Ausnomics #6

ExposAsia No 3/2011, When the Tide Changes, looks at the relationship between house prices and the current account balance (the corollary of which is the capital account inflow or outflow). We conclude that capital inflow – much of it wholesale market borrowing by the banking system – is in large part channelled into the Australian property market.

We argue that the evidence for a growing asset bubble is clearly available in Australia but that neither the government nor the Reserve Bank is willing to address the issue in any meaningful way. That means when the bust comes it will be because one of the bubble drivers e.g., high commodity prices, goes into reverse and then leads to a vicious spiral of reversing capital flows and collapsing Australian asset prices. Such is the evidence from Australian history.

In essence, the picture painted is of a country that has hitched its wagon to China and is now completely dependent on perceptions of that country as well as Beijing’s willingness to fuel its own giant inflationary boom. If that reverses Australia will be helpless to prevent its own asset prices and, probably, economic meltdown.

Apocalyptic stuff but, as usual, it is all in the timing. While China refuses to face its own malinvestment issues Australia can keep on growing hers – for now.

We would conclude that Australian assets and the Australian currency are particularly dangerous places to be parked right now even as global equity risk loving is at extreme levels. Once sentiment reverses – and there are plenty of political, economic and valuation reasons for that to happen sooner rather than later – the warrants on growth and risk-taking will be particularly hard hit. Australia is at the top of that warrant list. 

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