Low interest rates can hurt. Every time the Reserve Bank board meets there’s a clamour of forecasts about rate cuts (these days) and whether they will happen. And when they happen, there are cheers about the impact lower rates will have on house and property prices (the wealth effect), and very little awareness of the downside, though we are slowly coming to understand, low rates aren’t good for everyone — savers and people on retirement incomes are two groups penalised. But this morning came two warnings that should be heeded from two key regulators about the dangers of low interest rates. Australian Securities and Investments Commission chair Greg Medcraft warned that low interest rates were supporting the emergence of property bubbles in Sydney and Melbourne. “There is always danger when rates get so low. That’s when people start borrowing when they can’t afford it. What generally happens is rates starts to rise which affects your ability to pay, and rate rises can actually bust a bubble, so you end up with a double whammy, “ Medcraft told the Australian Financial Review. And in a speech in Sydney this morning, RBA deputy governor Dr Phil Lowe echoed those comments, saying: “It is, however, unlikely to be in Australia’s long-term interests to engineer a consumption boom by encouraging people to borrow large amounts against future income. This is especially so when debt levels are already high and prospects for future income growth are not as positive as they once were.” — Glenn Dyer
China’s desperate bailout. Late last week, China’s State Council — the highest body (apart from the politburo) — directed the country’s state-controlled banks to “enhance lending support to major infrastructure projects amid an economic slowdown,” according to a rather guarded story on the official Xinhua website. It is the world’s biggest bailout, as the FT Weekend put it: “China orders banks to keep lending to insolvent provincial projects.” The paper estimated the value of the dud projects at US$3.5 trillion, which is equal to most of the country’s foreign-exchange reserves. The directive was posted on the website of the country’s central bank, banking regulator and Finance Ministry, which makes it very official.
The English versions are summaries of the more detailed directive in Chinese on the respective websites. The FT and other Western outlets say the directive from the government expressly bans banks from cutting off or delaying funding to any local government project started before the end of 2014. The directive further said that any project unable to repay existing loans should have the debt renegotiated and extended. What this means is that these projects will continue to be funded, which is good news. The bad news is that these funds will soak up credit that should really be injected into the sluggish wider economy, although the government says banks should continue to lend to companies and other businesses. Many of these local government projects have been financed through off balance sheet structures which don’t show up in the accounts. These projects have helped drive the huge Chinese construction program since 2009, boosting steel, cement, oil, electricity coal, and iron ore consumption and prices, in turn creating the Australian iron ore boom and the present bust.
As a result of these bailouts, China will have thousands of zombie projects across the country in coming years, which will depress demand, output and economic growth — just like hundreds of companies in Japan that have been kept alive by banks and the government for years. One economist quoted in the FT likened China’s bailout news to the bailout of Greece, where creditors have kept lending to the country in the vain hope of being repaid one day. — Glenn Dyer
Rate rise fears fading. More signs from the US economy that growth is sluggish. At the end of a week when it became clear American shoppers were looking, and not spending, in the nation’s malls and stores, we received news that, for the fifth month in a row, US industrial production fell unexpectedly in April. And some of that surprise can be blamed on the continuing slide in oil and gas production. In fact, the impact of falling oil drilling and investment, plus rising unemployment in the oil areas in Texas, North Dakota and Midwest areas is quickly offsetting the so-called “dividends” to US consumers from lower petrol prices (they aren’t spending it anyway). And the drop in deflation (producer prices also surprised in April with an unexpected fall of 0.4%, month on month.
US economists now say the economy has barely rebounded from the weak 0.1% annual growth rate in the first quarter, which looks like becoming negative thanks to weak trade and personal income and spending data. — Glenn Dyer
Run this one up the flagpole. What’s worth US$2.6 billion and has the mad men and women on Madison Avenue (and elsewhere in the US advertising industry) in a lather? It’s the size of the North American advertising and marketing budget of Procter and Gamble, which has been put up for review. US ad industry websites and papers say P&G, the biggest ad client in the world, wants to cut up to half a billion dollars of its costs in the review. It was estimated that P&G spent US$2.6 billion on ads in all media in the US last year — 14% down on the size of the spend in 2013. An estimated 30% of the annual spend is online. The company’s chief financial officer, Jon Moeller, said at a first-quarter results briefing last month that P&G wants to trim its overall advertising and marketing budget in areas such as fees and production costs for advertising media, PR, package design and development of in-store materials, as well as culling agencies on its list. Stand by for the cuts to repeated around the world by P&G, including here in Australia. — Glenn Dyer