Australian Broadcasting Corporation Broadcast: 18/03/2008 Reporter: Tony Jones
Transcript What's the likely impact of a US recession on Australia? According to Morgan Stanley economist Gerard Minack, the housing bubble will be punctured. I spoke to him in the studio, just a short time ago. Gerard Minack, thanks for joining us.
GERARD MINACK, MORGAN STANLEY: Pleasure.
TONY JONES: Now the Bear Stearns collapse seemed to take a lot of people by complete surprise. Now, Allan Greenspan says this is the biggest challenge facing financial markets since the Second World War. If so, how do you expect Australia to weather it?
GERARD MINACK: Well the problem is we got wrapped up in this massive credit bubble as much as anybody. I mean at the end of the day we are a nation that depended enormously on foreign capital to support our borrowing and spending habit, we still do. We've got a current account deficit of seven per cent of GDP. As soon as we started to see this big turn in global appetite to hold risky paper, to lend to at risk borrowers, we've been wrapped up in it. Our banks have found it more expensive to finance their borrowing, some of our companies obviously have gone to capital market and said we need a bit more money and capital markets have said no and they've rolled over. So we have seen already our own Bear Stearns with Rams, with ABC, so it's all part of the same global story.
TONY JONES: Do you think there are any other lending institutions that we don't know about now that are vulnerable in the way that Bear Stearns was vulnerable in the United States?
GERARD MINACK: Any lending institution is vulnerable to everybody coming up and saying I want my money back. The financial sector is a confidence game and what's really got central bankers worried is just that very fact. They needed to ring fence the financial institution which is why the Fed sitting there saying look if anybody runs into this liquidity problem, come to us, we'll bail you out. The trouble with Bears, they weren't quick enough. The trouble with Northern Rock, they weren't quick enough and so what they're trying to do now is scramble up, catch up, but in a sense anybody's vulnerable.
TONY JONES: Anybody's vulnerable including individuals who hold tremendous debt in Australia and the question is could individual debt taken as a whole create a sort of mini sub-prime crisis in Australia?
GERARD MINACK: Our consumer is as leveraged as the American consumer. Now what happened in America is due to very slack lending standards a lot of people just threw the keys of the house back to the bank. Now can you can't do that in Australia. If you did that in Australia the bank will come after you. The real risk in Australia is people will default if they lose their jobs and that's why I think the worst is ahead of us. The next economic down cycle, unless you think we've banished the cycle there will be a stage at some stage where we see people lose their jobs then we can have not a problem as broad based as sub-prime but we'll certainly see an escalation in bad debts amongst consumers.
TONY JONES: A lot of economists genuinely believe or say they believe because confidence is obviously an important part of this, that Australia is decoupled now from a US recession because of the China market, because of Japan, because of Korea and other Asian markets that we're hooked into to a far greater degree than we are to the American market.
GERARD MINACK: There's a couple of problem there's. Firstly we've actually got a central bank that is trying to slow us and although they'll try and achieve a soft landing there is obviously a risk that they over tighten so it may almost be a self-inflicted slow down. The second thing is yes, China will keep on growing, Japan will keep on growing and that means if you're in the mining sector you will have to keep on digging up dirt and shipping it overseas. That's about 1.5 per cent of the work force. The other 98.5 per cent of us can be thrown out of work if we get a retail downturn, if we get a downturn in the finance sector, if we get a downturn in the media sector. BHP doesn't employ you or I. So that's the risk.
TONY JONES: You don't believe the argument that the mining boom is fuelling the economy?
GERARD MINACK: It has fuelled the economy and but the way it's done it is because of those massive profit surges which at the end of the day rely on prices going up. So the miners will keep on digging the dirt, how much profit the big companies make? How many tax cuts the Federal Government can give us all depends on their profits which depends on prices and if we get a slow down in the US, if we get a slow down in Japan, if we get a slow down in Europe all of which is on the cards for this year, we could see prices fall next year and that enormous financial buffer that the mining boom's given us could start to dissipate which means that we really are at risk of seeing some jobs being lost.
TONY JONES: I know they call this the dismal science but why is it you get such widely differing view points from different economists as to whether or not we're decoupled, particularly that point, from an American recession?
GERARD MINACK: It's partly how you define it. In terms of the direct impact of a slow down in the American economy on us, it's far smaller today than what it was been in the past. But it's almost irrelevant. What we are being affected by is America's control of the financial flows and in that sense looking at trade shares is irrelevant and in fact there's no economy that's decoupled. Wall Street has rolled over, every equity market in the world's rolled over.
TONY JONES: You may or may not know the answer but on what side of this argument do you think the Treasury economists, who are advising Wayne Swan, sit?
GERARD MINACK: I actually think that the official family have been quite concerned about some of the second round effects and if you look back say 12, 18 months ago, my hunch is the Reserve Bank was tightening at a fairly slow and measured pace in part because they were concerned about a possible slow down in the US and the knock on effects to Asia. Now as it turned out the slow down's being delayed and as a result they've had to scramble to tighten a bit more quickly than they would have liked. I think they have in the back of their minds they were aware of the risk and if they weren't aware of the pure US risks to see ABC Learning, to see Centro, to see Rams fall over has absolutely driven home the risks that we are financially vulnerable.
TONY JONES: One of the risks and it must be a political risk as well as everything else, is a bursting of the housing bubble in Australia, how likely is that?
GERARD MINACK: Look, I think at some stage it is. We simply have a very expensive housing stock. On every metric that you want to compare it to, be it just absolute price gains, be it price per square metre, be it price relative to income, we have very expensive houses and I think the problem is everybody actually thinks they're affordable. Now I know you'll run the press reports saying these are too expensive but at the end of the day a lot of borrowers are willing to leverage up, to get a mortgage at several times their income, to devote 10, 20, 30, 40 per cent of their income to servicing their debt and that's ultimately what has pushed prices so high and the reason people are willing to do that is you've got a lot of borrowers out there that have never seen a recession, they always assume they can service their debt, and they've never seen house prices fall and so they think I can make a lot of money by buying a second house or a third house. Once we see some job loss, once we shatter that illusion that house prices don't fall, then I think you can see substantial losses as indeed you've seen in part of Sydney already. Now my very simple take on it the bigger the bubble, the bigger the pop we have very expensive house prices and I expect they're going to fall at some stage.
TONY JONES: By how much and when do you believe the music will stop?
GERARD MINACK: The absolute killer for our housing market will be when we start to see some job losses. Now my view is that may happen next year. We'll see, unless you think we've completely banished the economic cycle it's a matter of "when", not "if". How far could they fall? That's a difficult question. My sense is that the top end tends to fall faster and also some of the discretionary housing, what's discretionary housing? I mean the holiday homes down the Mornington Peninsula in Melbourne or up the Central Coast here or on the Gold Coast in Queensland. These are the places that people have paid quite often jaw dropping prices for holiday homes of tying up a lot of capital, not getting much rental income, when the squeeze comes, I think they'll be sold, I think a lot of those areas you could see prices halve quite easily.
TONY JONES: Gerard Minack, we'll have to leave you there. Thanks you for much for coming in and joining us tonight.
