RBA Deputy Governor Philip Lowe gave a great speech last night at the Commonwealth Bank’s Annual Australasian Fixed Income Conference titled “Investing in a Low Interest Rate World”.
It was a speech which has built on recent themes the RBA has been highlighting: the lack of animal spirits in the economy and the heat in the housing market.
Lowe said that the point of super low interest rates around the world, including Australia, was that asset holders would move their savings from the safe haven of bank deposits, then into the purchase of existing assets, like stocks and housing, and then ultimately into the third stage of recovery which is that investors:
can use the savings to finance the development and creation of new assets, for example a new piece of capital equipment, a new building or some new intellectual property.
“It is this third use of savings that is critical to the resumption of strong growth in the global economy,” Lowe said.
But it is this third use of savings where the international and Australian economies hit a bottleneck, with the “strong demand for many existing assets” not yet generating “a strong appetite for the creation of new assets”. Lowe also noted many investors around the world remain cautious and so the next stage of the recovery is failing to launch.
Lowe and the RBA retain the view it’s just a matter time before the transition is made.
Turning to Australian developments, Lowe said Australia, even with its differing starting point, faces “the same issues as other countries” with a need to promote increased “entrepreneurship and increased spending on infrastructure.”
But when discussing housing Lowe also aired concerns around the level of investment and the type of funding being used to purchase dwellings. He said the increase in prices was having the desired impact on dwelling construction but that the increase in prices raises
Some of the same general questions that are being discussed internationally. In particular, a question that has a strong echo in the international discussions is whether the recent increases in the prices of the existing housing stock, together with pockets of higher borrowing, is generating increased financial and macroeconomic risk…
The area that has attracted most attention is the very strong demand by investors to buy housing for the purposes of renting. Currently, loan approvals to investors buying properties to rent out account for nearly 45 per cent of total loan approvals, with most of the investment properties being existing properties. Perhaps not surprisingly, the biggest increases in housing prices have occurred in the city where investor demand has been strongest – namely Sydney. Overall, investor credit outstanding is growing at an annual rate of close to 10 per cent, around twice the rate of increase in household income. A fairly high and increasing share of these investor loans do not require the repayment of any principal during the life of the loan. And this is all occurring in an environment in which growth in rents has slowed and the ratio of housing prices to income is at the top end of the range experienced over the past decade or so.
While Lowe was at pains to say that “I am not saying that this will end badly, or even that is likely to end badly,” the type of buying, what’s driving it, how it is being funded and the expected payoff implied is almost a textbook definition of the Ponzi Unit in Hyman Minsky’s Financial Instability Hypothesis.
Lowe has highlighted, perhaps obliquely, the problem with the economy in Australia at the moment. It’s just not making the necessary transition away from mining investment because too much is being allocated to existing assets like housing and not enough to building the future.
Where are those animal spirits?
You can read his full speech here.