Steering Godzilla’s seesaw with a mallet

Something we discuss quite a bit on MacroBusiness is the balancing act that the RBA is attempting in adjusting the economy away from credit driven housing and into resource sector led business investment. We also have many off-line conversations about this topic, mainly focusing on what  could be going wrong and what our own personalities and ideologies lead us to believe is actually happening. I must admit I seem to be a little more “glass half empty” than many of my counterparts on MacroBusiness.

When I visualise the economy, I see a four seat seesaw. In each seat you have various parts of the economy that are opposing. Housing market, inflation, business investment, retail and manufacturing and the AUD just to name a few. Standing in the middle is Glenn Stevens with a giant mallet trying to keep his eye on all of them at once and madly beating on each stem of the seesaw. Every now and then the government likes to hop on one of the seats and bounce up and down.

Obviously the mallet is interest rates, the bluntest of tools that can effect all corners of the economy. However, that is the only tool that Glenn possesses so the ride was never going to be smooth.

As H&H discussed yesterday, the inflation and mining cheer squad are at it again. They insist that interest rates must be raised because of the inflationary pressures from the coming mining boom. I don’t totally disagree but these commentators are focused on only one side of the seesaw. There is a giant sitting in the opposite seat, private sector debt, and it continues to grow, even if the rate of that change is now at 30 year lows for some of the parts.

I am still baffled by this ignorance in commentators because it is exactly the thing that recently destroyed the US economy, and when I visualise it I see Godzilla sitting there on the seesaw. He isn’t easily ignored.

I am sure, however, that the RBA governor is well aware him too, which puts Glenn Stevens in a very difficult situation.  As I said quite some time ago now.

That is the problem with the introduction of incentivised debt driven speculation with no ROI (to the productive capacity of the country) into your economy. The current situation is that the RBA is coming very close to losing control of its own tool set because of the systemic risk created by lopsided fiscal policy.

If you look at the RBA website it states:

It is the duty of the Reserve Bank Board, within the limits of its powers, to ensure that the monetary and banking policy of the Bank is directed to the greatest advantage of the people of Australia and that the powers of the Bank … are exercised in such a manner as, in the opinion of the Reserve Bank Board, will best contribute to:

a.the stability of the currency of Australia;
b.the maintenance of full employment in Australia; and
c.the economic prosperity and welfare of the people of Australia.’

Once there is high levels of risk in adjusting interest rates up or down then this mandate is impossible to deliver. This is the situation it is now in, lowering interest rates will set off more borrowing and higher inflation, upping them will lead to unmanageable debt pressure on the public and lower the asset market that holds the massive securitised value for the banking sector.

As I stated above it seems to me, however, that Godzilla has disrupted the RBA’s ability to achieve this balance. With such onerous private debt, how does the RBA raise interest rates to contain inflation without unleashing the beast on the economy? Conversely, how does it cut rates when the resources economy threatens to overheat?

The RBA itself does not appear to view it this way. It has a fairly benign view of Godzilla, arguing that much of the debt is within the households that can most most handle it. On any number of occasions, RBA boffins have argued that the debt is concentrated in high-income, older workers who can handle the repayments. The corollary, then, is that if push comes to shove on inflation, they can raise rates and despite some pain, the economy can take it.

But there is another way to view the debt Godzilla. That it is widespread, not least amongst the wave of first home buyers lured into the market by a reckless government, and that the banks who have fed the beast are sitting on very thin reserves of capital to keep it contained. No guesses for which view I subscribe to.

Recently I posted about the latest Dunn & Bradstreet report which told a very different story to the one you are hearing from the cheer squad.

One third of Australians expect to experience difficulties meeting their credit commitments over the next three months and nearly 40 per cent anticipate having to use their credit card to cover otherwise unaffordable expenses.

And yesterday, from news.com.au came this,

More than 1.1 million Australians were late paying their utility bills in the past three months as soaring electricity prices put pressure on household budgets.

“It’s a really worrying situation because there is clearly a growing group of people having difficulty with utility bills as the costs continue to rise and it doesn’t look as though things are going to get any easier,” said Chris Gration of Veda

The figures come from a survey by credit information agency Veda Advantage and show the number of customers who missed a payment in any given quarter has risen by 40 per cent in the past 12 months.

Average arrears on utility bills have hit a record $500, said credit and collections agency Dun & Bradstreet.

The figures have been described as bordering on a national crisis, and are likely to get worse. Pricing regulator IPART has already said that NSW customers will be slugged with an 18 per cent price rise from July 1.

Late last week and validated yesterday via H&H,

Capital city home prices continued their downward slide in March, posting their worst slump in at least 12 years as the property market showed more signs of sagging demand. Brisbane and Perth fell the most.

Godzilla is angry.

This does not read like a private sector bathing in national wealth. It reads like a private sector struggling under the weight of debt and a falling housing market.  The RBA may have the confidence to whack Godzilla with its mallet again, indeed it will probably need to. But the risk that Godzilla will run amok through the economy is rising with each new blow.

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Comments

  1. Allow me to be the first to note, Delusional, that you have created the most singularly perverse mixed metaphor in the history of economic thought. The true triumph of this post is that its argument actually makes sense.

    The vision of a flailing Glenn Stevens atop the fulcrum of your monetary whirligig, like some mad whack-a-mole, is worth the price of admission alone!

  2. Well done DE – you are spot on with your comparison and observation.
    I don’t think you can get Godzilla and the likes under control with only one tool called “Interest rates” it needs more likely a super hero with super hero tools to be able to keep a lopsided economy happy.

    I would like to know the definition of the words prosperity and welfare.
    Is it prosperity if everything you have is not yet paid for? And is it called welfare if you are struggling day to day for your Prosperity?
    I see nothing but battling people being pressurized under the rising costs of essentials.
    Furthermore I don’t know if Glen Stevens with a salary of 1 mio + can actually see and feel the sort of pain people of australia are dealing with.

    By the way: Why is a bank – and therefore its leading bank manager – responsible for the welfare of people? shouldn’t that be the pope? Australia is truely different!
    Sorry for my rant 🙂

  3. Bit scary when credit cards are used in a never ending downward spiral to pay other debt …. this does not bode well AT ALL

    interesting thing about this is putting all the bits together…. which all our contributors seem to do so well…. as you know I am bearish on things short to medium Term and am holding lots of Stop losses … If China over does the brakes….. watch out

    cheers

    Macrobear

  4. Deus Forex Machina

    Cracking read, great post…noice

    John Mauldin always says when you only have a hammer everything looks like a nail…that was my favourite monetary policy metaphor…UNTIL NOW

  5. Great visualisation – love it.

    You won’t see this in the MSM, just 1500 words on “everything is fine. Keep calm and carry on.”

    I wonder how the search engines will react to that title though! LOL!!

  6. Whilst I love the metaphor and I do visualise GS with a hammer trying to whack the heads as they bob up at an ever increasing rate, the seriousness of the point is not lost.

    The following statement is the reason we are in the very dire position we are:

    “It is the duty of the Reserve Bank Board, within the limits of its powers, to ensure that the monetary and banking policy of the Bank is directed to the greatest advantage of the people of Australia and that the powers of the Bank … are exercised in such a manner as, in the opinion of the Reserve Bank Board, will best contribute to:

    a.the stability of the currency of Australia;
    b.the maintenance of full employment in Australia; and
    c.the economic prosperity and welfare of the people of Australia.”

    The goose was also on TV Sunday spruiking the budget when he said that “it was the governments ability to provide full employment”

    It is not the Governments or the RBA’s responsibility to provide full employment, stability of currency or prosperity! This nanny state mentality will enslave us all.

    It is or at least should be the responsibility of the Government and the RBA to provide an environment in which these things can occur. That is an entirely different and constructive responsibility which should be grasp as hard as the proverbial hammer.

  7. Your own article states that priority a) of the RBA is the stability of the currency of Australia. This should be self evident to ‘Australia’s best econobloggers’ since the Australian dollar is the obligation of the RBA but no, we have no recognition whatsoever of the current stability of the Australian dollar in a raging storm of monetary disorder (not that I believe it will last) and even ‘Deep T’ saying above & I quote; “It is not the… RBA’s responsibility to provide full employment, stability of currency….

    This weak dollar policy is clueless. Why not try living in Indonesia or Korea if you like a weak currency.

    • > Your own article states that priority
      > a) of the RBA is the stability of the
      > currency of Australia. This should be
      > self evident to ‘Australia’s best
      > econobloggers’ since the Australian
      > dollar is the obligation of the RBA

      The way I read different documents in which RBA state their role is that the stability of currency is understood more in the context of maintaining purchasing power of the AUD i.e. preventing inflation. Here’s an excerpt:

      “There are several ways in which the Reserve Bank aims to reduce the likelihood of financial instability. One is by laying the foundation for low and stable inflation and sustainable economic growth, an environment that will generally be conducive to financial stability.”

      source: http://www.rba.gov.au/fin-stability/about.html

      • The Australian dollar is the liability (obligation) of the Reserve Bank of Australia, take particular note of the word ‘Bank’. Yes, the RBA is in fact a bank & just as the value of any banks’ cheque, or deposit, or note is given by the ability of the bank to redeem it, i.e. give you your money back, so the value of the dollar is given by the ability of the RBA to redeem it for something of value.

        Thus…. “the stability of currency is understood more in the context of maintaining purchasing power of the AUD i.e. preventing inflation.”…. is the same as saying the RBA is redeeming its obligation.

        • I should add that it is possible that the RBA is not redeeming its obligation because at present no-one is asking. However, I still think that the RBA is being prudent at present, compared to previous periods… a low benchmark I know.

          • The problem is that the RBA can’t have it both ways and have to decide whether they prefer higher inflation or stronger currency. Given the global inflationary pressures caused by oil, food and other commodities weakening AUD by currency intervention, which would have to take the form of expanding monetary base, would cause serious inflationary pressures.
            We would not only have higher prices, especially of fuel, but also more dollars floating around. At this stage keeping inflation under control seems to be a better choice even if it leads to minor deflation down the road. Letting the inflation genie out of the bottle would require serious anti-inflationary measures at a later point which, as history teaches, leads to serious deflation.

            In general there are two ways of conducting monetary policy, inflation targeting and exchange rate targeting and most countries prefer the former although some both do.

          • Deus Forex Machina

            JMD can you show where the RBA has the obligation, and thus a liability of the reserve bank??? Nothing on my Bank Notes says “redeemable at Martin Place” does say legal tender…but that is different.

  8. Agree with the notion that there have to be other ways to belt the offenders as they raise their heads……machetes, claw hammers, feather dusters et al, depending upon the circumstances.

    Whilst I hear the squawking about financial pain that suspiciously gets trotted out within a week of a live RBA decision, I don’t entirely believe it’s valid.

    As an example, I worked with a guy recently who never ceased to complain about how hard things were on the budget. At the same time he’s telling me about his IPhone, recent European holiday weekends in Tassie and 3x take away meals a week.

    Somewhere during the last 15 years of prosperity we’ve lost the ability to make sacrifices and/or developed a sense of entitlement.

    I believe there is significant scope for belt tightening in the event of rate rises. It might come at the expense of a few more retailers and a climbing unemployment rate, but since when did economics turn charity?

    • I think there may be more than a little truth in what you say. Expectations of what constitutes “essentials” are inflated indeed. Those with large mortgages will be impacted by any rate rise and may have to deflate their expectations.

  9. The challenge that RBA is facing belongs to the category of multi-criteria optimisation and the problem is that the key factors involved are dependent and negatively correlated. The biggest issue at hand is the level of private debt which quite obviously is close to the limit of what people can take. It is very often the case that when large systems are at or close to their boundary conditions they become unstable and virtually impossible to manage and even an infinitesimal change in their parameters can cause a collapse (chaotic behaviour).

    The debt concentration in high-income older age group argument used by RBA is rather ridiculous. When things start going pear-shaped a lot of high-income jobs will be gone and older workers will find it extremely hard to find new jobs. They will then be forced to liquidate their assets and there will be very few buyers.

    We could see this in action in the US when their problems started with sub-prime borrowers and spread to prime ones as soon as the economy got hit by the initial sub-prime induced collapse.

  10. Torchwood1979

    “Obviously the mallet is interest rates, the bluntest of tools that can effect all corners of the economy. However, that is the only tool that Glenn possesses so the ride was never going to be smooth.”
    The government could help out by introducing an RSPT and an SWF and/or wealth redistribution. Shame the current mob are useless at implementing anything.

  11. Thank you for reminding the world that, even in Australia, housing significance >> mining significance.

    Good and entertaining article. Thanks.

  12. Yes DE ,it’s infected my readings…{title}
    When ever I run across the words ,’Swings
    and Roundabouts’ …I can’t help but add Gorilla’s and Hammers..thanks for that..
    Howbout
    Could be ,a bald man sitting in a Skyline
    a million in hatch ,guitar and all,Waiting
    on a draw bridge…while in his rear-vision mirror a crowd of mallet drawn engineers bear down on his position…back at ya
    cheers JR

  13. Taken to deleting posts when you’re showing your ignorance huh macrobusiness.com?

    That’s very Business Spectatorish of you. The first post you deleted was pretty mild slander & the second?

    Don’t worry I get the message.

    • Hey ,JMD,I hear you talking about your beef the other day…I love you farmers,
      they keep on producing the the good stuff..
      But I was thinking…
      JMD sounds like at this rate you and a few of the other farmers,should..get together
      cash up ,borrow and buy ..New Zealand
      and under-cut the Ozzy..stay with me..
      I’m sure some of the finer trackers at ‘MB’ could fine tune PL..and with ease NBN.NZ ,could leed …24hr farming,hydro-lighting for feed..via ,solar,gas..more ,feed,more breed more expansion…Run milking,clean ,slaughter,
      package/store/ship…By remote cam ,(from [email protected])..Running../4w-bikes/machines/auto-gates,horns,collar track…(look out mines..)herding,feeding,silo fills..etc…The local indigenous,could have a,build,export,plan-maintain..factor

      You’re rich….Let’s get De beef..Pipi’s and DB out …cheers JR

  14. Hi JMD,

    Yes I deleted your abusive comment yesterday. I think if you look at the comments you will find we entirely happy to canvas and respond to criticism. I only delete when it is deliberately insulting.

    Read the rules my man and please continue to comment, without the insults.

    Thanks,

    David