It’s around two months to the federal budget, and there are reports today that treasurer Scott Morrison is shaping a package aimed at middle Australia that will tackle housing affordability and ensure strong funding for crucial services like Medicare and schools.
According to The Australian, Morrison may be ready to ditch billions of dollars’ worth of savings currently stalled in the Senate in order to maintain the credibility of the budget repair programme.
Any subsequent loss of Australia’s triple-A credit rating would allow the government to pin the blame on Labor for obstructing the savings.
Not everybody thinks losing the triple-A credit rating would be a bad thing. Among them is Jarrod Kerr, director of fixed income strategy for the Commonwealth Bank’s Institutional Banking and Markets division.
In the latest episode of our markets and economics podcast Devils and Details, Kerr says that like other countries, Australia has been struggling with an absence of strong economic leadership, and believes “we tear ourselves apart over little issues where we should be thinking in terms of big, long-term themes”.
As a bond market strategist Kerr closely follows the relationship between credit ratings and bond prices and says the growth outlook is far more important than the view of the ratings agencies.
Kerr says (emphasis added):
What I hope happens here is I hope we lose our triple-A. I really do. We don’t need it. There are, I think, eight or nine triple-A rated countries around. The US is not one of them. The UK: not one of them. We’re in there with countries like Canada who’ll probably lose theirs; Singapore, Switzerland, Germany, and a few other countries you can’t even find on a map, like Luxembourg. Now, we are in a shrinking universe. Triple-A rated assets have shrunk in the last 10 years. Double-A plus is the new triple-A in this world. When the US lost their triple-A rating, their bonds rallied more than any other. When the UK, just last year, got a double-notch downgrade from triple-A, their bonds rallied more than any other on the planet. Bond markets react to growth, inflation, term premium outlook. They don’t care about rating agencies, right? A rating agency will tell you something’s wrong six months after it’s collapsed.
Kerr explains that a minor shock to the system might be just what’s required to encourage some sensible but well-directed fiscal stimulus to ensure the overall economic future looks bright.
You’ve got to be forward-looking here. If we got downgraded, I don’t think the Australian bond market would react much at all. We would continue to see our government bonds trading roughly where they are. You would get the states downgraded – the triple-A rated states – but their bonds are already trading close to the ones that are rated below them, so I don’t think you’d see much of an impact there. Now, I represent a bank. Our bonds would get downgraded in this environment. Our bonds are already trading two notches below where we’re currently rated. So I don’t think even our bonds would see a huge impact in this world. And all of a sudden, you’ve got that monkey off your back. A government can turn around and say, right: we are now in a lower universe, but jeez our metrics look fantastic in comparison to all the other double-A-plus nations out there. Well, let’s push the boat out.
Morrison points out that “the growth objective is paramount: without growth you can’t do all the other things you want to do”. This is true, but governments around the world are finding that the best way to encourage growth is by spending. The budget this year is going to be fascinating.
You can listen in to the segment below at around 22 minutes. The conversation also covers the outlook for the US and the global bond market, and where to watch for signs of trouble in the global economy.
You can also find the show on iTunes — where you can subscribe, rate us, or leave a review.