassessment.

Now, you can read this a couple of ways, first it is a low-probability – they say, so not to worry. Or could it be that this is a way of getting housing expectations reset.

We have been highlighting potential risks in housing thanks to low income growth, sky-high debt and rapid growth in the investment sector at a time when rental yields are under pressure.

At very least it seems the housing expectation sails are being trimmed, and should things go bad later, the RBA can point back to the “I told you so” paragraph.

Lets see if the regulators get their act together now, though it is late in the day!

Rates on hold, but housing affordability remains ‘hotly debated’

From The Real Estate Conversation.

The Reserve Bank has left interest rates at historic lows as economic conditions improve, but the property industry says other measures are required to improve housing affordability.

The Reserve Bank of Australia left interest rates on hold at its first meeting of 2017, with rates held at a record low of 1.50 per cent.

Governor Philip Lowe noted in his statement that growth in China was stronger in the second half of 2016, that global business and consumer confidence is improving, and that global inflation is rising. He also said recent rises in commodity prices are increasing Australia’s national income.

Lowe said the RBA expects Australian economic growth in the final quarter of 2016 to firm, and re-affirmed the RBA is forecasting growth to pick up to “around 3% over the next couple years”. Lowe said Australian inflation is heading back towards the target range.

In his November 2016 statement, Lowe said cutting rates further may not be in the “public interest” if it further increased household debt.

Real Estate Institute of New South Wales President John Cunningham said the central bank’s decision was no surprise, but said he expects housing affordability to be “hotly debated” this year.

“An emphasis will again be placed on first homebuyers and there will be much debate this year on ways to improve their plight,” he said.

“A review of stamp duty is urgently required and should focus on first homebuyers and older Australians,” said Cunningham.

The RBA cut interest rates twice in 2016, first in May and then in August. However, banks are independently increasing interest rates for investors as increased global economic uncertainty raises their borrowing costs.

Laing+Simmons managing director and REINSW president-elect Leanne Pilkington echoed Cunningham’s sentiment, saying rate cuts are not the answer to improving housing affordability. Further rate cuts are not required in the current housing cycle, she said.

“Obtaining housing finance at attractive terms is already possible for those with the means,” said Pilkington.

“It’s those without the means – stuck in the rental cycle or unable to accumulate a suitable deposit – that face the greatest challenge in the market,” Pilkington said.

“Further rate cuts are not a solution to the problem. Between government and the industry, we need to table some alternative solutions to help people buy their first home,” she said.

“From a housing industry perspective,” said Pilkington, “rates are already low and have been for some time, so that piece of the affordability puzzle is in place.”

Like Cunningham, Pilkington believes changes to stamp duty are necessary to address housing affordability problems. “It’s through other avenues like stamp duty reform that improvements in affordability need to be addressed,” she said.

Pilkington also said making downsizing more viable for older Australians, introducing a Government-backed savings scheme to help people save for a deposit, and minimising the cost of mortgage insurance could all alleviate housing affordability problems in Australia.

The Property Council of Australia welcomed the statement by Lowe on interest rates, saying it was a sober assessment of housing markets.

The governor’s statement said “conditions in the housing market vary considerably around the country”.

Ken Morrison, chief executive of the Property Council of Australia, said the statement confirms the current situation of “prudent lending practices and the best environment for renters in a generation with consistent low rental growth.”

“The deterioration in housing affordability is a serious problem in a number of our major cities, but is not an Australia-wide problem,” said Morrison.

1300 HomeLoan managing director John Kolenda said the RBA will remain on the sidelines until uncertainty about the economic impact of US president Trump becomes clearer.

“The RBA will stay on the sidelines and assess the impact on the global economy although our domestic economy appears stable with no need to adjust interest rates,” said Kolenda.

Kolenda said while the RBA’s cash rate is unlikely to change in the short term, confusion could arise from varying mortgage rates, and reinforced his recommendation to use a mortgage broker.

RBA Rate Decision – Hold

The RBA has left the cash rate on hold this month.

At its meeting today, the Board decided to leave the cash rate unchanged at 1.50 per cent.

Conditions in the global economy have improved over recent months. Business and consumer confidence have both picked up. Above-trend growth is expected in a number of advanced economies, although uncertainties remain. In China, growth was stronger over the second half of 2016, supported by higher spending on infrastructure and property construction. This composition of growth and the rapid increase in borrowing mean that the medium-term risks to Chinese growth remain. The improvement in the global economy has contributed to higher commodity prices, which are providing a boost to Australia’s national income.

Headline inflation rates have moved higher in most countries, partly reflecting the higher commodity prices. Long-term bond yields have also moved higher, although in a historical context they remain low. Interest rates have increased in the United States and there is no longer an expectation of further monetary easing in other major economies. Financial markets have been functioning effectively and stock markets have mostly risen.

In Australia, the economy is continuing its transition following the end of the mining investment boom. GDP was weaker than expected in the September quarter, largely reflecting temporary factors. A return to reasonable growth is expected in the December quarter.

The Bank’s central scenario remains for economic growth to be around 3 per cent over the next couple of years. Growth will be boosted by further increases in resource exports and by the period of declining mining investment coming to an end. Consumption growth is expected to pick up from recent outcomes, but to remain moderate. Some further pick-up in non-mining business investment is also expected.

The outlook continues to be supported by the low level of interest rates. Financial institutions remain in a position to lend. The depreciation of the exchange rate since 2013 has also assisted the economy in its transition following the mining investment boom. An appreciating exchange rate would complicate this adjustment.

Labour market indicators continue to be mixed and there is considerable variation in employment outcomes across the country. The unemployment rate has moved a little higher recently, but growth in full-time employment turned positive late in 2016. The forward-looking indicators point to continued expansion in employment over the period ahead.

Inflation remains quite low. The December quarter outcome was as expected, with both headline and underlying inflation of around 1½ per cent. The Bank’s inflation forecasts are largely unchanged. The continuing subdued growth in labour costs means that inflation is expected to remain low for some time. Headline inflation is expected to pick up over the course of 2017 to be above 2 per cent, with the rise in underlying inflation expected to be a bit more gradual.

Conditions in the housing market vary considerably around the country. In some markets, conditions have strengthened further and prices are rising briskly. In other markets, prices are declining. In the eastern capital cities, a considerable additional supply of apartments is scheduled to come on stream over the next couple of years. Growth in rents is the slowest for a couple of decades. Borrowing for housing has picked up a little, with stronger demand by investors. With leverage increasing, supervisory measures have strengthened lending standards and some lenders are taking a more cautious attitude to lending in certain segments.

Taking account of the available information, and having eased monetary policy in 2016, the Board judged that holding the stance of policy unchanged at this meeting would be consistent with sustainable growth in the economy and achieving the inflation target over time.

Credit Growth Strong In December; But By How Much?

The RBA released their Credit Aggregates to December 2016 today. Total housing was a new record at $1.62 trillion.

The headline statement from the RBA says housing grew 0.5% in the month and 6.3% annually, personal credit fell 0.1%, down 1.3% annually, and business credit role 1.1% in December, making 5.6% annually. All these are well above inflation, and wage growth.

Within housing, investment lending continued to grow up 0.8%, compared with 0.4% for owner occupied lending, making annual changes of 6.2% and 6.4% respectively. So, once again we see growth in the investment sector moving up, which is in line with our surveys.

The monthly data shows the spike in both investment lending for housing and other business lending. This dataset, says the RBA has been adjusted for series breaks, to reflect as accurate picture as possible.

Now, things get interesting if we look at the more detailed data, which does not include series adjustments, although they are seasonally adjusted. Clearly there was further switching between loan categories.

Total lending for housing rose to $1.62 trillion, up $14 billion in the month. This is a new record and is up 0.88% from last month. On these figures, owner occupied loans grew 0.9% ($9.4 billion) and investment loans grew 0.84% ($4.68 billion). We see variations in the personal credit series too, with borrowing up 0.1% in the month, by $0.15 billion to $144 billion; business credit rose by 1.29% or $11.2 billion to $879.8 billion. But there is no way we can reconcile the two data series, so actually, we just have to take the RBA’s word on the figures – hardly open and transparent. Perhaps they prefer to paint the lower “adjusted figure” to support their view all is well in the housing lending sector, but it is mighty strange to have such varied outcomes.

We also see the proportion of housing lending for investment purposes remained at 34.8% of all lending, still too high in our view and the proportion of lending to business rose a little to 33.2% of all lending. We are still over leveraged into housing generally, and to investment housing in particular.

The RBA noted:

All growth rates for the financial aggregates are seasonally adjusted, and adjusted for the effects of breaks in the series as recorded in the notes to the tables listed below. Data for the levels of financial aggregates are not adjusted for series breaks. Historical levels and growth rates for the financial aggregates have been revised owing to the resubmission of data by some financial intermediaries, the re-estimation of seasonal factors and the incorporation of securitisation data. The RBA credit aggregates measure credit provided by financial institutions operating domestically. They do not capture cross-border or non-intermediated lending.

Following the introduction of an interest rate differential between housing loans to investors and owner-occupiers in mid-2015, a number of borrowers have changed the purpose of their existing loan; the net value of switching of loan purpose from investor to owner-occupier is estimated to have been $48 billion over the period of July 2015 to December 2016, of which $0.9 billion occurred in December 2016. These changes are reflected in the level of owner-occupier and investor credit outstanding. However, growth rates for these series have been adjusted to remove the effect of loan purpose changes”.

We will discuss the APRA monthly banking stats later.

Property investors could force RBA’s hand

From InvestorDaily.

A resurgence in residential property investor lending could see the Reserve Bank lift the cash rate earlier than expected, according to a market analyst.

The latest ABS figures show that the value of investor housing finance increased by 4.9 per cent over November.

Investor lending is now up 21 per cent year-on-year, which is the fastest growth rate since the first half of 2015, which saw the implementation of APRA’s macroprudential regulations.

“I have a feeling that this is probably a bit of a wake-up call for the RBA,” Digital Finance Analytics (DFA) principal Martin North said.

“I think they will lift rates sooner rather than later because I think it has gotten out of hand. All indicators suggest that rates will rise.”

Mr North added that there are considerable proportions of households that are exposed to even small rate rises.

“Some of these are the more affluent households. They have such large mortgages and flat income growth,” he said. “The market could be up for a bit of a transformation in 2017.”

HSBC Australia chief economist Paul Bloxham believes most of the revival in investor activity is being driven in Sydney and Melbourne, where house prices posted strong gains in 2016.

“It has a number of implications, the first of which is, this is likely to make the RBA somewhat uncomfortable. This firms up our already held view that the RBA is unlikely to cut interest rates any further,” said Mr Bloxham.

“Our central case is that the RBA is on hold through 2017 and that they start to lift interest rates in 2018.”

Household Debt Higher, Yet Again

Given the recent data, no surprise the latest RBA chart pack includes the updated household finances data to December 2016, and shows a further rise in the debt to disposable income ratio. Given that lending growth is around 6.5% over the past year and income growth much lower, this trend is likely to continue.

However, the debt has to be repaid at some point. Also worth noting that the interest paid now reflects the lower effective interest rates following the RBA cash rate cut. However, we expect effective rates to rise in coming months.