S&P has released an update on Australia’s sovereign rating and seems to have turned more positive on the risks to our AAA (the opposite interpretation is available in the memory free zone that is the MSM).
The usual warnings are there:
Australia is not without a number of vulnerabilities. The economy holds a large amount of offshore debt, households retain substantial debt mainly due to elevated property prices, and its banks are reliant on foreign investors for funding. Moreover, the country is increasingly sensitive to the pace of China’s growth. In a downside scenario, these risks could lead us to lower the sovereign rating, although they appear to be largely mitigated for now.
But the tone and rationale of the note is definitely more positive than in recent times:
Australia’s economy has been resilient because of its wealthy and open economy, and low public debt. In addition, it has benefited from a natural resources boom, driven largely by China’s rapid expansion.
- However, the country faces a number of weaknesses, including significant offshore debt, elevated household debt, and a banking sector reliant on foreign investor funding.
- In a downside scenario, we believe these risks can pressure the sovereign ratings.
- Nevertheless, our base case is that economic growth will remain close to trend over coming years, with traditional sectors of the economy supporting growth as mining investment peaks.
There is no reference here to declining deposit rates or the need to borrow more offshore when the “traditional sectors” of the economy start to fire. In fact, much of the note is dedicated to finding strengths in our savings rate:
And the resilience of foreign investor appetite for Australian assets:
The rise in mining and energy investment has likewise seen a shift in net capital inflows toward foreign direct investment (FDI) in recent years (see chart 6). These FDI flows are likely to be less susceptible to sudden shifts in investor sentiment than portfolio flows. Mining and liquefied natural gas (LNG) projects are underpinned by medium-to-long term payoffs, so these investors will probably focus more on longer-term demand fundamentals than short-term volatility. The very large LNG projects that are under construction also have long-term contracts with customers in place.
Along with FDI, foreign investment flows into government bonds have been strong in recent years, with the share of foreign ownership rising to more than 70%. This capital is probably more vulnerable to a sharp withdrawal than FDI. But we note that, anecdotally, foreign central banks have been among the main buyers of this debt; these investors are unlikely to quickly alter their portfolios in response to swings in broader investor sentiment. In any event, the government will become much less exposed to capital markets should the budget balance shift to surplus in the next year or so as we expect.
The note concludes:
In summary, Australia remains on a sound path in our base-case scenario, with a number of key strengths supporting the ‘AAA’ rating. Yet there are risks, albeit low-probability ones, that could cause the sovereign credit rating to fall. Australia is not immune to a number of downside scenarios which, if they eventuate, would likely cause higher public debt levels and put downward pressure on the rating. Further, we could lower the ratings if external imbalances were to grow more than we currently expect, either because the exchange rate no longer adjusts to terms of trade movements, the terms of trade deteriorate quickly and markedly, or the banking sector’s cost of external funding increases sharply.
That said, a number of mitigating factors would assist the Australian economy to withstand such potential shocks and limit the sovereign’s financial exposure. Australia’s strong fundamentals also make steep falls in the sovereign credit rating highly unlikely, barring major policy errors.
This more positive tone coincides with sovereign analyst Kyran Curry moving from Australia to Europe. The two new analysts, Craig Michaels and KimEng Tan, are clearly more favorably disposed towards Australia. If you think that’s weird in something so important as a sovereign rating then guess again. A rating is only an opinion.
I will close by saying that as much as I would like to embrace this change of tone, I reckon it’s a mistake. While there is no doubt that Australia is enjoying fantastic cyclical strengths that should be reflected in ratings analysis, its structural position is more imbalanced than ever. Modest improvements in household debt and external borrowing ratios have been achieved via massive increases in reliance upon a very narrow basket of commodities.
S&P also this week put out a note on the impacts for commodities in the event of a structural shift in China to lower growth. It estimated that the falls in commodity prices would be in the range of 5-12%, including for iron ore in downside scenario. Here is the chart from that note:
This is so laughably optimistic that I didn’t bother reporting it. If that is now informing their sovereign analysis then S&P is wrong on Australian risk.
Well I have to say that thus far the more modestly confident/benign assessments of the Australian economy have proved accurate when contrasted with the many bearish calls – of course this could just be a timing factor.
On the question of “confidence” Ricardian Ambivalence has a good post on consumer confidence/RBA correlations – we all like high equities and low price oil – there’s possibly a message in there re RBA AUD jawboning or lack thereof!
http://ricardianambivalence.com/2013/02/26/this-thing-called-confidence/
Oops. I meant to put the second para on the RBA Jawboning thread, rectified.
Actually, the bearish analysis of Australia has proved FAR more prescient over the past two years.
That no bearish “crash” has transpired as yet does not mean all bears have been wrong. On the contrary those predicting a slow melt in house prices, volatile share prices, a much shorter lived mining boom than consensus, below trend growth and falling interest rates – ie MB – have been 100% correct.
Fair enough – I should have referred more directly to the calls of immediate crashes of various kinds and impending devastating gloom. You know, those one million newly unemployed manufacturing workers having their houses repossessed resulting in overnight 40% decreased in property values etc etc.
That’ll have to wait until Tony Abbott is PM.
If you have such a problem with my analysis maybe you would like to take over Craig James’s spot as Comsecs Mr Sunshine Man.
Talking of bears – where’s BearFeller, still in hibernation?
Of a sorts. Joined DFAT.
Sydney is up 4.71% from it’s low in 2012.
The problem in making predictions is that almost every prediction will be right for a short period of time, as loan as we are prepared to wait long enough for it.
Keen was right on the Gold Coast, but wrong almost everywhere else.
For most people who waited five years the payout has been – nothing. In fact in areas where there is strong demand (cue Claw) prices have risen over that period. Even if that rise has only kept pace with wage rises, the amount needed to borrowed has as well, or all of the interim savings have been lost in the higher sticker price.
And yet the “Don’t buy Now” crowd still think that they have helped people. Funny metrics they use.
1.Sydney is down is real terms.
2. And do you think that prices will continue to rise or that our central bank will choke them off the moment momentum is established?
3. If your answer to question 2 is yes then can I suggest a cold bath. If not then who are you criticising?
1. Down from what moment in time. Actually it doesn’t matter, as any required borrowing would also have fallen in real dollars.
2. Yes – but no cold bath. Different segments of the market will rise – eg the high end and the very bottom, but it won’t boom. Given that the RBA need prices to at least firm, why would they choke them off if it is only keeping pace with inflation?
3. Do you think that claims of 100% correct might be a tad ambitious, although I didn’t suggest that it has been much off the mark. Way better than many.
4. I don’t count MB as part of the “Don’t buy now” crowd – please tell me if I’m wrong.
5. Right or wrong it’s a thankless task, as you know.
1. From the peak of course, which coincided with MB birth.
2. If prices rise at rate of inflation then they won’t hike, no. By momentum I meant higher.
3. 100% correct in the terms I laid out.
4. No, not in the DBN crowd. Never was. Having said that, who should buy now is an interesting question? Only those that intend to live in their property a long time I suggest.
Despite clearly rising interest in property, the China risk is real, growing and formidable.
There’s a lovely freudian slip in your second sentence, Peter.
You must have been busy today.
I’ll pay that – my typo.
Slow day actually.
The don’t buy now crowd advice would have helped one of our former Olympic stars from dropping $1/4million
http://smh.domain.com.au/real-estate-news/hackett-cops-financial-whack-over-luxury-pad-20130225-2f0bw.html
Yup! Which is why I keep reading blogs like this one and Billy Blog every day – the track record of correctly forecasting outcomes broadly has been very good which tells me that in the endless war of words between those who purport to understand how economies do or do not function, the bloggers here are obviously very close to the mark.
Australian property has definitely reached ‘ a permanently high plateau’.
First one ever!
If S&P is rating the likelihood of repayment in AUD, did they not see RBA Assistant Governor Guy Debelle’s comments in a speech yesterday that the Aussie dollar was:
“somewhat on the high side” and ”There’s no limit on our ability to supply Australian dollars,…We have more Australian dollars than anyone else in the world because we print them,”
In other words there is no solvency risk on AUD denominated debt of the Commonwealth Government, other than wilful refusal to make the payments.
Currency risk, interest rate risk, inflation risk – sure, but are they rating those.
Are they rating for repayment or value to some foreign investor and if so in what currency?
There is virtually no principal or interest payment risk (sure the Chinese, Japanese or Indonesians could invade and repudiate, but that is unlikely given ANZUS).
S&P and Moodys gave Greece an A2 rating in 2008, nn my book a sure sign both these firms are retarded.
Are there any other more reliable agencies who do similar assessments?
And are S&P and Moody’s private coy’s, or are they answerable to someones govt? (sorry I’m not an economist but I am trying to mske head and tail of all tis)