Daily Commentary BY THE CURVE TEAM –

Economic Imbalances Increasing

23rd of May, 2017

One of the unintended consequences of record low interest rates following the GFC has been the buildup of imbalances. One of these imbalances has been the increase in household debt as households have taken advantage of interest rates being at their lowest level.

The Council of Financial Regulators acted earlier this year with additional oversight measures designed to reduce the potential for financial instability stemming from the build up in debt. Governor Lowe went as far as saying the Australian economy’s ability to withstand a shock has been impacted as a result.

Yesterday, ratings agency S&P sighted similar concerns in their rational for downgrading 23 Australian Banking institutions with their release saying:

“S&P Global Ratings today lowered its ratings on a number of Australian financial institutions reflecting our view that continued buildup of economic imbalances in the country over the past few years are due to a rapid rise in private sector debt and house prices–particularly in two of the most populous cities of Sydney and Melbourne–has exposed Australian financial institutions to greater economic risks.”

It has been the acceleration of prices over the past six months since S&P first revised the ratings outlook, which was contrary to their expectations, that was the tipping point for the decision. S&P added that:

“Strong growth in private sector debt (which we estimate will increase to about 136% of GDP in June 2017 from 117% in 2013, or an annual average increase of 4.6 percentage points) coupled with an increase in property prices nationally (our estimated average inflation-adjusted increase for the four years to June 2017 is 6.4% nationally) have driven the buildup in imbalances in the economy, in our view.”

The risk is that this news further undermines expectations in the economy and the outlook for house prices. Actions from the Council of Financial Regulators and now the S&P, contribute to the slowdown in house prices growth, triggering declines in the market. This would then set off a further chain reaction event, eventually resulting in a negative feedback loop. With the cash rate already at a record low and the government showing no appetite to prime the fiscal pump, a circuit breaker could be hard to find.

David Flanagan

Director - Interest Rate Markets