How Australian households became the most indebted in the world

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(Earth is rising over the Moon's Surface), Source: https://www.facebook.com/RealEstateSA5000/photos/a.899877783394135.1073741829.899009183480995/920077631374150/?l=734b9eef72 Australian economy How Australian households became the most indebted in the world Philip Soos The rapid rise of capital city house prices in the past two years has propelled Australia past Denmark with a ratio of 123.08% debt to GDP, analysis shows house prices House prices have risen 141% in Australia since 1996. Photograph: David Gray/REUTERS @PhilipSoos Friday 15 January 2016 12.41 AEDT Last modified on Friday 15 January 2016 14.11 AEDT Share on Pinterest Share on LinkedIn Share on Google+ Save for later The results are in: Australian households have more debt compared to the size of the country’s economy than any other in the world. The latest job figures are promising – but can they last amid the economic gloom? | Greg Jericho Research by the Federal Reserve has shown the consolidated household debt to GDP ratio increased the most for Australia between 1960 and 2010 out of a select group of OECD nations. Australia’s household sector has accumulated massive unconsolidated debt compared with other countries. As of the third quarter of 2015, it now has the world’s most indebted household sector relative to GDP, according to LF Economics’ analysis of national statistics. Denmark long held this unholy accomplishment, but has been slowly deleveraging over the last several years as its housing bubble peaked and burst during the GFC. The latest debt-financed boom in Sydney and Melbourne has resulted in Australia now overtaking Denmark, a comparison of official figures from Australia and Denmark has shown. Unconsolidated household debt Photograph: LF Economics Australia has around $2 trillion in unconsolidated household debt relative to $1.6 trillion in GDP. Australia’s ratio is 123.08%, while Denmark’s fell slightly to 122.99% in the third quarter of 2015, a marginal difference of 9 basis points. Although Denmark holds the record in terms of peak debt of 140.14% in the last quarter of 2009, as Australia continues to leverage and Denmark deleverages the current gap between the two will widen. Apart from Switzerland (which alongside Denmark has a negative interest rate), no other country is close in terms of having such extreme household sector debts. The UK ratio is 85.9% while in the US it is 79.1%. Due to Switzerland’s opaque financial accounts, it is impossible to calculate a figure for this quarter. Its ratio for the second quarter of 2015 is 121.3%, and household debt is rising very slowly, so it would take an extraordinary increase over the quarter to potentially beat Australia. The final confirmation of the trend is expected when the Bank of International Settlements publishes its analysis of private credit statistics from the third quarter. Australian property investors and homeowners are burdened with massive mortgages, especially new and marginal entrants. Unlike winning a gold medal at the Olympics, having the world’s most indebted household sector is not an achievement the nation should be proud of. This is where Australia’s real debt and deficit problem lies, not in the public sector. Over the last two decades, Australia has been beset by rampant housing price inflation. Advertisement Since 1996, prices have outpaced fundamentals such as inflation, incomes, construction costs, rents and GDP, making it difficult for potential first home buyers to enter the market while lower income households and marginal groups struggle to afford decent shelter. Between 1996 and 2015, housing prices (adjusted for inflation and quality) have boomed by 141%, without a large and obvious downturn. This surge has led to a heated debate over whether this constitutes an asset bubble. Unfortunately, the Australian housing market shares similarities with countries afflicted by such bubbles: the United States, Spain, Denmark, the Netherlands and Ireland. Government, the FIRE sector (finance, insurance and real estate) and the mainstream economics profession deny the existence of a real estate bubble, but Australia’s economic history demonstrates they occur repeatedly, with all signs pointing to one today. Contrary to the analyses of the vested interests, the data clearly establishes Australia is in the midst of the largest housing bubble on record. Australia house price index Photograph: LF Economics Government is caught between a rock and a hard place, as implementing needed reforms will likely burst the bubble, causing severe financial and economic problems as residential land prices decline. The FIRE sector, including the public caught in the fallout, will surely blame government for the bust and deflect attention away from the gargantuan amount of debt pumped out by lenders. Advertisement One of the faults of real estate analysis is the failure to distinctly define an asset bubble, so debate on the matter is kept necessarily vague. Only a couple of housing market metrics is needed to identify a bubble, and are now considered commonplace: nominal price to inflation, price to income and price to rent. On all three, Australia is both historically and internationally at or near the top. Since the advent of the GFC, it has become commonly accepted that the global real estate booms originated from rapidly expanding bank credit or private mortgage debt. It is not merely the growth of mortgage debt (the first derivative) but the acceleration (the second derivative), also known as the change in the rate of growth. Nevertheless, the simple growth of mortgage debt provides a strong indicator for housing price growth. The future for investors and new homeowners is not good. Subdued capital price growth in the secondary capital cities, rental price growth at record lows, significant dwelling construction and a falling population growth rate leading to further oversupply all spell danger. The problems are compounded by the Reserve bank having little room for interest rate cuts, by weak macroprudential controls, minimal savings, low household income growth and anaemic GDP growth. Captured by neoliberal ideology and the FIRE sector, government has no interest in stopping this immensely profitable yet dangerous gravy train, having enriched the already wealthy beyond avarice through privatisation of unearned economic rents rather than productive activity. Philip Soos is the co-author of Bubble Economics: Australian Land Speculation 1830-2013 and co-founder of LF Economics. @PhilipSoos More comment Topics Australian economy Housing affordability Global economy Denmark Economics Share on Pinterest Share on LinkedIn Share on Google+ Save for later ============================================================== Six reasons why now is the right time to raise interest rates By delaying a rate rise, the Bank of England is exposing the UK economy to a much wider set of risks Bank of England, in the City of London The MPC has a responsibility to take a broader view of the economy Photo: PA By Andrew Sentance 6:03PM GMT 15 Jan 2016 Comments23 Comments The latest decision and minutes of the Bank of England’s Monetary Policy Committee give little indication that a rise in UK interest rates is coming any time soon. Only one member, the former CBI chief economist Ian McCafferty, is in favour of raising them. His argument is that inflation could rise more quickly than his MPC colleagues think once the temporary effects of lower oil prices wear off. It’s perhaps not surprising that this argument is not proving persuasive, when the oil price is plunging and wage growth has dropped back. Even if these effects are indeed temporary, the majority of MPC members believe they can wait before a serious risk of inflation rising above the 2pc target. Oil prices are plunging However, the risks to inflation are not the main reason for starting to raise interest rates now. The 2pc target is an important long-term benchmark – as an anchor for price stability. But it has been treated quite flexibly by the MPC since the financial crisis. When interest rates were slashed in late 2008 and early 2009, inflation had just peaked at more than 5pc. It remained over 2pc until the beginning of 2014, with the exception of a short period in 2009 when a VAT cut held down inflation. Over this five-year period, the MPC did not raise interest rates despite prolonged and persistent above-target inflation. The MPC has a responsibility to take a broader view of the economy, and not be slavishly fixated on whether inflation is slightly above or below 2pc. That is particularly important now, when the decision to start raising rates is a key strategic issue. By continuing to set the official Bank Rate at 0.5pc when we are in the seventh year of economic recovery, the MPC is exposing the UK economy to a much wider set of risks. There are six potential problems that are growing as we continue with the current policy of near-zero interest rates. Yet they do not seem to feature very significantly in the MPC’s policy discussion. Low interest rates are supporting a house price bubble Figures show house prices rising at 7pc a year – way above the inflation target and average wage growth. According to Nationwide, prices in London are now more than 10 times the earnings of first-time buyers. The equivalent ratio 20 years ago in the mid-1990s was around 2.5 times. The Government’s housing policies will not be successful when monetary policy is taking house prices further out of the reach of first-time buyers. The recovery risks becoming unbalanced The economic recovery could become reliant on consumer debt and borrowing. That has not been the case so far, as I argued in this column last week. Investment and exports have been responsible for more than half of the UK’s growth since mid-2009 and consumer spending has played a supporting role. But the longer this period of very low interest rates carries on, the greater the risk of an unsustainable rise in consumer debt. The Bank’s own figures already show an 8.3pc rise over the past year. Low rates risk undermining the savings culture Individuals should be saving more to provide for retirement. Again, the signals sent out by the Bank are running counter to government policy, which is aimed at encouraging people to make better provision for their old age. Is it surprising that the household saving ratio has fallen to its lowest level for more than 50 years against this background? The pound is falling Fourth, the pound is declining against the dollar and the euro, as investors see the UK falling behind the US in raising interest rates. Sterling risks falling below $1.40 and €1.30 if the current decline continues – perhaps aggravated by worries about the EU referendum outcome. This would be bad for our growth prospects, as the UK economy generally performs better when the pound is relatively strong. A rising currency benefits consumers by holding down import prices, while our exports are not generally very price-sensitive. We have seen this over the past three years, as a recovery in sterling has been associated with better growth. A threat to confidence Fifth, the delay in raising rates and uncertainty about future borrowing costs is a threat to confidence. Consumers and businesses need to plan for the future and so a clear steer on policy can be helpful. However, the “forward guidance” from the MPC has been changeable and inconsistent. The committee is trying to persuade the public that a future rise will be slow and gradual. But they are also delaying the first increase. These are contradictory positions: the longer the first rate rise is delayed, the greater the risk that the increase will be sharp and abrupt when it comes. What happens if there is another global financial crisis? Finally, the MPC is giving itself no room for manoeuvre to relax monetary policy in the face of a global economic shock. I believe the current turbulence in financial markets will prove short-lived. But we need to prepare for a situation when there is a much bigger threat to the growth of the UK economy. If interest rates stay on the floor, the only tool available to the MPC is quantitative easing, which has an uncertain impact on the economy. It would be much better to have raised rates gradually in the meantime, so the Bank is in a position to cut them to head off future economic dangers. It is worrying that these risks are not being debated more actively by the MPC or being raised in speeches and articles by committee members. The mindset appears to be that a rate rise would damage the recovery and should be delayed as long as possible. That is a misperception – the UK economy can continue to grow and prosper with higher interest rates, as long as this is clearly signalled and communicated to the public, business and the financial markets. The US Federal Reserve has shown the way ahead. It is time for the Bank of England to follow. Andrew Sentance is senior economic adviser at PwC and a former MPC member ===========================================