It’s Debt, Debt, Debt for Australia!

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Last week­end’s Sun­day Tele­graph point­ed out a new record for Aus­tralia: our ratio of house­hold debt to GDP is now high­er than the USA’s. I’ve writ­ten the fol­low­ing com­men­tary on this dubi­ous “gold medal” (or is it real­ly lead?) for the ABC’s The Drum.

In all the self-con­grat­u­la­tions over how Aus­tralia has man­aged to side­step the GFC, an incon­ve­nient truth has been over­looked: the cri­sis was caused by too much debt, and Aus­tralian house­holds have had a stronger and longer love affair with debt than even the Amer­i­cans.

As of the lat­est RBA fig­ures, Aus­tralian house­holds now owe the equiv­a­lent of an entire year’s GDP—3% more than Amer­i­cans ever owed. We grew our debt pile much faster than Amer­i­cans did. We are con­tin­u­ing to go deep­er into debt, while Amer­i­can house­holds have start­ed to reduce theirs. And in one of the great trav­es­ties of our GFC side­step, the most recent growth in house­hold debt has been delib­er­ate­ly engi­neered by gov­ern­ment pol­i­cy.

Back in 1990, Amer­i­can house­holds had twice our lev­el of house­hold debt—60% of GDP ver­sus 30%. But after just 15 years, Aus­tralians had caught up: by 2005, both coun­tries had house­hold debt to GDP ratios of 86%. Just as the media start­ed to focus on the Sub­prime Cat­a­stro­phe in the USA, Amer­i­can house­hold debt began to sta­bilise, while ours con­tin­ued to grow—peaking at 99% of GDP in March of 2008, ver­sus the USA’s all-time high of just under 97% one year lat­er.

We actu­al­ly began to reduce our debt lev­els before America—with house­hold debt falling from 99% to 96% of GDP in March 2009. but then the fed­er­al gov­ern­men­t’s First Home Own­ers’ Boost began to kick in (it was intro­duced in Octo­ber 2008, and I railed against it at the time—see “Res­cu­ing the Econ­o­my or the Bub­ble?”). This enticed new entrants into mort­gage debt in record num­bers: dur­ing the life of the Boost, over 1 per­cent of the Aus­tralian pop­u­la­tion took the gov­ern­men­t’s addi­tion­al $7,000 bribe down to the bank, and lev­ered it up five or more times with a mort­gage. Even though house­holds were reduc­ing oth­er forms of debt, total house­hold debt rose until it cracked the mark of 100% of GDP in the last month.

The good news—for the rest of us—from this First Home Buy­ers debt binge was that their bor­row­ing was one of three domes­tic con­trib­u­tors to Aus­tralia avoid­ing a tech­ni­cal reces­sion in 2009 (Chi­na’s own stim­u­lus pack­age was an impor­tant fourth fac­tor). The addi­tion­al $40 bil­lion of mort­gage-backed mon­ey com­bined with the $30 bil­lion impact of Rud­d’s stim­u­lus pack­ages, and the close to $40 bil­lion boost from the RBA’s rate cuts, to dra­mat­i­cal­ly increase both house­hold incomes and spend­ing. Ger­ard Minack from Mor­gan Stan­ley, who esti­mat­ed that the last two fac­tors increased house­hold dis­pos­able incomes by 9% last year, com­ment­ed that “If that’s a reces­sion, bring it on!”

The bad news is that spend­ing boost from addi­tion­al mort­gage debt is, in the immor­tal words of Paul Keat­ing, a souf­fle that is unlike­ly to rise twice. There just aren’t that many more First Home Buy­ers who can be enticed into the mar­ket in 2010, even if the Fed­er­al Gov­ern­ment fol­lows NSW’s lead and extends its Boost for anoth­er six months. Prop­er­ty spruik­ers may be con­fi­dent that the Great Aus­tralian House Price Bub­ble is back, but the mar­ket is unlike­ly to fly in the absence of delib­er­ate gov­ern­ment manip­u­la­tion of demand and a renewed reluc­tance by buy­ers to go into debt.

That’s not to say that the banks and the prop­er­ty lob­by aren’t doing their best to keep the bub­ble fly­ing. Thanks to Kris Sayce from Mon­ey Morn­ing mag­a­zine for bring­ing the fol­low­ing to my atten­tion some months back: many lenders are now offer­ing loans of 110% of the val­ue of a prop­er­ty, so long as there’s a guar­an­tor. Need­less to say, the fol­low­ing excerpt from Home Loan Experts is not a prod­uct endorse­ment:

Guar­an­tor home loan

Guar­an­tor loans are now the only way to bor­row 100% of the pur­chase price as no deposit home loans have been with­drawn from the mar­ket. Did you know that there are stark dif­fer­ences between the guar­an­tor sup­port­ed loans offered by dif­fer­ent lenders?

With the help of a guar­an­tor you can bor­row over 100% of the pur­chase price which will allow you to buy a home and con­sol­i­date debts or ren­o­vate the prop­er­ty at the same time.
How much can you bor­row?
  • First home buy­er guar­an­tor loan: 110% of the prop­er­ty val­ue.
  • Sec­ond home buy­er guar­an­tor loan: 110% of the prop­er­ty val­ue.
  • Refi­nance guar­an­tor loan: 100% of the prop­er­ty val­ue.
  • Debt con­sol­i­da­tion & pur­chase guar­an­tor loan: 110% of the prop­er­ty val­ue.
  • Investor guar­an­tor loan: 105% of the prop­er­ty val­ue.
  • Con­struc­tion guar­an­tor loan: 100% of the prop­er­ty val­ue & cost of con­struc­tion.
  • Low doc guar­an­tor loan: Not avail­able with a guar­an­tor mort­gage. See below for our 80/20 method of financ­ing low doc loans with the help of a fam­i­ly mem­ber…

Shades of Japan’s “99 year mort­gages” at the height of their Bub­ble Econ­o­my back in 1990! While this could sure­ly help boost the bub­ble, prac­ti­cal­ly I doubt that there will be many tak­ers. So one of the four props that kept our econ­o­my up in 2009 is unlike­ly to work in 2010. The inter­est rate prop is now work­ing in reverse, as the RBA resumes its eter­nal fight against the con­sumer price infla­tion drag­on, leav­ing only fis­cal stim­u­lus and Chi­na to coun­ter­act the decline in cred­it-based spend­ing.

This is the real fol­ly of boost­ing the econ­o­my by entic­ing house­holds to take our more debt. Since spend­ing is the sum of income plus the change in debt, increas­ing debt lev­els pro­vide a strong boost to the econ­o­my. But that same process can work in reverse if house­holds decide that they’re car­ry­ing too much debt: then their attempts to reduce their debt—“deleveraging”—necessarily reduces their spend­ing.

When debt lev­els are low—as they were back in the 1950s and 60s—this isn’t a major prob­lem. But when debt is as high as it is now—literally 100% of GDP for house­holds and anoth­er 60% for businesses—then delever­ag­ing can cause a dra­mat­ic fall in demand.

This is the force that is dri­ving the down­turn in the rest of the OECD, and by adding to house­hold debt, we have sim­ply delayed its arrival here—we have not stopped it.

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