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The Oligarchy that can’t stop winning

The 1960’s are remembered as a decade of a liberal rebellion, iconic for its rejection of traditional mores, its anti-war protest movements and civil rights activism. But there was another, very different movement that arose in reaction to both the moribund 1950’s consensus and the emerging New Left.

It would come as a surprise to an observer from that era to learn that the Republican Party is today synonymous with conservatism. It wasn’t always so. In the years following the Great Depression, the Republican Party was largely under the sway of moderates who’d come to accept the central tenets of Roosevelt’s New Deal. Strident conservative hostility towards the New Deal almost drove Republicans to extinction in the 1930’s, and by 1944 progressives had reasserted themselves. That year’s presidential nominee, Thomas Dewey, argued in his first address as New York governor, “Anybody who thinks that an attack on the fundamental idea of security and welfare is appealing to people generally is living in the Middle Ages.”

In 1952, after 20 years of Democratic control, Republicans regained the White House under Dwight Eisenhower. The revered general soon disappointed conservatives when he reaffirmed the Party’s commitment to New Deal principles. Eisenhower believed middle America had embraced the welfare state following the deprivations and horrors of economic depression and world war, and though alert to the push from the right for an assault on social programs, he nevertheless saw little reason to take it seriously; “Should any political party attempt to abolish social security and eliminate labor laws and farm programs, you would not hear of that party again in our political history. There is a splinter group, of course, that believes that you can do these things, but their number is negligible and they are stupid.”

Negligible though it may have been, the ‘splinter group’ of extreme conservatives was busily plotting a takeover of the Republican Party and a radical realignment of the American political landscape, eventually transforming the very idea of a political party from a “coalition of interest” to a vehicle of ideology. Fervently anti-Communist, conservatives never lost their forebears’ conviction that the New Deal was a dangerous step along the road to authoritarian collectivism, and they regarded moderate Republicans as willing agents of this agenda.

After heavy losses in the 1958 midterms, Senator Barry Goldwater emerged as the leading conservative in Washington. In his landmark treatise, The Conscience of a Conservative, Goldwater set out his vision: “I have little interest in streamlining government or in making it more efficient, for I mean to reduce its size. I do not undertake to promote welfare, for I propose to extend freedom. My aim is not to pass laws, but to repeal them.”

Goldwater’s chief moderate antagonist was Nelson Rockefeller, grandson of the wealthiest human being in history and archetype of the Eastern Establishment. Rockefeller was reviled by conservatives as a “socialist, monopolist, internationalist [and] pro-communist.” He earned their particular opprobrium for pressuring Nixon to adopt an overly-liberal platform ahead of the 1960 convention, in what was dubbed the ‘Treaty of Fifth Avenue‘.

This increasingly acrimonious factional divide came to a head at the raucous 1964 convention. Through highly effective grassroots mobilisation, conservatives succeeded in elevating Goldwater to the nomination. The vanquished Rockefeller, feeling no obligation towards party unity, delivered a blistering critique of the newly ascendant right-wing.

The Republican party is in real danger of subversion by a radical, well-financed and highly disciplined minority … These extremists feed on fear, hate and terror. They have no program for America – no program for the Republican party. They have no solution for our problems of chronic unemployment, of education, of agriculture, or racial injustice or strife.

The Republican nominee was resolute in his reply: “I would remind you that extremism in the defense of liberty is no vice! And let me remind you also that moderation in the pursuit of justice is no virtue!”

Goldwater was obliterated in the general election. This was widely interpreted as a final repudiation of extreme right-wing politics in America, especially by moderate Republicans (though not, unsurprisingly, among conservatives, who instead blamed the media). But within this seemingly calamitous defeat lay the seed of victory.

In 1962, an actor and former union leader joined the Republican Party. Ronald Reagan came to Hollywood as a Democrat, but during the 1950’s his loyalties shifted to the newly energised conservative movement, with all the zeal of the convert. In his immortal 1964 speech, A Time for Choosing, Reagan mounted an urgent and eloquent defence of Goldwater’s struggling campaign.

You and I are told we must choose between a left or right, but I suggest there is no such thing as a left or right. There is only an up or down. Up to man’s age-old dream-the maximum of individual freedom consistent with order or down to the ant heap of totalitarianism. Regardless of their sincerity, their humanitarian motives, those who would sacrifice freedom for security have embarked on this downward path.

We need true tax reform that will at least make a start toward restoring for our children the American Dream that wealth is denied to no one, that each individual has the right to fly as high as his strength and ability will take him…. But we can not have such reform while our tax policy is engineered by people who view the tax as a means of achieving changes in our social structure.

Have we the courage and the will to face up to the immorality and discrimination of the progressive tax, and demand a return to traditional proportionate taxation?

It wasn’t enough to improve Goldwater’s prospects in 1964, but it lifted Reagan to a figure of national prominence.

Reagan competed for the 1976 nomination, presenting himself as the conservative alternative to incumbent Gerald Ford, but lost narrowly. In 1980, with stagflation and the Iran hostage crisis buffeting Jimmy Carter’s reelection hopes, Reagan again ran for the Republican nomination, won it, and went on to defeat Carter in a landslide.

The ‘splinter group’ had triumphed. In the ensuing decades conservatives would take full and lasting control the Republican Party, and impose an unprecedented degree of ideological uniformity, culminating the kind of radical obstructionism we’ve witnessed during Obama’s years in office.

The dawn of Reaganomics, with its hallmark attack on the tyranny of progressive taxation, precisely coincided with the onset of income inequality’s unrelenting upward march. Doubtless there have been other forces driving this phenomenon, but progressive taxation very likely is necessary to achieve changes in social structure, and without it, or without enough of it, income tends towards concentration in the hands of the few.


Rising income inequality has only recently become an issue at the forefront of American politics. Three decades of soaring household debt masked the growing divergence in incomes, and neutralised any meaningful political opposition to rising inequality. The financial crisis of 2008 changed all that, bringing on the most dramatic deleveraging episode since the Great Depression and brutally exposing middle and low-income households to the full reality of America’s new economic regime.


A political backlash was assured; its colour and composition less so.

Last week, Donald Trump succeeded in persuading enough voters in the states that mattered that he was the best candidate to address the nation’s inequities. In so doing, the party offering the very same cocktail of policies that initiated the meteoric rise in income inequality, has been handed near-complete control of America’s executive, legislative and judicial branches of government.

So what can Americans expect from their freshly elected Establishment-buster?

  • Repeal and replacement of the Affordable Care Act with a new healthcare program that is much better, the details of which are still being fleshed out. Paul Ryan has already indicated that Medicare privatisation is on the cards
  • Removal of 3.8% surtax on investment income that funded the ACA
  • Repeal and replacement of Dodd-Frank with ‘market-based regulation
  • Big cuts to income tax rates, expected to cost in the order of $6 trillion over 10 years, around half of which will accrue to the top 1% of income earners
  • Big cut of the corporate tax rate
  • Abolition of estate taxes. Inheritances will be subject to capital gains tax, however this only applies if recipients sell the assets they inherit, which members of hyper-rich dynasties typically do not
  • Conservative judges appointed to the Supreme Court. This is especially important. It is highly unlikely that any judge appointed to the Supreme Court under a Republican administration will overturn Citizens United vs FEC, which permits unlimited campaign financing by corporations.

These are all, quite clearly, big wins for the well-off, and contrast sharply with Clinton’s platform. As with establishment moderates half a century ago, Clinton’s image as a quintessential political insider was a poor guide to her policy impact. The Democrats’ arrogance and ignorance in failing to identify this weakness has proven enormously costly.

There’s some cause for cautious optimism about America’s near-term economic prospects. Trump’s platform, which includes a much-needed boost to infrastructure spending (the sort that Republicans have resolutely obstructed for the last 8 years), is likely to be stimulative, assuming it’s financed by larger deficits. Deficit spending would have been a challenge for Clinton, as it was for Obama, with Congress stacked with extremists prepared to shut down government over budgetary disputes. But since Trump is one of their own, he will probably have an easier time.

Moreover, Trump has inherited a much stronger economy than his predecessor, with particularly solid income growth for middle-class families. If he doesn’t spark an all-out trade war, or otherwise err in some fairly unsurprising manner, his first term need not be an economic disaster.

But this will not mean he has addressed any of the policy settings fueling inequality in America. Quite the opposite. In electing the man who promised an end to unjust wealth disparities, Americans have voted for policies that will, all else equal, entrench and deepen the divide.


Which state will usher in the Trumpocalypse?

So here we are with less than a week until election day, and the odds of the Trumpocalypse are suddenly looking ominously short.

National Polls Presidential Election 2016_11_3.JPG

FiveThirtyEight has Trump at a roughly 32% chance of winning, up significantly in the wake of Comey’s momentous ass-covering exercise last week.


The two points in the campaign that saw significant shifts in Hillary’s favour were the Democratic Convention – where the Democrat’s inclusive, optimistic and economically sane platform contrasted sharply with the dark, dystopian acrimony of the Republican Convention – and the first presidential debate – where Hillary wiped the floor with her hapless opponent (mind you, she did seem suspiciously over-prepared – almost like she was applying for a job impacting the lives of hundreds of millions of people).

These were points where voters got a comparatively unadulterated taste of each candidate’s personality and policy agenda. Unfortunately, the fact that the Democrats have presented sensible, detailed policy prescriptions for America’s ills has not been enough to fully overcome Hillary’s inherent weaknesses as a candidate, particularly the popular image of her as callous, calculating and untrustworthy. That vulnerability was on display when she collapsed from pneumonia in September (What’s going on? What’s she hiding?) and again when James Comey announced that the FBI might or might not have found emails pertinent to the FBI’s prior investigation. Innuendo is more than enough when it comes to Hillary Clinton.

So here we are. Will it be enough for Trump to clinch a seemingly unlikely victory?

The ‘no toss-ups’ electoral college map from RealClearPolitics has Hillary winning by a razor-thin margin.


Florida and North Carolina are both exceptionally tight races and certainly too close to call.



If Clinton wins either of these states it’ll be extremely tough for Trump to get up. Florida would make it more or less impossible; North Carolina would leave a window of opportunity, with states like Virginia or Pennsylvania needing to flip in his favour.

Ohio, Iowa, Nevada and Arizona are also close races, and for Trump to win he’ll probably need to carry them all. For this exercise let’s assume he does, as is case on the map above.


arizona_2016_11_3On top of these, Trump will need another 5 electoral college votes. Based purely on polls, the most plausible states that could hand Trump these remaining votes are:

  • Virginia (13)
  • New Hampshire & Maine’s second congressional district (4 & 1)
  • Pennsylvania (20)
  • Colorado (9)


Clinton still holds a reasonable lead across the first three, though they have all tightened in the last fortnight. Colorado is the exception, with the latest poll showing a dead heat. Should North Carolina and Florida go red, the likeliest harbinger of the Trumpocalypse looks to be the Centennial State.

Conservatives For Trumpism

Crossing over from ‘Straya to ‘Murica for a moment.

American conservatives have lined up to condemn the monster they honestly didn’t mean to create.

The National Review has been on a war footing since January. Erick Erickson has spearheaded an anti-Trump coalition, Glenn Beck doesn’t think he’s a real conservative, feminist vanguard Fox News is outraged by his free-wheelin’ misogyny.

The challenge for this well-mannered anti-Trump alliance is that central tenets of the modern conservative movement remain inherently pro-Trump, in that they pro-actively exacerbate the social trends coursing beneath the Trump phenomenon.

Kansas went strongly to Cruz in the primaries, but the economic experiment carried out by Governor Sam Brownback offers lessons for the conservative movement at the national level.

From 2012, Brownback- who bears the distinctive look of a man satisfied by the sight of homeless people- implemented a “real-live experiment” in extreme-right tax policy. Income taxes were slashed. Brownback confidently proclaimed that this “new pro-growth tax policy will be like a shot of adrenaline into the heart of the Kansas economy.”

Since then unemployment in Kansas has indeed fallen, but by less than its neighbours and by less than the nation.


More importantly, this policy was expected to deliver the magical Laffer unicorn of rising-tax-receipts-via-lower-tax-rates. So much additional economic activity would be generated, it was alleged, that tax receipts would rise even though tax rates had been slashed. This is old hat supply-side voodoo economics of course, and was predictably doomed to failure: the budget is now utterly wrecked and the legislature in a state of intense dysfunction.

But perhaps this was the intention? Duane Goossen suspects so:

And state finances? What a mess. The revenue loss from the income tax cuts put the state budget drastically in the red. In response, lawmakers raised sales tax rates twice, which transferred more of the state’s tax burden to low-income Kansans but did not come close to correcting the budget imbalance. Lawmakers also blew through the state’s reserves and transferred hundreds of millions away from highways and children to barely eke out a budget.

But therein lies the secret to the “success” many lawmakers really sought. If you want to cut programs and force state government to be smaller, starving the revenue stream provides the easiest route.

And therein lies the pro-Trump engine lurking within the conservative agenda. Reducing income tax rates, especially when paired with rising consumption tax rates, shifts disposable income from the poor to the rich. Since America, along with much of the global economy, suffers from a chronic lack of demand, shifting after-tax disposable income from the poor to the rich not only exacerbates inequality but also weakens the economy over the medium to long term.

Kansans were capable of looking through the Trump mirage and instead opted for the more conventionally loopy Ted Cruz. And what of Ted’s tax plan? Slash ’em. Under his plan, lost revenue would run well into the trillions and gains would accrue disproportionately the rich:

In 2017, the proposal would cut taxes at every income level, but high-income taxpayers would receive the biggest cuts, both in dollar terms and as a percentage of income. Overall, the plan would cut taxes by an average of about $6,100, or about 8.5 percent of after-tax income.

However, the highest-income 0.1 percent of taxpayers (those with incomes over $3.7 million in 2015 dollars) would experience an average tax cut of more than $2 million in 2017, nearly 29 percent of after-tax income. Households in the middle of the income distribution would receive an average tax cut of $1,800, or 3.2 percent of after-tax income, while taxpayers in the lowest quintile would receive an average tax cut of $46, or 0.4 percent of after-tax income.

These cuts would necessitate substantial reductions in spending, with social security naturally first on the chopping block. We’ve known for decades that millions of Americans are prepared to support policies plainly contrary to their economic interests, and this hasn’t changed. The issue is that outcomes have signally failed to match promises. The GOP would be optimistic, not to say delusional, to believe it can continue pushing tax reform favouring the rich on to gullible voters, and have them revert back to the dignified obeisance they’ve supposedly discarded during this election cycle.

Of course, Trump the man offers no remedy. He’s merely an opportunistic, bellicose rabble-rouser, descended from a long line of adroit manipulators of public disaffection. Indeed, his tax policies are no different in effect from the rest. But Trumpism, that alarming groundswell of ugly popular anger, will only amplify the longer the conservative wing of American politics remains rigidly committed to policies that exacerbate social and economic disparities.

Why interest rates are (still) going to fall

The property market is booming. Residential construction is running hot. Consumers are stoked. The labour market is healing.

Might it finally be time to recognize that the economy has turned a corner and the next change to monetary policy will be a rate hike?

That’s the feeling that emerged last week among the nation’s rate watchers:

Goldman: We now believe that the most likely scenario is that the RBA keeps rates unchanged at 2.00% through 2015 and into 2017.

ANZ: Perhaps the labour market is even better currently than we thought. If so, achieving a cash rate cut by February looks less likely at this stage.

UBS: Hence, the odds of the RBA cutting have sufficiently shifted that we today change our view and now expect the RBA to remain on hold ahead (rather than cutting by 25bp in February).

AMP: As a result a December rate cut is now very unlikely and while I still lean to another rate cut early next year, it’s now a very close call, and we would need to see some softer economic data in the interim.

This shift in outlook was born of two key releases.

Firstly, last Wednesday we saw a solid bounce in the Westpac Consumer Sentiment Index, lifting 3.9% and signalling a healthy year for Christmas spending.

From a beaming Bill Evans:

This is a cracking result. Apart from the brief surge we saw following last May’s Budget this is the highest print for the Index since January 2014. The Index is now 8.3% higher than in September, immediately preceding the change of leadership in the government.

It marks only the third month out of the last twenty one that optimists have outnumbered pessimists.

Then on Thursday we were treated to a rollicking Labour Force survey, with jobs surging a somewhat suspicious 58,600 in seasonally-adjusted terms, sending the unemployment rate down to 5.9% from 6.2% in September.

UE - Aus

This result was largely driven by a big drop in Victoria’s unemployment rate, from 6.3% to 5.6%, with roughly 26,000 new jobs added during October in seasonally-adjusted terms.

October Employment MoM

Weirdly, the unemployment rate for WA jumped from 6.1% to 6.4% over the month, in itself not surprising given the parlous state of the West; however this occurred despite a strong increase in total employment, as seen above.

Statistical incongruities aside (detailed here by Westpac’s Justin Smirk), the labour market has undoubtedly improved over the past year, with NSW the star performer.

October Employment YoY

A New Growth Engine

The structural weaknesses plaguing the Australian economy should by now be well-known. We are in the advanced stages of a massive, ‘once-in-a-century’ mining bust, which is rapidly draining our national income. Moreover, the juiciest phase of the boom in terms of domestic expenditure, the post-GFC resource sector investment surge, is also retreating fast.

So what accounts for the relatively sprightly state of the labour market?

The lower dollar is playing its part, helping sectors like manufacturing and tourism.

Dollar & Tourism

Indeed, given the decline in the Aussie dollar, it’s perhaps surprising that tourism has not enjoyed an even greater boom. This I think can be partly attributed to the unusually long period of Aussie dollar strength, which entrenched in Australians a preference for overseas holidays. Plummeting South East Asian currencies may also be playing a part, keeping it cheap to visit our neighbours to the north.

In any case, while the uplift in non-mining tradable industries is welcome, the élan vital of the Eastern states is undeniably the property sector.

House prices have rocketed in Sydney and Melbourne over the past couple of years.

House Price indices

Driven by a frenzy of speculative buying.

Investor Mortgages

Although much of this finance is directed towards the purchase of established dwellings, the latest boom has at least been been accompanied by a strong rise in residential construction, particularly of apartments, some which may even be safe enough to live in.

Building Approvals

This growth in mortgage lending, house prices and construction has increased employment and boosted consumer confidence, which has in turn supported retail spending, especially on higher-value goods such as automobiles.

The Engine Sputters

How has this property boom come about? There are a number of contributing factors in this country that act to exacerbate the pace of house price inflation, but ultimately the trigger lies in the hands of the RBA. Low interest were the spark that ignited this bonfire, and are the fuel that keeps it burning.

However, it is important to recognize other contributing factors, for the more conducive the wider environment is to rising house prices, the less monetary easing will required to sustain momentum.

Chief among these factors are:

  • A legacy of undersupply/inelastic land supply
  • Strong population growth
  • Tax incentives favouring residential real estate speculation
  • Foreigner investor demand
  • Regulatory insouciance

Looking at each factor individually, we can see evidence of waning support for property price growth going forward.

The second factor, population growth, is obviously closely linked to the first. Unresponsive housing supply is more likely to lead to strong growth in prices when fundamental demand is strong.

Driven by soaring immigration from the inception of the mining boom in 2004, Australia’s population growth has boomed over the past decade, notwithstanding the swoon following the GFC. As this resource sector boom has subsided, eroding employment prospects, population growth has trended lower.

Population Growth

Combined with the sharp increase in residential construction evident on the previous Building Approvals chart, Australia’s housing shortage is beginning to disappear. The telling indicator on this score is growth in rents, which are not exposed to the speculative bid and therefore a better indication of fundamental demand than house prices.

Below is a snapshot from Core Logic’s October Rental Index release.

Rental Table

Rental Yields

Plainly, demand for accommodation in this country is not running into any noteworthy supply constraints. As population growth continues to slow, and as new supply enters the market, especially in Sydney and Melbourne, we are likely to see rents cool further. This in itself does not augur lower prices; valuations can always get sillier, but it does make future appreciation a tougher ask for investors, who must wear lower cash flows as they await capital gains.

Tax incentives centre on the capital gains tax discount and negative gearing. Maybe they’ll be under consideration as part of the government’s tax reform program? Maybe I’ll be saying that to my grandkids. Although Australia’s tax regime encourages property speculation, for our purposes it’s not a particularly important consideration. Given the other headwinds, the failure to reform negative gearing, for instance, isn’t going to be the deciding factor holding the market aloft.

Foreign investor activity, on the other hand, most certainly is a pertinent consideration. Foreign buyers have been instrumental in this boom. Owing to macroeconomic settings in China since the GFC, a very large share of foreign buyers do happen to be Chinese. This is a global phenomenon, witnessed in large cosmopolitan cities across Europe and North America.

In Australia, the main markets of interest have unsurprisingly been Sydney and Melbourne. These charts, taken form NAB’s most recent quarterly Residential Property Survey, illustrate the scale of foreign investor participation in the these markets, Melbourne especially.

Forigner buyers property new

Forigner buyers property established

This activity is under attack on two fronts. Firstly, the Chinese government would like the freedom to ease monetary settings without seeing their FX reserves evaporate combating capital flight. As such, Beijing is tightening the channels by which capital seeps through their supposedly rigidly-controlled capital account. Secondly, Australia is bringing in new foreign investment rules from December 1, with tougher penalties for illegal purchases.

Real estate agents began reporting reduced foreign buyer interest towards the end of the third quarter, and although it’s certainly too early to write the obituary of the Chinese bid, the loss of what has recently been a key segment of market is a negative for prices.

For all the other factors we’ve considered, the most important driver of this boom has been domestic investors. As we’ve seen, investor mortgages have exploded over the past three years in the key states of NSW and Victoria. Many lay the blame at the feet of the RBA for this phenomenon, and while I agree that low interest rates were the trigger, this assessment is incomplete. It has been low interest rates coupled with regulators’ failure to get out in front of the market with tough macroprudential regulations, that resulted in the orgy of speculation. There were sound arguments for reducing interest rates, but not for reducing them without an adequate regulatory regime for controlling runaway speculation.

Although two years too late, APRA and the RBA did eventually recognize the beast they had unleashed, and have taken measures to contain it. Partly the result of these measures, the growth in investor mortgage issuance is been declining.

Investor Mortgage Growth

Drawing together the effects of deteriorating rental yields, roadblocks to foreign investors, and tightening domestic credit conditions, auction clearances have descended.

Auction Clearances

And price growth is sliding, particularity in NSW, the all-important leading market.

House Price Growth

With all these factors in play, it is hard to see falling house prices arrested except by the deft hand of our monetary overlords.

Because the housing boom forms the backbone of Australia’s essential growth engine at present, it is highly likely that the RBA will be compelled to cut interest rates next year. With support for the market falling away from all sides, the only way to buttress it will be by lower interest rates. And buttressed it must be. Without the property boom, all we have is the aftermath of the worst commodity rout in living memory.

So in fact my argument remains substantively unchanged from a year ago, when I could count far fewer analysts sharing my view that interest rates would fall early in the new year: The only justification for not cutting rates, the robust property market, cannot be sustained except by lower rates. 

My expectation for the past few months has been that the RBA would cut in February. Recent healthy data, along with a solid pipeline of residential construction projects, may postpone this by a month or two, but once again it is a question of when, not if, interest rates will be cut.

Did RBA shoot own foot?

There was always a risk that the RBA would feel pressured into a cut on Tuesday by intolerable strength in the currency it issues.

So it was, it seems. Although sadly for the RBA, its decision to cut interest rates to take steam out of the AUD rally resulted in an AUD rally.

It has been widely asserted that the offending action was the lack of an explicit easing bias in the accompanying statement. For instance, from the SMH:

Failing to control the Aussie’s rise with its rate cut, the RBA “has lost all respectability – if there was any left to lose”


While I have to say I was surprised at this misstep by the RBA (which among other things contributed to a continuation in the brutal bank sell-off, which I lazily supposed would be halted by a cut), it’s probably reaching a bit far to heap opprobrium on the RBA in this instance. There’s been a vicious bond sell-off lately and yield plays (i.e. our financials-stacked sharemarket), have naturally been getting smacked around.

The market was also clearly looking for an excuse to buy AUDUSD. As I’ve detailed previously, most indicators have pointed to a mild improvement in Australia over the last couple of months, so much so that I found myself in the camp thinking a May cut might well have been off the table. In the end, the RBA met me half way, and markets moved on a tightening theme (or at least a no-more-easing theme, which is a sufficiently terrifying prospect for modern markets).

It will be a fairly short-lived, I feel. Iron ore has had a nice rebound from very oversold levels it reached in late March/early April. Chinese steel mills are replenishing inventories and there are signs of a thawing at the top tier of the property market. It’s not likely to last. As a reminder, here is the ongoing supply deluge:


All being dumped on contracting steel production.

I can’t say how long the restock will persist, but the next time iron ore slumps it’s very likely to print fresh lows, pushing another few juniors towards the abyss, before eventually coming for FMG.


An interesting development that’s worth keeping an eye on is the large spike in futures volumes traded on the Dalian Exchange. From Reuters:

The volume of iron ore futures traded on the Dalian bourse reached 18.6 million contracts in April, equivalent to 1.86 billion tonnes, according to data on the exchange’s website. That was a monthly record, and far surpassed annual global sea-borne trade of around 1.4 billion tonnes.

An increase in volumes isn’t necessarily an issue, except that in this case market participants are obviously prone to leaping from one side of the boat to the other, and so we’re probably going to see more episodes of dizzying volatility this year.

The RBA is not done cutting interest rates yet.

RBA coin toss heads for cut

It’s been a turbulent month of oscillating interest rate expectations. Early on, I argued that the case was swinging in favour of a hold, in contrast to market pricing and economists’ forecasts, with obviously implications for the currency.

The next few weeks lent support to this thesis, with chances of a cut diving as iron ore rallied wildly and a range of data releases pointed to a temporary patch of strength in the economy as the cyclical sectors fired following the February rate cut.

This pushed AUDUSD well up from its lows at the beginning of the month; last night it breached .8000 on the back of woeful US GDP figures.

Whilst musing on the possibility of a hold in May, I noted that a key concern was AUD strength forcing the RBA’s hand. Another (unmentioned) consideration was that APRA would move on macpru and thus the RBA would feel satisfied to ease again. If the RBA saw that sufficient regulatory breaks were being applied to the investor mortgage freight train, a cut could be on the cards.

If we go back to an even earlier post, there was an article I linked to by Fairfax journo Peter Martin in which he offered a strong indication that the RBA would hold in April. This irritated me enough to lambast the “extraordinary failure” of policymakers for permitting a cyclical property boom to supplant a real devaluation (which is more or less been exactly what’s happened). And as it turned out, his sources were solid. There was no cut in April.

Well tonight the clairvoyant offered another premonition: this time he sees a cut.

Below is perhaps the most important passage:

Although the Bank is concerned about the effect another of  cut on Sydney house prices, it is prepared to rely on its sister regulator, the Australian Prudential Regulation Authority to ensure banks do not cut their lending standards further in order to drum up more business after the cut.

Indeed, the equity market is getting jittery about the prospects of macpru:

Almost $20 billion has been wiped off the value of the big four banks by sharemarket investors this week, partly because of expectations the prudential regulator will take quicker-than-expected action to deal with the threat posed by rampant property speculation.

Yes, partly. But also because expectations of a rate cut tanked. If the RBA does cut expect a solid rebound. Whether a rally in financials lasts is all down to the sting in the macpru regime.

We’ll learn on Tuesday just how good Peter’s sources are, but currency markets are already all over it.


Tough month. I have to confess after finding it “very hard to see the RBA cutting interest rates next month” a matter of days ago, it looks like the RBA is laying the groundwork for a cut.

APRA’s macpru house had better be in order.

Iron ore rebound rips the roof off


It’s all over. Australia’s brief flirtation with economic ruin, as the price of our primary export commodity crumbled, is happily behind us.

Or so you would think listening to the more excitable segments of media commentary the past few days.

We are certainly in seeing a feverish short-covering scramble/steel mill restock, with spot now a good 23% above it’s low in early April (bull market!).

Iron ore

And it’s not over yet, with Dalian futures up a blistering 5.5% in the overnight session on Friday.

Although I was expecting a bounce, this has undoubtedly been a far more violent reaction than I’d anticipated. The proximate cause was BHP delaying expansion from 270mt of capacity to 290mt by six months or so. There’ll be a strong element of short-covering, however what’s really driving the rally is plain old FOMO (fear of missing out). These kinds of moves can only occur when steel mills are in a mad dash for cargoes. If you perceive your competitors starting to scramble for stocks, your only choice is to scramble yourself or face higher prices tomorrow. Naturally, this results in even higher prices tomorrow.

Enjoy it while it lasts. BHP’s delay has kept a number of juniors, FMG included, in the game longer than they otherwise would have been. Thus, unless there is a material pick-up in steel demand imminent in China, the medium-term supply-demand imbalance in the iron ore market has actually worsened as a result of BHP’s move.

It is still not outside the realms of possibility, but the iron ore rally makes it very hard to see the RBA cutting interest rates next month. As I highlighted a fortnight ago, assuming a dovish Fed this week, and an RBA hold next week, this points to considerable upside for the AUDUSD in the short-term.

Could RBA coin toss land on hold again?

Seems unlikely. All 26 economists surveyed by Bloomberg are calling a cut at the May meeting, taking the cash rate to 2%. Likewise, rates futures are pricing a 79% probability of cut.

Many found the RBA’s decision not to cut last month quite bemusing, what with the 25% collapse in iron ore prices since the March meeting, the rapidly approaching capex cliff, and the need for an ongoing real devaluation if we’re to see a meaningful revival in non-mining tradables. The reason for holding, however, was clear enough: the RBA is spooked by the investor mortgage Frankenstein it has unleashed, and would rather not cut unless it absolutely has to.

My hard-fought call last year that rates would fall before they rose was validated in February, but it bears remembering how heavily I stressed the bipolar nature of Australia’s economy. I believed rates would fall, but only because the structural weakness emanating from the slide in the terms of trade and the capex wind-down was going to overwhelm the cyclical boom in the property space.

Following the February cut, the cyclical factors have truly roared, so much so that I am now wondering if the balance is tipping in favour of further reticence on the part of the RBA.

Firstly, iron ore has bottomed for now and has put on a good 8% from the (admittedly very low) lows, with Chinese futures having been locked limit up (+4%) for the past two sessions.

Iron ore

I don’t anticipate this being much more than a moderate bear market rally, for the simple reason that the market is structurally buggered. A couple of charts from Citi this week illustrate the point.

New supply is still pouring in:


And I’ve discussed many times previously, we’re almost certainly past the peak in Chinese steel demand:


But if iron ore can hold it’s gains and perhaps add another 5-10%, the RBA may well side with cyclical argument for holding monetary settings steady.

Property markets in Sydney and Melbourne have piled it on since February, and I get the feeling the RBA is especially concerned by just how sensitive activity in this space has proven to the last cut.

House Price indices

Investor mortgage growth in the boom states, especially NSW, remains extraordinarily strong, as shown on this chart from Pete Wargent:


And perhaps the most important real-time indicator, auction clearances, are also pointing to exceptionally tight markets.



Viewed in isolation, this is not an environment a sane central banker could comfortably ease into. But of course it cannot be isolated from the external shock bearing down on the economy, and therein lies the RBA’s mighty quandary.

If Oz data remains benign over the next few weeks, and the iron ore price doesn’t crash through the lows before the next meeting, I suspect there’s a better chance of a hold than rates markets are pricing, and much better than economists are forecasting.

To the caveats: Firstly, the China national accounts data dump tomorrow morning could be a shocker. If it’s really nasty then the market will have to decide whether to buy on the promise of stimulus, or sell on reality. If nasty data snuffs out the metals rally, the chance of a cut obviously firms. Secondly, I expect the Fed to be dovish again at its meeting at the end of the month, and if this adds to unwanted AUD strength, the RBA’s hand may well be forced by FX markets.

RBA coin toss lands on hold

Which is more important, a 25% monthly collapse in the price of your main export or a raging housing bubble in your largest city?

It’s a tough call, however the RBA has a rigorous methodology for addressing the dilemma:


Here’s the full statement.

It’s highly unlikely this decision will cool housing speculation over the next month in any noticeable manner. And it’s equally unlikely that iron ore will rebound materially in that time. (Despite being due for a bounce, Chinese steel futures are selling off again today.)

So stay tuned for next month’s coin toss.

Iron ore cracks the half-ton


Paging Michael Pascoe, et al: Australia’s most important export commodity is rapidly siding with the doomsayers:

Iron ore

The iron ore crash that so few took seriously is now moving towards its endgame. Australia’s Dog Days have arrived.

But the tragedy-farce is not over yet; there’s still two big projects gearing up this year (h/t DLS):

Iron ore flood

RIO’s is due to commence production within the next couple months, while Gina’s ore will hit the market in September. And it’s all being dumped upon contracting demand.

We are in the grip of a very severe bust indeed.

For now, however, the impending collapse of Western Australia’s economy is a boon for NSW and Victoria, as it adds to expectations of further rate cuts. Further cuts, in the absence of tough regulatory disincentives, will toss more kerosene on the Sydney and Melbourne property frenzies.

The last cut ushered in a veritable swarm of buying in Sydney. As Domain Group’s chief economist recently put it:

“This is the hottest of hot auction markets ever.”

Sydney property prices

Obviously this cannot go on indefinitely. The WA export juggernaut is the foundation on which the hyper-financialized East Coast economies rest. Currently there’s a torrent of offshore capital flowing into these markets, so overall conditions are fairly robust. But eventually, without a sustainable, internationally-competitive productive base, bubble economies inevitably unravel. I have my own thoughts on when this might happen and what the triggers might be, but really it’s anyone’s guess.


Chinese iron ore futures have been crushed again today, currently a whisker away from limit down.

Further into the mire we sink…