The author has been described by News Ltd as an "iconoclast", "Svengali", a pollie's "economist muse", and "pungently accurate". Fairfax says he is a "Renaissance man" and "one of Australia’s most respected analysts." Stephen Koukoulas concludes that he is "85% right", and "would make a great Opposition leader." Terry McCrann claims the author thinks "‘nuance’ is a trendy village in the south of France", but can be "scintillating" when he thinks "clearly". The ACTU reckons he’s "an enigma wrapped in a Bloomberg terminal, wrapped in some apparently well-honed abs."

Thursday, September 1, 2011

Have I changed my views on inflation, interest rates or house prices? Not remotely

Every man and their dog has been shifting interest rate forecasts from hikes to cuts of late. Not me. Goldman Sachs, Deutsche Bank, Westpac and Macquarie are all forecasting that the next move will be a cut having previously predicted hikes this year. UBS have shifted the next cash rate change to Q3 2012, having also been in the hike camp. NAB have similarly moved the next change into the middle of 2012 after calling 2011 hikes. So, what do I think?

1. I believe Australia has an inflation problem that is only going to get worse over time. In fact, the inflation risks have significantly escalated following recent statements by leading developed world central banks that they intend to keep rates lower for longer, and will entertain further quantitative easing. The fact that the RBA's Board has forced the staff to drop or fudge its inflation target in 2011 only loads the dice in favour of more inflation in 2011, 2012 and 2013. I could go on about this, but I will save you the pain.

2. I think the next move in interest rates is up, and I think there is a decent chance that the RBA hikes after the Q3 inflation numbers come out in late October. The RBA staff and the (few) sane Board members believe they should have hiked in May. We know that they would have hiked in August were it not for the US debt ceiling crisis and problems posed by a majority of conflicted Board doves.

3. We have been bearish on 2011 house prices since early 2010. If my interest rate case proves out, I remain bearish on housing until the RBA starts normalising rates again, which I think will happen in the second half of 2012. If I am wrong, and the RBA starts cutting rates, I would be bullish on housing. Unlike almost any other housing market in the world, Australia is unique insofar around 90% of all mortgage debt is purely adjustable-rate and priced off the RBA's target cash rate (most other countries, such as the UK, US, and NZ, have a preponderance of fixed-rate mortgage debt). Even the tiny minority of fixed-rate debt that exists out there is fixed for short periods of time (eg, 1-5 years). In sum, this is a very interest rate sensitive sector of the economy. Wages and incomes in 2011--unlike the December 2009 ABS disposable income data reported by some yesterday--are growing rapidly. Unemployment is low. Interest rates are not high. If the RBA gets all dovish on us and cuts rates, house prices are gonna rise.

4. The most interesting dynamic in the housing market right now is that consumers are acting as if they are getting slugged by rate hikes, even though the last change was in November 2010 (admittedly a double hike). In August they still expected two more hikes according to the Westpac-Melbourne Institute survey, with an amazing 29% of all people budgeting for more than four hikes. It is this 'hawkish Australian consumer' that is depressing housing demand, for the time being. As soon as that attitude changes, housing conditions will promptly improve.