David Murray Warns on Australia’s External Liabilities

In an interview published in Wednesday’s Australian Financial Review (AFR), David Murray, Chairman of the Future Fund and former CEO of the Commonwealth Bank, issued a stern warning on Australia’s high level of net foreign liabilities, which have reached nearly 60% of GDP (see below IMF chart).

Here’s some of the interview taken from Wednesday’s AFR:

…the assumption that Australia could maintain a high level of foreign borrowings because the economy was underpinned by the mining boom and demand from Asia was worrying. “That’s a very risky position”. Australia’s foreign debt position relative to the size of the economy is higher than that of the United States or France.

Mr Murray admonished politicians for glossing over the risk posed to Australia’s economy from foreign indebtedness. Instead, he said, they had chosen to focus voters’ attention on abolishing government debt. “The debate is all being run at a level that completely ignores this vulnerability”.

If Australia’s economy were to slow, the ability to service those foreign borrowings could be affected. There is also the risk that the cost of foreign capital could rise further, which would be felt by many through higher domestic mortgage rates. Banks’ foreign borrowings have funded Australia’s housing boom…

It’s refreshing to hear these views being expressed publicly by Mr Murray, even if he was one of the people responsible for Australia’s housing/debt addiction. Let’s not forget that Mr Murray was at the helm of the CBA in the late 1990s when it ignited a price war amongst the banks by slashing its variable mortgage rate (remember “equity mate”?). Let’s also not forget that the CBA is the second largest issuer of offshore wholesale debt as well as Australia’s second largest mortgage lender behind Westpac.

As I have said on multiple occasions, Australia’s housing bubble has been fuelled by: 

  1. an increased emphasis on mortgage lending relative to other forms of lending (e.g. lending to businesses); which has been funded through
  2. heavy offshore borrowing by Australia’s lenders, led by Australia’s big four banks (see below chart).



This approach to banking worked fine whilst global credit conditions were benign and household debt levels and asset prices were rising. Rising home values in the early 2000s made Australians feel richer, spurring consumer confidence, spending and employment growth. An economic boom followed and a positive feedback loop was created whereby households took on more debt and housing values rose further, causing the process of confidence, spending and employment growth to repeat.

But the process of debt feeding asset prices feeding confidence, consumer spending and employment growth cuts just as deeply on the way down. And the onset of the Global Financial Crisis (GFC) looked as if it was going to be the catalyst that turned the party into one giant hangover.

The GFC showed Australia just how vulnerable it is to external shocks. With the securitisation markets seizing-up and Australia’s banks unable to roll-over their maturing wholesale funding, the Australian Treasury and Reserve Bank were called upon to: (1) guarantee the banks’ wholesale funding; (2) provide unprecedented liquidity support via the repo market; and (3) buy-up securitisation issues; all in the name of keeping credit flowing into the Australian economy (particularly housing). The Government also provided heavy support to the asset-side of the banks’ balance sheets – i.e. the home values providing collateral against mortgages – via their temporary increases to the first-home buyer’s grant; the relaxation of the rules on foreign ownership of residential property; and a significant increase in the immigration intake.

These measures worked well to reflate the housing/credit bubble and delay the inevitable deleveraging that will follow. But by further increasing housing values and debt, the authorities have likely made the problem much worse, and ensured that the pain on the way down will be more severe than if they had let the bubble deflate on its own accord.

To Mr Murray’s credit, he also advocates a new comprehensive banking inquiry to “allow a cool, calm examination of the system” – something this blogger, Houses and Holes and Delusional Economics are pushing for (see the Son of Wallis Challenge).

Unfortunately, our calls for a warts-and-all inquiry on Australia’s financial system are likely to fall on deaf ears, particularly given the Treasurer, Wayne Swan, is expected to make an announcement on banking competition on Sunday, which is likely to result in some form of hare-brained government guarantee of the RMBS market. An announcement by Swan on Sunday would provide yet another example of poor, reactive policy making by this Government, since it would also pre-empt the outcome of the Senate Inquiry on Banking Competition, which is due to report on 31 March 2011.

And if the minimum eligibility criteria set by the Australian Office of Financial Management (AOFM) for its purchases of RMBS is any guide, then Australia’s taxpayers are in trouble (see below).  


95% LVR; $750,000 loan size; 10-year interest only. WTF? Hat tip to Tasmanian Real Estate Trouble for pointing this out.

Even worse, there is a rumour that the AOFM will “become an investor, and price leader, in subordinated tranches of mortgage-backed securities rather than restricting itself to AAA-rated senior debt, as it does now.” That is, Australian taxpayers will buy the high risk shitty loans that will default first. Yeah, that worked out real well for Fannie Mae and Freddie Mac. Sub-prime anyone?

Hold on to your wallets ladies and gentlemen. Here comes the Wayne Swan shake-down.

Cheers Leith


  1. Excellent post Leith, this nails it.

    Another source of emergency support for the Australian banks you left out was the US Federal Reserve. Yes, NAB (USD4.5Bln) & Westpac (USD1.09Bln), they tapped it to save themselves.

    The trouble has already started as evidenced by Commonwealth Bank recently offering 7% on term deposits to its favoured clients. This, just after the return of their justifiably much maligned roadshow to sell wholesale Australian housing debt to sceptical international investors. Obvioulsy, that was an epic fail.

    Swan is about to make a huge mistake and taxpayers will pick up the tab. This is just like when he guaranteed the banks and he was blind-sided and incensed by Macquarie using that guarantee to immediately place huge bets on world markets. The man does not have a clue.

    Please stay on this and see if you can make a difference. This is the real issue.

  2. So we will have the situation that, in effect, everyone will be lumbered with the debts of the "aspirational home owners" who just HAD to impress the neighbours!

    Nice to know that the Gov. are so happy to let the Big Four off the hook – so it's not beyond the wildest possibilities that we'll be seeing an Austerity Budget (a la Eire), whilst the Banksters still continue to rake in the "Profit Sharing Bonuses" – well, those in the upper echelons – the Counter Staff will have to subsist on the breadline if the elite have their way!

  3. Quick postscript Leith,

    I would not be surprised to see a flurry of re-financing through this Government guaranteed securitised lending…that will be the existing banks de-risking their portfolio.

    Faced with being locked out of international markets unwilling to fund the last housing boom on earth it seems to me the banks have come up with this alternative under the guise of "competition". I can hear the banks crying out…"don't throw me in the briar patch".

    Like everywhere else, government (ie, taxpayers), will be left with their toxic debt.

  4. Nic and Leith,

    I'm wondering if the MBS program that the Credit Unions are hatching with the support of some Super funds might be a potential long term solution to the housing bubble cycle. (Discussed in recent posts over at Delusional Economics.) As always Caveat #1 Done right and Caveat #2 No one loses their sanity and ethics when a big pile of cash is in the middle of the table.

    After the losses from this bubble have been shared around it seems to me that the objectives and best interests of both parties might be compatible. Super funds get access to a reliable long term income stream with a declining risk profile. Credit Unions get a solid income servicing the loans. From a business model perspective the Credit Unions don't appear to have the inbuilt moral hazard of the banks.

  5. Anon, it all seems to me like an orchestrated effort to counter a fore-seen credit crunch, ie, replacing the reliance on foreign wholesale funding.

    If Credit Unions pick the eyes out of it with low LTV ratios then it might even work.

  6. Nic,

    I agree with you. That's what I'm seeing here. My big concern is that we go down the Irish path.

    At present we can enroll foreign bondholders in a write down if we move early. They would scream about a 20% haircut right now but give it 2 to 5 years and they would be bragging about getting an 80% recovery of their capital IMHO. The shareholders and other lenders to the banks would take a hit but it need not be fatal.

    Much as I hate to see the banks bailed out a preference share issue to the Future Fund and a limited once-off above trend "print" run of the AUS$ shouldn't kill the currency.

    We might be able to enroll other Central Banks in a sterilization program for the excess currency. I note that the Central Bank of Mauritius has diversified some of its reserves into our dollar recently. Russia is talking about it and I feel sure that China would come to the party.

    My overarching concern is that once it is deep enough in the hole the government wont be able to resist grabbing a big chunk of the super pool "for the good of all Australians".

    I think there is an easy way to trigger the restructure negotiations, get APRA and the RBA to demand proof that the mortgage insurers can make good on the policies they have written. The banks can lay the blame on the insurers for their crappy LTV loans by portraying themselves as "victims". If any of the insurers are still truly solvent they might be able and willing to take a hit as well to get rid of their exposure to our RE market.

  7. @Nic well spotted article in the Daily Telegraph! I wonder if the our Black Swan is corrupt, incompetent, mad or perhaps just rationally and knowingly kicking the can down the road? I have this visual of the can getting more and more dense and consequently increasingly difficult to budge as if it were transforming from a typical aluminium can into a solid gold brick :). I wonder when the can reaches the end of the road?