The credit crunch is coming

The SMH has very important story this morning on the funding crisis that is bearing down on the major banks:

Australian banks are preparing for a potential freeze in global funding markets as Europe’s worsening stresses threaten to send the world’s financial markets into a tailspin.

Renewed funding pressures for the big banks, which need to raise $16.3 billion over the next two months, are likely to make it tougher for business and some consumers to access credit.

But the upside is that economists are now tipping the Reserve Bank could slash interests rate into next year.

Nobody really knows what the funding needs and time frames are for the major banks so we need to take these figures with a grain of salt. However, the numbers are plausible in the context of an accepted annual wholesale funding need of $120-140 billion.

There is also another problem with this argument. There is no upside. Credit flows are determined by both price and availability. They are linked of course but if one gets taken out, in this case availability, then the other becomes irrelevant. By that I mean that if the major banks cannot refinance their $16.3 billion then the lack of availability of credit to them will mean they must sell assets to repay maturing bonds. In short, their balance sheets will begin to shrink. Any rate cut by the RBA will immediately be seized by the banks to widen margins to offset the fall in profitability. They will be unable to reduce the price of credit (at least, not to full extent of official cuts).

In 2008, when the banks were under similar pressures, they managed through the crisis by refinancing maturing bonds at short durations and therefore cheaper rates. But that, of course, exacerbated the very shortening of the their funding profiles that meant when the Lehman moment hit, and everything froze, the banks were all the more vulnerable and all the more quickly sucked under. This time around APRA is insisting that long maturity bonds remain just that so banks will need to to meet the market prices.

This is a credit crunch coming. In a sense, we’re already in it and it’s only set to get worse. The rising cost of funds for the banks has been happening all year and low credit growth has been the result of some mix of both slack demand and rising cost. As Banking Day discusses today, even without European issues, the drive more a liquid system may lower credit availability. The SMH has more:

Finance executives from at least two of Australia’s big banks have reviewed forward funding plans. This has involved shelving scheduled raisings, with the focus to remain on ”opportunistic” fund raisings in US and Australian capital markets.

Australia’s four major banks need to refinance a total of $48 billion in bonds by June next year, according to figures prepared for BusinessDay by Deutsche Bank. Of this, $16 billion needs to be refinanced by the end of January, the figures show.

I don’t know if there’ll be further opportunities. If the ECB flips over and elects to print more money then you would think so. But if not, the European liquidity squeeze and its faltering economy now look locked into a feedback loop to the death. I have no idea how they are going to rescue themselves beyond the ECB panic button.

The big contingency question for me, then, is when does the government step in with a renewed wholesale funding guarantee? It can avert the credit crunch quite cheaply by doing what it did in 2008 – offering the banks a bailout. But it did that in 2008 after the Lehman credit event and in response to other governments guaranteeing their banks. If left to advance, the European crisis will inevitably throw up a similar moment and there were rumblings of renewed guarantees to European banks a month or so ago, which seem to have dissipated for the moment. Would the Australian government step in without the political cover of other governments?

In the mean time, our own credit crunch will advance and interest rates look likely to fall sooner rather than later.

Houses and Holes
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  1. HnH,

    “In short, their balance sheets will begin to shrink. Any rate cut by the RBA will immediately be seized by the banks to widen margins to offset the fall in profitability. They will be unable to reduce the price of credit.”

    So does that mean even if the RBA reduces the interest rate the banks would not be able to pass those on to their customers?

    Hasnt the Australian govt got like 3 or 4 trillion in guarantees already? Is there a limit of the amount they can guarantee without spooking investors?

    • I’ve altered the piece a bit on that question. It all depends upon the speed of the refinancing need versus market pricing etc. The banks would be able to pass on some cuts if they’re big enough I suspect, at least initially.

  2. “This is a credit crunch coming” yeah maybe, but if it does it will be mild compared to the last credit crench as there just isnt anywhere near as much leverage in the system.

          • That we did, but obtaining overseas funding was difficult, and it needed the governments credit rating to shore up a reliable supply.

            I assume that if we do reach dire circumstances it would be available again, especially for the small lenders.

            This latest development is a concern, although at this point I would think it can be managed.

        • GB /HnH It was a credit scare/crunch but didn’t last long because the govt got involved and turned it into a boom. Time might be as instead this could become a full blown credit crisis(The GFC Australia bought its way out of). The govt will probably once again get involved and try to make it a boom but I dont think it will work this time as there is too much debt. People cant afford to continue to keep pouring more debt on to themselves. Look at the local govts trying the FH Grants that are not working.

          • “The govt will probably once again get involved and try to make it a boom but I dont think it will work this time as there is too much debt.”

            Credit in real terms is now LOWER than it was in Sept 2008 when the RBA began to act.
            Credit increased by 7.4% between 9/2008 and 9/2011 (RBA D2 Col I) which is less than CPI. Further adjust for population growth and it is clear that debt is now lower than in 2008. The RBA/gov policies worked then when real debt was higher than now.

          • Russell; overall credit may be lower in real times, but that is primarily due to business, and secondly due to personal credit.

            The point is still salient if you refer to housing credit, which has still increased above CPI, albeit not by much.

            The last credit boom primarily went into housing, so we can assume that’s where the next one (if there was one) would be targeted as well.

        • Sorry GB, you are entitled to your opinion but even if you were correct and provided evidence for that, the past is not a reflection of the future. Circumstances are now very different

          • to LBS “Good way to put it Deep T” do you always seek out people who have no idea what they are talking about and then agree with them?

          • GB, I’ve explained what I meant by the comment. You can ignore it and become abusive but it doesn’t change the facts. As for your claim that there is less leverage now, the figures from the RBA re that household debt and mortgage debt to GDP ratios are roughly the same.

            I’ve deleted the comments below in which you get childish and rude. Read the comment rules.

            You might also consider addressing the substance of the article.

          • “to LBS “Good way to put it Deep T” do you always seek out people who have no idea what they are talking about and then agree with them?”

            GB I would listen to Deep T and HnH any day over you and dont necessarly agree with them all the of the time just most of it. Nothing personal.

          • H&H and i like being here, i can only imagine the extra clicks you guys get as my commensts infuriate the bears and they all pile into me. but i reckon you guys have got to lighten up abit. its not hurling insults its lively debate and if people cant back it up they are fair game. they dont have to post here and if they do expect a response. i reckon it would help tidy up the increasingly crap comments here anyway. but i get insuluted here more than anyone. have a look at last nights tading day post from AC, he called me “Goose Boy”! now, that is offensive but i laugh at that. point is thats ok, but if i call someone fools for making foolish comments here i get in trouble. i think we all need to harden up abit.

          • GB – I’m with you. You’ve livened up the show! I’ve not seen anything other than robust expression of views, a good thing.

            Alas, you are not the most insulted here at MB. It is I – albeit from a rather limited coterie of joined-at-the-hip types.

            I have endured insults, name calling, derision and plain rudeness (pause to brush a tear from the eye) but always have soldiered on and maintained (mostly) good humour. It’s the only way to deal with this particular green/left/alarmist/doomist clique.

            Feel free to take the mantle though. Although it has been an honour to hold this esteemed position of automatic ridicule time has come to move on.

            Good luck and soldier on!!

          • Sorry about the “Goose Boy” thing GB… I had a few too many last night. Was a silly thing to post, but not intended as an insult. One of my best mates at uni used to call me Goose Boy, and for some reason whenever I see GB I think of it. Silly in joke with myself…

          • AC dont worry about it, takes much more than that to upset me i promise you. i actually had a laugh this morning whn i saw it. i only mentioned it becuase H&H pulled me up this morning becuase a few comenters here said “we never had a credit cruch” and i called them fools. he said i shoulnt be abusive and i just used your comment from last night to support my case. no hard feelings mate.

          • yeah i id AC thanks for that was going to comment on that but got distracted with this mornings shinanigans. good chance of that i reckon (no suprise there).interestingly the market holding up today but guess it had to stop falling sonner or later. watch to see if this is a right shoulder though. i reckon a few bears wont be likeing the look of this at all. i still reckon the market is in a bottoming out phase that we are getting towards the end of.

          • GB, While I understand your trading strategy I think that unless the ECB prints, your long calls will not be very successful. Perhaps its time to adopt a more agnostic position as there are strong forces against printing and by the time they really consider it, you’d need to enter a new long position as today’s one may have no hope of regaining ground.

        • Certainly RAMS was a great example, but the others were not – why don’t you cite Maxis, several Reverse Mortgage lenders, the withdrawal of Bluestone from the market, Liberty and Peppers stopping, although they are back now, and lenders like Benchmark who although survived had massive funding issues for some time.

          Yes we DID have a Credit Crunch in 2008.

        • to PF “Certainly RAMS was a great example, but the others were not” so what happened to the others then?

          • GB – well for a start AFG stayed the course. They did lose one source of funding – but the other two are warehouse funded by The Bank of Adelaide (now part of Bendigo Bank) and ING bank.

            Look I agree we did have a credit crunch. Even in Banking there were only two housing lenders in town – the CBA and Westpac.

            Many small non-conforming lenders fell over, smaller business and commercial lenders shut their doors, regional banks started to melt down, and development lending became a four letter word that is just beginning to come back out of the closet.

            A pity really because without investment into the commercial space, and for developments, employment suffers and housing/land supply becomes constricted further down the track. That is exactly what will be happening in Europe now as banks struggle for funds to meet Basel III requirements and take haircuts on “safe” sovereign bonds.

            In this forum the bloggers have a narrow focus, and really can’t see past housing -(not so the OP writers)

            As far as bloggers here are concerned housing boomed so credit must have boomed, but not so on aggregate lending.

            You are right, but it will be a hard message to sell.

          • I don’t dispute there was a credit crunch of sorts here in 2008. I’ve already clarified this point. My point is that it passed and was turned into a boom by early 2009 owing to policy shifts. If you’ve read my book you’d know this is what I meant.

            How about you discuss the post instead of following a thread based on a false premiss.

          • “In this forum the bloggers have a narrow focus, and really can’t see past housing”

            Hi Peter – I can see past housing, but it is a very clear standout priority for me and I’m sure to many others based on comments here and elsewhere.

            Does it surprise you that those of us who can’t/won’t pay the ridiculous prices of recent years are focussed on affordable housing over other economic developments?

          • Andy – not at all. That wasn’t meant as a criticism, just a statement.

            I meant that lending for housing was a large part of finance, but not 100% of finance.

            So GB argued that we had a credit crunch, although in housing we had a boom. Simultaneously business was having difficulty obtaining finance, and they still are.

            I hope that explains my point, there was no offence meant.

        • H&H was pretty clear in his second reply to you GB, we averted the worst of it last time. RAMS etc were smashed by the RMBS market closing, as distinct from debt markets which remained open due to the govt guarantee.

          We may or may not get away with it this time.

        • Unfortumately we don’t have too many listed financial companies with flimsy business models to take the fall-out.

          Debt has massively expanded in the private sector particularly residential mortgages. Australia’s banks have grown their resi mortgage books by 40& since Sept 2008 with not a single month of no growh. So the loss of RAMS and others in this sector was taken up by the banking sector. The risk now is even more concentrated.

          The question of whether there was or was not a credit crunch in 2008 is irelevant today

          • The question is are we about to experience a massive credit crunch in todays conditions. I think yes and I think the govt will try stimulate or bail out. This time it wont work like it did last time.

          • So if offshore funding starts to dry up, lending costs increase, the housing market collapses, banks lose a large portion of their equity… This is starting to sound like 2008 all over again, but on our shores this time.

      • “We didn’t have one last time. We had a credit boom.”

        Both of these statements are simply wrong.
        We certainly had a credit crunch. Many companies failed as a result of being unable to obtain credit.
        There has been no credit boom. A glance at RBA table D2 makes that perfectly clear.
        It may be fair to say that there was a house price boom but there was no associated credit boom.

        • +1000. these people above lack the basic understanding of the difference between private secotr credit and household credit. thats not being insulting Prince thats just stating facts.

          • I think people here have two definitions. One includes government, one does not. This is an important point.

            If private sector credit contracts, yet government credit expands, then broadly speaking there is a ‘private credit crunch’ but and economy-wide credit ‘shift’, as private credit is substituted for government credit.

            Business lending growth fell from its peak of 26%pa in early 2008, to -9%pa at the end of 2009. There’s a credit crunch.

            Housing lending fell from 10% to 9% and the was up to 10% again through to in mid 2010 thanks to government support (home and personal credit is about twice the size of business credit).

            Consolidated government net spend increase by about $80billion in 2008-09 and 2009-2010, giving a significant national credit boost (which was equal to the size of the growth in private credit during the period).

            Broadly speaking I would say that the ‘leverage’ in the system is just different this time, given the dependence of our income boost from the Terms of Trade, and the lack of firepower for foreign governments to continue to stimulate their economies (yes, foreign stimulus was just as important to our GFC performance as our own).

            So anyway, there are some facts. Please continue the discussion…

          • Don’t forget to differentiate between a credit crunch and a dramatic reduction in demand for credit. Sometimes the two exist together. Tighter lending standards and lower credit demand in spite of lower interest rates because of loss in borrower confidence.

            Also credit growth or maintenace of liabilities in banks was in spite of a credit crunch. That credit crunch was overcome by improving the creditworthiness through explicit government guarantees.

            I think that the use of generalisations is catching many of us out.

  3. “However, the numbers are plausible in the context of an accepted annual wholesale funding need of $120-140 billion.” This is the yearly roll over portion of the approx 600 Billion?

  4. We’re all dooomed!!!

    I am off to Aldi to buy cans of food then Guns’R’Us for cartridges and shotguns…

    Then to the Servo for my LPG, Gas and firelights…

    Then off to the hills to my dirtfarm!!!

    Cooeee me when it’s all over.



    • Did you see that Tropic of Cancer doco? In the African deserts there are still goat herders making a living by wandering around the desert grazing a few goats who they trade or kill for food. With a bit of know-how you’d be surprised how we could make a meagre living in the Aussie desert.

      Anyway, this is even less reason to get excited about rate cuts. I reckon we’ll see the Government Guarantee taking on new charity cases by Easter. Our invincible banks really are like a shiny man of steel, they’re just rusted to buggery inside and need someone to stand behind them to stop them from falling over.

  5. Definitely a credit crunch coming, and we simply can’t trust the big 4 banks to do the right thing by Australian customers and maintain liquidity. I’m no socialist but I suggest its time for a new Government S&L institution to look after the folks who will get caught in the coming storm.

  6. The last credit crunch’s effects were held off by guarantees that didn’t need to be used as the US, Europe and China flooded the banking system with money and spiked their debts.

    A credit crunch now would result in another guarantee but it would probably need to be used as neither the US or Europe can afford any stimulus or bailout measures. Any country trying to do so would have its bond market collapse.

    Furthermore, China can only afford about 1 trillion RMB (compared to the 2008-09 amount of 4trillion) as anymore would require selling assets like bank stocks, bonds etc. which would crash markets.

    In summary, the mechanisms behind the end of the last credit crunch will not be available this time. The only options will be to let the chips fall where they may, or print. The latter would be disastrous and lead to much suffering for the world’s poor… easily worth the price to kick the can down the road a few months!

    • Perhaps the ‘cedit crunch’ will be the new normal ! Surely a print money response is only a stop gap measure, while building pressures that can only be papered over for so long.

      All Australians have witnessed the result of excessive Govt borrowing and will have different expectations this time round I believe.

  7. To all,
    When credit crunch happens:
    1. what happens to price of precious metals?
    2. how does share-market behave?
    3. in other terms, whats the best bet?

    p.s: Don’t be too harsh :-), I am an economic-illiterate with a only knowledge of economy or its working via reading MB!

  8. Diogenes the CynicMEMBER

    APRA and the Government should be forcing Aussie banks to raise their equity now! I would threaten them with withdrawing the government guarantee (privately). The European banks have left it too late, once your share price is low any raising is severely dilutive and the markets are not keen as they see it as a last chance gasp from a dying patient. The raisings won’t happen of course…bank executives want those bonuses, government is distracted and everyone will pretend that she’ll be right until the crisis occurs.

  9. The “credit crunch” definition, I’m assuming here for HnH, is a systemic credit crunch related to the banks, not a liquidity crunch related to the many examples – but ALL peripheral – of business and Ponzi finance schemes that collapsed.

    A system wide credit crunch – where the major funding institutions cannot get credit – was averted last time.

    • You can have your own personal definition of a credit crunch but it doesn’t help communication if it is different to most other peoples’ definition eg wiki’s

      “A credit crunch (also known as a credit squeeze or credit crisis) is a reduction in the general availability of loans (or credit) or a sudden tightening of the conditions required to obtain a loan from the banks.”

      • Fair enough Russell – the definition in this case should be systemic credit crunch, not the credit squeeze seen in 2008/9, which was not a “final” Minsky moment IMO, although the lack of business credit growth – i.e the heartbeat of the economy (outside of the Ponzi stuff like MIS and brokerage firms collapsing due to lack of transactions) is a definite change in that cycle (paradoxically there has been an uptick in corporates raising debt securities….instead of using capital as buybacks proliferate)

  10. I think you lack a basic understanding of what assets are defined as business lending.

    But in the interests of recognising your assertion, Australia has not had a boom in business credit since 2008 and it has actually decreased probably at great cost to the economy. In that sense there was a credit crunch for certain sectors of the economy

  11. This has involved shelving scheduled raisings, with the focus to remain on ”opportunistic” fund raisings in US and Australian capital markets.
    ”opportunistic” fund raising at a time when the US Fed is subjecting 6 banks to one more round of faux stress-tests and S&P is about to.. * cough * downgrade * cough*.. re-rate 30 of the big banks worldwide??
    I got to meet these optimisitic bank treasury guys. I think they can teach me a thing or two about being positive!

  12. So: Germany to leave the Euro, then? That will allow the Euro to go on its merry way and devalue against a reformed Deutschemark(which will also revalue against ‘everything’) and re-establish faith in one of the few constants in an uncertain world – the German economy.

  13. Jumping jack flash

    They can cut rates all the way to 0, nobody is borrowing.

    We are quickly catching up to the same situation as in the US without the advantage of being able to print money to give to the banks.

    Well, we could, but we would then need to rename ourselves New Zimbabwe, and with the new initials of NZ, I don’t think the Australian people would go for it!

    If the banks are this uncomfortable after merely 18 months of no significant new credit growth, wait until we hit year 3…

    There’s a long way down for the credit bubble yet!

    • New Zimbabwe? I must have missed the point where we threw away 80% of our productive capacity as a country. An increase in the money supply is not the same thing as inflation.

  14. Any crunch this time around will be markedly different given the increased risk profile of governments who previously backed bank debt issues that ultimately enabled them to assess markets.

    This time around does anyone really have any credibility…..

  15. Phroneo, I think the salient point about ECB printing is they have been doing it all along, and yet it has made no difference. Were the ECB to embark on truly open-ended printing – when it does not have the full weight of European treasuries to back it up – then the ECB and the Euro would very soon loose what little credibility they still have. The Central Bank of might as well be printing Euro in such circumstances.

    The Germans, for all their self-righteous talk, have a debt:GDP ratio of 82%. Incredibly, even though they have the world’s largest external income surplus, they still run a fiscal deficit. As the global economy slides into recession, the German fiscal position will also rapidly deteriorate. They too will soon be implementing austerity to try to achieve fiscal stability.

    The Europeans do not merely have a credit crunch. They have deep, massive and insoluble failure in their financial system. 40% of global financial assets are becoming less and less liquid every day and, unlike 2008, cannot be easily made to flow again. This is unprecedented in world economic history.

    From our standpoint in this economy, we should comprehend that our financial system is linked to the iceberg that is European finance. We have to de-link it as soon as possible.

    This means escalating private savings in Australia so that the banks can unwind their dependence on foreign liabilities. We do have a steady flow of private savings and they can be increased. They should be mobilized as a matter of great urgency.

    The Europeans have left it too late.

  16. you pose the question::what to do in Europe …an ECB Bailout?

    An alternative is the Soros plan as outlined in the Financial Times on October 24. The authorities could use the Emergency Financial Stability Facility to enable the European Central Bank to act as a lender of last resort without violating its statutes. The ECB would provide practically unlimited amounts of liquidity while the EFSF guaranteed the ECB against the solvency risks that it would incur. Acting together, they could resolve the liquidity problems facing the banks, and enable fiscally-responsible governments to issue treasury bills for less than one per cent.

    • Maybe the EFSF+ECB plan as outline by Soros would have worked in October. But it is probably too late now.

      About the only thing that might work now would be if the Euro states were to guarantee the ECB directly and to greatly increase the capital of the ECB. They need to get the ECB onto a similar footing as the Fed or the BoE, and they need to do it immediately.

      They need to require the ECB to buy Italian and Spanish bonds and place Greece and Portugal into a form of administration in which the EU accepts responsibility for the liabilities of these states while they undergo re-construction, at the end of which they should be given the option of re-basing their economies outside the Euro zone. They need to liquidate the insolvent banks and break up the rest of them into non-threatening pieces.

      They need to swap a whole heap of sovereign debt – especially the short-dated debt – into low-coupon, inflation-protected perpetual bonds issued by a fund owned by the sovereign treasuries. The distressed states in Eastern Europe as well as Spain need to be supported to gain access to low-yield/reconstruction perpetual debt markets.

      They need to reform the CDS market, essentially and most importantly they have to ban credit default swaps in sovereign debt. This is a toxic market in every respect and should be abolished.

  17. For anyone with a banking, finance background.
    If the banks find themselves in a position of purchasing expensive overseas money, would they attempt to increase local term deposit rates to encourage locals to deposit super funds and other money into the banks?

    • mrobbo

      The banks already hold all the “money” in the country.

      The banks can only increase deposits by borrowing offshore, increasing capital and by stimulating credit growth with the following exceptions

      -Australia selling assets
      -Offshore investments being reptriated
      -The government borrowing offshore
      -Immigrants bringing in money

      • Banks, Build Soc, and Cr unions etc are the only retail deposit taking institutions, but they are not the only deposit taking institutions in town.

        Banks could receive deposits if local investors sought quality rather than return, and if there was a sell of in equities a la 1987.

        As the debts are in $AUD or hedged, the government could inject/nationalise by printing, but that is a doomsday scenario, and hopefully we will never see that.

        We may in the EZ though.

          • I did reply to this, it must be in with the spam.

            Essentially there are many non bank institutions that take deposits from investors, especially in the mortgage space. Google LaTrobe Financial as one example. I believe reporting is loose and only estimates of their holding are accounted for with the RBA & ABS stats etc.

            You may be able to add some light on that. There are also many non-bank managed funds, cash management accounts etc. I’m not an expert on this area, but I know they exist, and in a crisis they would fly to safety, subject to fund liquidity.

      • DT – how does “immigrants bringing in money” add to deposits in the Australian banking system? I thought I was doing that when I came here – but I was wrong. All that happened was that someone else became the owner of my money in the country I left and I became the new owner of some AU$ already existing in the Australian banking system. There was no change to the amount of money in Australia.

  18. After reading your comments boys, I’m now really confused!
    Interest rates down, interest rates up, what’s it it be, does any one of you out there really know???

    In the short term you guys reckon it goes down. What then? Goes further down? Maybe! What about 2 years, 3 years out? Back up and up and up? Or…. down down down?

    Make up your minds, please!!!!!!

  19. I’ve got a great idea, why don’t the banks parcel up their dodgiest mortgage loans, get the rating agencies to rate them AAA, then flog them off to unsuspecting suckers around the world? That way they can get their balance sheets back into order without having to go look for more funds.

    Hey, it worked last time.