Tuesday, November 30, 2010

Flat growth but better than ever?

Governor Stevens' full speech below

Reserve Bank governor Glenn Stevens has talked up the economy ahead of new figures due tomorrow increasingly expected to show economic growth has stalled.

Much weaker than expected company profit and sales figures released Monday saw analysts slash their forecasts for growth in gross domestic product to close to zero, with some countenancing the possibility of a negative number, the first since the financial crisis.

"All the stars are aligning for a very weak third quarter result,” said JP Morgan economist Ben Jarman. "It's not out of the question now that we see negative growth."

The profits of non mining companies slid 3.25 per cent in the September quarter while the profits of mining companies grew a further 1.5 per cent on top a 58 per cent rise in the June quarter.

Mining now accounts for 4 in each 10 dollars of profit earned in Australia with total mining profits in the quarter topping $25 billion, accumulating at the rate of $282 million per day...

Sales were weak in the quarter with the volume of goods sold down 1 per cent as consumers turned cautious in the face of interest rate rises.

"The economy is fundamentally strong," said Treasurer Wayne Swan. "But in a volatile global environment it is to be expected that we are going to see bumps in the road for our domestic economy."

Governor Stevens told the Committee for the Economic Development of Australia in Melbourne the mining boom had dramatically boosted Australia's standard of living.

"To put it in very oversimplified terms, five years ago a ship load of iron ore was worth about the same as about 2200 flat-screen television sets," he said. "Today it is worth about 22,000 flat-screen TV sets – partly due to TV prices falling but more due to the price of iron ore rising by a factor of six."

"This is of course a trivialised example – we do not want to use the proceeds of exports entirely to purchase TV sets," he told CEDA. "But the general point is that all other things equal a high terms of trade will raise living standards."

"Let me offer one back-of-the-envelope calculation. The export sector is about one-fifth of the economy. The terms of trade are at present about 80 per cent higher than the long-term trend. This means 12 to 15 per cent of GDP in additional income is available to producers and consumers each year compared with what would have occurred under the trend. That will continue each year while the terms of trade remain at this level."

Mr Stevens said as mining expanded, other parts of the economy and some regions would suffer, at least in relative terms.

"Realistically, we won't be able to hold the economic structure static," he said. "Nor should we try. Had we had that approach through our history, we would still be trying to employ 25 per cent of our labour in agriculture and still be trying to ride on the sheep's back."

The Reserve Bank had no idea how long Australia's high income would last but it would be wise to use it to boost saving rather than spending.

"Consumption deferred can easily be enjoyed in future; consumption we get used to today is harder to wind back in the future if circumstances change," the Governor said.

Published in today's SMH and Age

The Challenge of Prosperity - 29 November 2010

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Monday, November 29, 2010

Let's celebrate. Telstra will be split!


Overselling fibre. Ouch.

The dishonesty has been breathtaking

The Australian government has been accused of misusing research to build the case for the National Broadband Network in an international study that finds the claimed benefits "grossly overstated".

Released in London ahead of today's Australian parliamentary vote on legislation to support the NBN the study finds evidence to support the claims made for fibre-to-the-home "surprising weak" and cites Australia as a key example.

"All else equal, faster is better," says the study, prepared by British telecommunications consultant Robert Kenny with Charles Kenny from the US Centre for Global Development. "But faster technologies don’t always triumph; think of passenger hovercraft, maglev trains, and suspersonic airliners. Concorde (if it hadn’t retired) would still be the fastest passenger aircraft today, having first flown in 1969. It turned out that the incremental benefits of speed to most customers were not worth the extra cost."

Korea, cited as the world leader in providing fibre to homes, enjoyed productivity growth of 7.6 per cent per capita per year in the decade before it began the program and 3.8 per cent in the decade since.

"Many factors played into the growth slowdown," the study says. "But maybe the massive increase in online gaming, facilitated by the broadband revolution, played a role – the South Korean government estimates that as many as two million of its citizens are addicted to online gaming"...

Worldwide, the authors find a weak negative relationship between fixed broadband rollout and economic growth.

In launching Australia's national broadband network in 2009 Prime Minister Kevin Rudd said 78 per cent of the productivity gains in service businesses and 85 per cent in manufacturing flowed from information and communications technology.

The study traced this claim back to two papers from Australia's Communications Department referring to gains of 59-78 and 65-85 per cent.

"What was an upper bound in the research has become a mid-point in Rudd's speech," it says.

"But more importantly the research was looking at all technological factors. Thus the figures cited include the benefits of everything from biotechnology to the rise of containerized transport." Also the research cited by Mr Rudd covered the periods 1985-2001 and 1984-2002, "when the internet was in its infancy and broadband was pre-natal".

The paper says claims about the benefits of e-health, smart-grids and online education bear little relationship to fibre-to-the-home.

Italy, the world leader in smart electricity grids and uses copper wire and the mobile phone network to provide the minimal bandwidth needed. A key US study on potential of e-health was conducted using small cameras and dialup. The YouTube education library enables 300 universities to provide 65,000 videos in seven languages across 10 countries using existing technology.

Other claimed benefits such as a shift to home working or remote medical care would themselves entail big costs in addition to the broadband netword. Business and government applications such as remote medical imaging require connections only to major buildings rather than every home.

"Julia Gillard will now have to include the authors of this study along with Reserve Bank governor Glenn Stevens in her growing list of wreckers, Luddites and enemies of human progress," said Shadow Communications Minister Malcolm Turnbull. "Their paper underlines the need for a thorough cost benefit analysis of the NBN adventure."

A spokeswoman for Communications Minister Stephen Conroy said the NBN would be fully scrutinised through regular Senate Estimates sessions and a Joint Parliamentary Committee which would report every six months.

Published in today's SMH and Age

Overselling Fibre

Executive Summary

overnments around the world are investing multiple billions to support the roll-out of fiber to enable high speed broadband. These subsidies are based on the premise that fiber to the home (FTTH) brings substantial externalities. It is argued that FTTH will support economic growth and is key to national competitiveness; that it will benefit education, healthcare, transportation and the electricity industry; and that it will be the TV platform of the future.

In this paper we argue that the evidence to support these views is surprisingly weak, and that there are several errors that are made repeatedly when making the case for FTTH. In particular:

- The evidence that basic broadband contributed to economic growth is decidedly mixed, and some of the studies reporting greater benefits have significant flaws

- Time and again, data that basic broadband brings certain benefits is used to justify investment in fiber – but the investment in fiber must be based on the incremental benefits of higher speed, since (in the developed world) there is already near universal basic broadband

- This error is compounded since other high speed broadband infrastructures (such as cable, and in time wireless) are often simply ignored when making the case for fiber

- Fibre is credited with bringing benefits that would in fact require major systems and social change in other parts of the economy, such as a widespread shift to home working, or remote medical care. In practice, these changes may never happen, and even if they do they will have significant additional cost beyond simply rolling out fibre

- Frequently business or government applications, such as remote medical imaging, are used to make the case for FTTH. But these applications require fiber to certain major buildings, not to entire residential neighborhoods (and these buildings often have high speed connections already)

We do not argue that there is no commercial case for rolling out fiber, nor do we argue that fiber brings no societal benefits. But we do believe that those benefits have been grossly overstated, and that therefore, particularly in a time of tight budgets, governments should think very hard indeed before spending billions to support fiber roll-out. A decade ago telcos wasted billions of shareholders’ money on telecoms infrastructure that was well ahead of its time – governments are now in danger of doing the same with taxpayers’ money.


Supporters of fiber subsidies note that the market is not rushing to install ubiquitous fiber networks – that telecoms companies are waiting until they better understand the business model and the extent of regulatory technical and operational risks. Governments should be wary of stepping where telcos fear to tread. These are, after all, firms that have happily rolled out access in war-torn Afghanistan and Iraq. Risk is hardly an alien concept to them. Perhaps their caution is well-founded.

If governments subsidise rollout enough, surely at some point the fibers rolled out will fill with data traffic. If consumers don’t have to pay more to get it, they’ll sign up to superfast, and companies will provide enough bandwidth-hogging applications to light the fibers. The question is, will the subsidies have been worthwhile? Will the applications be valuable enough to justify such a large investment? Given what we know to date, the answer appears to be no.

The argument for government subsidy at this point looks particularly threadbare because it is unclear the compelling market failure that the subsidy would overcome. Multiple streaming TV on demand is not a technology that creates ‘network externalities’ like a telephone or email account. I benefit from my ability to email or call you. I don’t benefit from your (little-exercised) ability to watch the Olympics in high-def while the kids are streaming Toy Story III in the basement.

Fiber advocates have claimed externalities such as improved healthcare or reduced electricity consumption. As we have seen, these benefits are speculative at best, and are frequently based on crediting fiber with benefits that in fact stem from basic broadband (or even dial-up).
When there is no apparent need to rush into investments in an unproven technology, the answer – especially in the midst of a global downturn – is to wait. Spend today’s stimulus dollars on something with a guaranteed social return (better public transport and pothole filling, as it might be).

If money must be spent on connectivity, spend on widening access to basic broadband; or coax those not yet online to take the broadband services already available to them; or invest in freeing up spectrum to meet the burgeoning demand for mobile data services (no agonising about what might be the killer-app there), or improve the capacity of the middle mile.

At the turn of the last decade, telecommunications companies threw away billions of dollars of private investment by spending on long-haul fiber networks that turned out to be far beyond what was needed for many years thereafter. At the turn of this decade, governments risk doing the same thing with tax-payer dollars by overinvesting in fiber in the access network. Hi-def TV on demand is no way to guarantee short term economic recovery or long term prosperity.

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Sunday, November 28, 2010

Astounding. The new Simpsons opening titles:

"In his new title sequence for The Simpsons, already shown in the US and due to air in Britain on 21 October, the graffiti artist Banksy tracks away from the Simpson family on its suburban Springfield sofa to show a subterranean Asian sweatshop making Simpsons merchandise. A child dips images of Bart into a vat of acid, kittens are pulped to make stuffing for Bart dolls, the tongue of a beheaded dolphin licks envelopes, an enslaved panda hauls a cart, an exhausted, broken unicorn punches holes in DVDs."

- LRB blog

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Krugman on the breakdown of the consensus

This is brilliant!

The Instability of Moderation

We used to pity our grandfathers who lacked both the knowledge and the compassion to fight the Great Depression effectively; now we see ourselves repeating all the old mistakes.

I find myself believing, more and more, that this failure has deep roots – that we were in some sense doomed to go through this. Specifically, I now suspect the regime that by and large lets markets work, but in which the government is ready both to rein in excesses and fight slumps – is inherently unstable. It’s something that can last for a generation or so, but not much longer.

By “unstable” I don’t just mean Minsky-type financial instability, although that’s part of it. Equally crucial are the regime’s intellectual and political instability.

Intellectual instability

The brand of economics I use in my daily work – the brand that I still consider by far the most reasonable approach out there – was largely established by Paul Samuelson back in 1948, when he published the first edition of his classic textbook. It’s an approach that combines the grand tradition of microeconomics, with its emphasis on how the invisible hand leads to generally desirable outcomes, with Keynesian macroeconomics, which emphasizes the way the economy can develop magneto trouble, requiring policy intervention. In the Samuelsonian synthesis, one must count on the government to ensure more or less full employment; only once that can be taken as given do the usual virtues of free markets come to the fore.

It’s a deeply reasonable approach – but it’s also intellectually unstable. For it requires some strategic inconsistency in how you think about the economy. When you’re doing micro, you assume rational individuals and rapidly clearing markets; when you’re doing macro, frictions and ad hoc behavioral assumptions are essential.

So what? Inconsistency in the pursuit of useful guidance is no vice. The map is not the territory, and it’s OK to use different kinds of maps depending on what you’re trying to accomplish: if you’re driving, a road map suffices, if you’re going hiking, you really need a topo.

But economists were bound to push at the dividing line between micro and macro – which in practice has meant trying to make macro more like micro, basing more and more of it on optimization and market-clearing. And if the attempts to provide “microfoundations” fell short? Well, given human propensities, plus the law of diminishing disciples, it was probably inevitable that a substantial part of the economics profession would simply assume away the realities of the business cycle, because they didn’t fit the models.

The result was what I’ve called the Dark Age of macroeconomics, in which large numbers of economists literally knew nothing of the hard-won insights of the 30s and 40s – and, of course, went into spasms of rage when their ignorance was pointed out.

Political instability

It’s possible to be both a conservative and a Keynesian; after all, Keynes himself described his work as “moderately conservative in its implications.” But in practice, conservatives have always tended to view the assertion that government has any useful role in the economy as the thin edge of a socialist wedge. When William Buckley wrote God and Man at Yale, one of his key complaints was that the Yale faculty taught – horrors! – Keynesian economics.

I’ve always considered monetarism to be, in effect, an attempt to assuage conservative political prejudices without denying macroeconomic realities. What Friedman was saying was, in effect, yes, we need policy to stabilize the economy – but we can make that policy technical and largely mechanical, we can cordon it off from everything else. Just tell the central bank to stabilize M2, and aside from that, let freedom ring!

When monetarism failed – fighting words, but you know, it really did — it was replaced by the cult of the independent central bank. Put a bunch of bankerly men in charge of the monetary base, insulate them from political pressure, and let them deal with the business cycle; meanwhile, everything else can be conducted on free-market principles.

And this worked for a while – roughly speaking from 1985 to 2007, the era of the Great Moderation. It worked in part because the political insulation of central banks also gave them more than a bit of intellectual insulation, too. If we’re living in a Dark Age of macroeconomics, central banks have been its monasteries, hoarding and studying the ancient texts lost to the rest of the world. Even as the real business cycle people took over the professional journals, to the point where it became very hard to publish models in which monetary policy, let alone fiscal policy, matters, the research departments of the Fed system continued to study counter-cyclical policy in a relatively realistic way.

But this, too, was unstable. For one thing, there was bound to be a shock, sooner or later, too big for the central bankers to handle without help from broader fiscal policy. Also, sooner or later the barbarians were going to go after the monasteries too; and as the current furor over quantitative easing shows, the invading hordes have arrived.

Financial instability

Last but not least, the very success of central-bank-led stabilization, combined with financial deregulation – itself a by-product of the revival of free-market fundamentalism – set the stage for a crisis too big for the central bankers to handle. This is Minskyism: the long period of relative stability led to greater risk-taking, greater leverage, and, finally, a huge deleveraging shock. And Milton Friedman was wrong: in the face of a really big shock, which pushes the economy into a liquidity trap, the central bank can’t prevent a depression.

And by the time that big shock arrived, the descent into an intellectual Dark Age combined with the rejection of policy activism on political grounds had left us unable to agree on a wider response.

In the end, then, the era of the Samuelsonian synthesis was, I fear, doomed to come to a nasty end. And the result is the wreckage we see all around us.

HT: Joye

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Saturday, November 27, 2010

Relax. Nervously. Reserve Bank Governor Stevens

Full transcript, Joye's highlights below

The man who sets our interest rates has good news for summer. We can relax. Rates are not going up again ahead of Christmas and probably not until well into the new year.

The usually plain message, delivered three times during his three-hour grilling by the parliament's economics committee appears designed to reassure shoppers, borrowers and retailers put on edge by the outsized mortgage rate increases imposed by the big four banks on top of his Melbourne Cup day lift in the cash rate of 25 points.

Mr Stevens came close to defending the banks in his testimony, saying if he had to choose between "banks with good profits and banks with no profits" he would "choose the former every time," and that his board expected the banks to top-up their margins when it took the decision.

Asked why it expected wider margins he said the members "just read the newspapers".

The extra imposts wouldn't hurt because the Reserve would be more gentle in its own decisions to compensate...

"When we were raising rates in 2007 and 2008, we raised by less than we otherwise would have. We cut by more subsequently and we have raised by less since, because of the recognition of these shifts in margins," he said.

"The question is whether all those people with a mortgage are paying seriously higher rates than they should be from an economic management point of view. What I am saying is that I do not think they are, because we pretty much offset the change in the margins."

The Governor also poured cold water on moves to increase competition in banking ahead of an announcement by the Treasurer expected next month.

"In many areas it is probably the case that more competition is always better for consumers, but in banking more competition is good to a point - but beyond a point more competition pushes down lending standards and banks end up lending money to people who really should not get it," he said.

Bank margins had fattened in the last two years but were still much better than "10 or 15 years ago".

"We are arguing about a small backtrack a little way back up that curve," he told the committee. The profits of the big four banks were "good," but "many Australian corporates would be looking to earn those kinds of rates of return, not just banks."

Asked about the outlook for rates Governor Stevens said "at the moment most commentators do not anticipate and market pricing do not anticipate any further near-term change by us for quite some time."

"I think that is probably a reasonable position for them to have based on the information we have," he added.

There would probably be some more rate rises "next year and maybe a little bit more after that" but it was "unlikely there will be anything from us imminently - I think that is probably a reasonable expectation of
people just now."

The Aussie dollar slumped one cent on the Governor's words to 97.16 US as futures traders wound back their bets on future rate rises, cutting the implied probability of a hike before May from 74 to 42 per cent.

Governor Stevens said while he did not want to get into "political debate" Australia's government debt worried him not at all.

"I have never felt in recent years that the size of the public debt that we have outstanding is a material problem," he said.

Published in today's SMH and Age

Reserve Bank Governor's November Testimony

Christopher Joye writes:

Well, Governor Glenn Stevens gave a remarkably interesting account of himself in Parliament today. Decoding the central banking speak, this transcript is nothing short of amazing..


Mr CIOBO—The flip side of that coin is of course that that increase in expenditure also leads to a tightening of monetary policy. In the economic context in which both your opening statement and other comments from the Reserve Bank have been made, is it reasonable therefore to assume that somewhere around that $10 billion or $15 billion increase in expenditure would see a similar tightening of monetary policy along the lines of what Mr Richardson said?

Mr Stevens—If there is a $15 billion increase in projected government spending in a single year, beyond what is already built into the forecasts—if that is proposed and enacted—then obviously that has a material impact on demand versus supply in the economy and will have a significant bearing on decisions that we would make. Let me be clear: this is an increase of a per cent of GDP compared with a baseline. It is not the increase that is already in the baseline, because that has already been factored in.

Mr CIOBO—I note that Paul Bloxham—who, as you know, spent the last 12 years of his working life inside the RBA’s economic analysis group and a few months ago left to take the chief economist position at HSBC—wrote this week in the Financial Review: “… by choosing not to tighten fiscal policy sooner, the government has implicitly chosen higher interest rates than might otherwise have been the case.”

Mr Stevens—It would have been lower had the stimulus measures not occurred. We would have had to lower the cash rate further. I think that has to be true. I think it is a different thing to say, though, that that would necessarily be a better mix of policies. One could debate that, I think, because there was scope to do discretionary fiscal stimulus. The whole point of having budget surpluses, really, over a run of years is that when a rainy day comes you can do something if you feel you should. We had that scope. Many countries do not, but we did. It has to be true that, if that had not occurred, interest rates, I think, would have fallen further, and then of course eventually they would have had further to come back up to normal in due course than they did have. Would that have been a better world? That is a very interesting question that we can debate if you want to, because there are plenty of things that can get you into trouble with really low rates, particularly if they persist for a while. I think your analysis is correct. The interesting question is whether a world of no fiscal easing and more monetary easing would actually have been the ideal mix. It is an interesting question.


Mr Stevens—…As to the regulatory changes, it is an important question to what extent these changes may have flexibility. It is very hard for me to tell. Many people that we encounter from a business background are quite concerned.

Mr Stevens—People I have spoken to are concerned that it will be harder to get productivity gains and harder to contain costs in the future and that the flexibility of the system is not as great as it was. Whether those concerns are fair and valid, whether they turn out to be validated by experience, time will tell. I cannot know yet. I can only record that many people from a business background that I have heard talk about these things do have these concerns. It will be important that the new system is administered and implemented in a careful and flexible way.


Mr Stevens—On ‘moral hazard’, there is a moral hazard everywhere in the world because governments and central banks did extraordinary things. Some of the things we did were unprecedented for us but by the standards of what some other countries did were pretty mild. So there is a huge moral hazard because governments and central banks did these things. They had to be done, because the system faced a catastrophe in the absence of these measures. But them having been done, and even though we are withdrawing them, the issue we will face—and this is what you were getting at, I guess—next time there is some pressure is whether there will be another guarantee. My very firm view is that we ought to try to get to a position where at that time, whenever that day comes—hopefully not soon—our government will be in a position to say, ‘No, we are not going to give a guarantee and the system can cope with that.’ I think we are much closer to being able to say that than most countries, but we still have some work to do to get a permanent set of arrangements, particularly for deposits, which can stand the test of time. That is on our agenda at the moment and for the early part of next year. I expect that at future meetings we will probably come back to that. It is a very important question.

This is why, to hark back to the questions Ms Owens asked about the global regulatory work that is being done, people are very conscious of this, very conscious of the need to try to lessen the moral hazards surrounding some of these very big global banks by making them safer, less likely to fail and easier to resolve if they do fail and so on. It is very much, though, still a work in progress. That is the best I can tell you at this point.


Ms O’DWYER—Governor, would you consider that these guarantees are contingent liabilities—that they increase the risk profile of the Commonwealth prior to its position pre the crisis?

Mr Stevens—We are getting into areas where it is very difficult to talk about this publicly, so I will be a little bit guarded. But, from a strictly accounting point of view, they have taken on a contingent liability that they did not have before. What is the probability that you would actually have to make good on the entire deposit base of the banking system? It is extremely low. So, if you were trying to measure this obligation, it would be the size of that times some probability of having to make good on that, and that is very low number. I think you would also, to be honest, have to in the back of your mind pose the question: in the previous world, without this guarantee, would a government stand by to let the system collapse and do nothing? I cannot think that they would. There was always some unspoken, unquantified support. But it is a very interesting question: should that be made explicit and priced or shouldn’t it? That is one of the issues that I think would probably have to have a discussion about, but today is probably not quite the moment.


Ms O’DWYER—That leads pretty nicely into my next question, which is: can you tell us whether there is a risk in the fact that Australia has four ‘too big to fail’ banks that effectively benefit from implicit taxpayer guarantees.

Mr Stevens—We have four large institutions, but the number in a crisis is not necessarily limited to four because in crisis conditions, if people are panicked enough, even a smaller entity can end up being quite disruptive if it is in distress. The other side of that, of course, is that those institutions are supervised very intensively by the supervisor, who is quite prepared on occasion—and has done so—to require banks to do this or that additional thing over the minimum, if they think that is appropriate from an individual risk or even a systemic risk point of view. But this is the nature of banks. It is a tricky area because banking just is not like any other business. A bank failure, even for a not-so-big bank, is not like the failure of any other business, where someone else comes in, buys the assets, employs the people and everything keeps going. It is not that simple in banking, which is why we have regulation that is much more intrusive on a bank than it is on your average industrial company. It is for that reason. It is why there is this very difficult, delicate balance with the problem of moral hazard. To make moral hazard go away entirely is probably impossible. It is a tricky area.


Ms O’DWYER—I want to refer to the new statement on the conduct of monetary policy that was signed in September 2010. As I understand it, the RBA added the following new text, which has not appeared in previous statements since the first one was signed by the former Treasurer. That statement is: “The Reserve Bank’s mandate to uphold financial stability does not equate to a guarantee of solvency for financial institutions, and the Bank does not see its balance sheet as being available to support insolvent institutions.”

As you of course know, the RBA has a responsibility to serve as a lender of last resort to deposit-taking institutions that are adversely affected by these liquidity shocks, as it did during the global financial crisis. If a bank can no longer fund itself because of an external shock and the RBA is the only counterpart in the world willing to lend to it, how can this not represent the RBA using its balance sheet to support insolvent institutions?

Mr Stevens—The distinction, though, is between illiquid and insolvent, so, in the classic central banking setting, if an institution is illiquid but it does have assets it can pledge as collateral the central bank, on the assumption that it has some reasonable look at the quality of those assets, can lend against them at an appropriate rate of interest. This is Bagehot’s classic— in a liquidity crunch, lend freely at a high rate to sound banks. We would do that. Nothing in this statement on the conduct of monetary policy changes that fact. The Reserve Bank will always play the role of provider of liquidity against collateral at an appropriate interest rate. The statement about not seeing the balance sheet as being available to support an insolvent institution is making a different point. It is saying that we do not regard it as proper, and no central bank would, for a bank which is actually insolvent to be bailed out by the taxpayer through us. If it is going to be bailed out by the taxpayer, the government should make that decision and should fund it itself. We would probably have some role in facilitating that in the event it occurred, but the government would have the credit risk, not the central bank. I think that would be, in central banking circles around the world, the way all central banks would think about it. So our role is in liquidity and we will always be prepared to do the right thing there by the system and by participants in the system in a crisis, and we have done that and we basically doubled our balance sheet in 2008-09, for a brief period, for that very purpose. As to the financial rescue of an institution which is not solvent, there may or may not be a public policy case to do that but that is a government call. We would obviously give them our views if they asked, but that would be their call, I think quite properly.

From David Llewellyn-Smith:

Having read the hansard what is obvious is just how much the RBA is rebuilding itself from the ruins of the crashed debt pilots of yesteryear.

Let's take a look.

Gone is the Pitchford Thesis and the free and easy love of private sector debt: Glenn Stevens
Private debt, on the otherhand, is considerably higher than in some countries. It is probably in the pack for English-speaking countries with which we would compare ourselves, but some of those have had a prettybad time lately, so we would not necessarily want to stand out too much more on that score. Thatis why I think that the more modest growth of housing credit that we see now is probablysufficient for the economy’s needs, but we do not want to see that ratio of debt to income keepgoing up the way it was. So that is a thing to watch.

Gone is faith in asset-based wealth: Glenn Stevens
We have looked at households in other countries getting into serious trouble. I think we have all thought, ‘We ought to be a bit carefulabout rate of borrowing and maybe we should be saving more of our current income as opposedto allowing an assumed rise in asset values to, in effect, do our saving for us.’ I think that is atendency that was there a few years back in many countries. My guess is that there has been akind of sea change in people’s attitudes that we would expect to persist for a while.

Gone is faith in private bank prudence: Glenn Stevens
Pretty much every supervisor in the world is telling their banks to rely less onwholesale funding because it is risky. The rating agencies say it. My suspicion would be that, if the financial institutions could have got away with continuing the old pattern, they would have because they found it attractive and profitable, but they did not have that choice. They certainly took decisions to try to raise more deposit funding but it was a decision on which I am not sure they had a great deal of choice in taking.

Gone is the efficient market hypothesis: Glenn Stevens
In many areas it is probably the case thatmore competition is always better for consumers, but in banking more competition is good to apoint but beyond a point more competition is not good, because the bankers can be led to dothings that ultimately cause a lot of subsequent damage. I think we have to understand that. Thatis not to say that the current amount of competition we see in any particular market is necessarilyenough, but there is a point beyond which extreme competition in lending money leads to problems.

There is inquiry about how to manage guarantees: Glenn Stevens
I think you would also, to be honest, have to in the back of your mind pose the question: in the previous world, without this guarantee, would a government stand by to let the system collapse and do nothing? I cannot think that they would. There was always some unspoken, unquantified support. But it is a very interesting question: should that be made explicit and priced or shouldn’t it? That is one of the issues that I think would probably have to have a discussion about, but today is probably not quite the moment.

There is realism about the banks and moral hazard: Glenn Stevens
My very firm view is that we ought to try to get to a position where at that time, whenever that day comes—hopefully not soon—our government will be in a position to say, ‘No, we are not going to give a guarantee and the system can cope with that.’ I think we are much closer to being ableto say that than most countries, but we still have some work to do to get a permanent set of arrangements, particularly for deposits, which can stand the test of time.

Gone is the comfort with wholesale funding: Glenn Stevens
They [the banks] have sought to do that to increase the share of their book funded fromdomestic deposits and to lessen the share funded through wholesale sources. It is pretty obviouswhy that happens and I think it is prudent of them to do it. What we have seen in the past severalyears is that those wholesale funding sources, which for some years up to the middle of 2007 were very available, very inexpensive and, apparently, quite reliable and quite stable, changeddramatically after the problems began in 2007 and especially after the Lehman failure in September 2008.

Gone is the reticence to 'lean against the wind early in the cycle': Glenn Stevens
I cannot think of very many cases in history where we looked back and thought, ‘Yep, we tightened too soon.’ I can think of several times where we looked back and thought we should have tightened a bit earlier. I think that if we are doing it right the decisions will be finely balanced most of the time—that is where we should be—and we will probably move a little bit earlier than the moment when it is clear that you have to. That is if we are doing it well. There is some risk that you do things you do not need to do—I agree with that. We have to balance that risk, obviously, against the risk of getting behind the game. Historically, for many central banks, including us, that has tended to be the mistake that we made.

Gone is an easy comfort with trend line growth: Glenn Stevens
So we will see, I think, continued uncertainty about how all this will play out. My guess, as Isay, is that we will see repeat episodes of anxiety every so often for a few years. What thatmeans is that, for us, we balance the possibility that things could go pear-shaped in Europe—they may or may not; we will not know for sure for quite some time.

There is some skepticism about commodities and vision beyond: Phil Lowe
If you look forward, we cannot expect the terms of trade to keep rising and we will inevitably go back to a period where growth in our living standards is going to be determined by productivity growth, or, to put it another way, expansion of the supply side. We are not the experts on how to do that. There are obviously areas, in transport, in education, in health, where things can be done to improve the ability of the economy to produce goods and services efficiently. It is not our core area of competency but it isan area that needs to be looked at very carefully.

Compared with the profligacy of former governors, this is impressive stuff.

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Reserve to earth - First a cost-benefit analysis, then an NBN

Reserve Bank Governor Glenn Stevens has risked the wrath of the government by calling for a "proper cost-benefit analysis" of the case for the national broadband network.

His intervention came as the Senate passed laws separating Telstra's retail and wholesale arms, allowing it to enter into a commercial agreement with NBN Co to take part in the multi billion dollar project.

While acknowledging the NBN was outside his "core area of expertise," Governor Stevens told a parliamentary hearing that "as a general proposition" there were some projects the private sector would not fund that still ought to be done.

"Whether this is one of them would be another question," he said. "But there ought to be, of course, a proper cost-benefit analysis of that case in those instances"...

Coalition communications spokesman Malcolm Turnbull seized on the statement saying the Governor would have to "brace himself for a verbal tirade from Julia Gillard."

"No doubt the Prime Minister will accuse the distinguished central banker of being a wrecker, a Luddite and determined to hold back the march of history, technology and human progress," he said.

"Not for the first time the Governor has cut through the political rhetoric and put his finger right on the core economic issue. Nobody disputes the merits of universal affordable broadband. The big question, the $50 billion question, is how you do it – or in Stevens’ words, how much you pay to do it and how efficiently it’s done."

Communications Minister Stephen Conroy said he wasn't in dispute with the Governor.

"We agree with him that there should be scrutiny," he said.

The government had already undertaken a number of comprehensive analyses of the project and would release the NBN business plan next month.

Published in today's Age

Highlights from Chris Joye:


Ms O’DWYER—The RBA has repeatedly communicated its concern that the Australian economy is operating near full capacity, and given expected above-trend growth over the next one to two years faces the spectre of inflation pressures. In March of this year Assistant Governor Dr Philip Lowe gave a speech in which he argued that, for Australia, the main task is to expand the supply side of the economy so that demand can grow solidly without causing inflation to rise. Can you shed some light on the key supply side deficiencies that the RBA has identified and is concerned about?

Ms O’DWYER—If the private sector is not willing to fund some projects that would be related to this and 100 per cent of the equity risk is to be borne by the Australian taxpayer, can you explain what economists mean when they talk about the opportunity cost of capital?

Mr Stevens—The opportunity cost of capital would be, ‘I use it in area A; I can’t use it in area B,’ assuming that the quantity of capital available is finite. You have to be a little careful there, because there is a global supply of capital that is very big and the real question is how well we use it. This is really making very general points, but we are probably going to need more investment in electricity, are we not, over the years ahead, and water? Some of that is being done. There is a fair bit of urban infrastructure that would be desirable, as anybody who lives in any of our major east coast cities—or west coast, for that matter—would think. All of that has to be done, but we have to try to do that at the same time as we build more houses and build more mines. So it is going to be a tall order, I think, to fit all this in without overheating things, if you think about it that way. That is part of the reason that I suspect a little more caution on consumption—which I think we do see amongst households, anyway, at the moment—is probably no bad thing if we are going to fit all these other things in as well.


Ms O’DWYER—This is my final question, because I realise I am running out of time. I noticed you did not actually mention $27 billion of taxpayer capital and another $10 billion of taxpayer debt issuance on the National Broadband Network. So I suppose my question is: is there a risk if the government ends up allocating vast amounts of taxpayer capital to projects that the private sector has rejected which do not work materially to improve the supply side of the Australian economy? What hurdles should these projects face to satisfy us that they warrant the commitment of taxpayer dollars?

Mr Stevens—I do not want to get into the NBN in any detail. It is an area that, to use Phil’s words, is outside our core area of expertise. As a general proposition, there probably are some projects that the private sector will not fund that still ought to be done. Whether this is one of them would be another question. But I think you can imagine some projects that the private sector just does not feel it can take the risk on but on which the public sector—which, after all, has a stronger balance sheet than anyone else—might on some occasions be able to accept that risk. But there ought to be, of course, a proper cost-benefit analysis of that case in those instances. It is not unreasonable to expect that more interconnectivity around the country can be a benefit to productivity—that is a reasonable claim, it seems to me—but, as I have said on one or two other occasions, much hinges on how much you pay to do it and how efficiently it is done. But that is not for me to adjudicate on in that particular case. Much as I am sure you would like me to, I don’t think I can.

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Friday, November 26, 2010

GDP could go backwards?

Statistically. Incredibly.

Noone is talking recession. But financial market economists are now seriously considering the next worst thing - an end to Australia's extraordinarily run of economic growth next Wednesday with a negative outcome for GDP.

The September quarter figure will be weighed down by a surprise hit to exports, extremely weak residential construction, a dent in public construction as government stimulus programs wind down, and new figures released yesterday showing a slide in private investment in equipment and machinery.

"The picture isn't pretty," ANZ economist Katie Dean told the Herald. "Our new estimates suggest GDP growth was broadly flat in the September quarter. If we don't see some good gains in profits and inventories in the data due Monday, we will become concerned about the possibility of a negative GDP on Wednesday."

Just weeks ago economists were predicting economic growth of around 0.9 per cent for the quarter, not too far below the 1.2 per cent recorded in the June quarter, but a bunching of bad data has seen most wind it back.

Westpac yesterday halved its forecast from 0.6 to 0.3 per cent... "Housing activity fell, business investment was probably flat, public investment most likely fell and net exports will probably detract from growth," said Westpac economist Andrew Hanlan. "That just leaves consumer spending, public spending and changes to inventories to drive growth. And a lift in farm production."

Constructing the GDP is a bit like a jigsaw puzzle, and the final picture is negative more often than is remembered. GDP slipped for one quarter in December 2000 and June 1986 - both times in which Australia was far from recession.

At fault this time will be a regularly-scheduled shutdown of Chinese steel mills which wiped three quarters off Australian exports of coking coal to China in one month and the withrawal of the stimulus which the Treasury itself expects to wipe 1 percentage point from GDP over the year.

Construction figures released Wednesday were exceptionally weak with residential work down 6.1 per cent. Yesterday's figures showed a 6.2 per cent increase in capital spending by business, but the figure for equipment, plant and machinery which feed directly for GDP fell 1.1 per cent. The future looks good with expectations pointing to a 23 per cent surge in investment this financial year led by a 60 per cent surge in mining investment. But the expectations won't make it into the GDP.

"Wednesday's figure will historical, hit by one-offs unlikely to be repeated" said Ms Dean.

"It won't mean the Reserve Bank was wrong to raise rates. It looks forward, and the outlook is strong."

Published in today's SMH and Age

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Thursday, November 25, 2010

It gets better. Pixar's gift to humanity:

You'll find it here on Pixar's website.

As Mark Colvin tweets, "I hope every worried gay teenager in Australia sees this".

Life Matters had an empowering talkback on this Friday. For the moment the audio is available here.

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Wednesday, November 24, 2010

The NBN Business Case

It's out:

NBN Co Business Case Summary

Office of The Hon. Malcolm Turnbull MP

Shadow Minister for Communications and Broadband

In her efforts to win over Senator Nick Xenophon, Julia Gillard has arranged for the NBN Co to release today a 36 page summary of its 400 page business plan – that’s the one she hasn’t had time to read.

It is a curiously inadequate document. It does not include any financial statements at all – no profit and loss statement, no cashflow statements, no balance sheets. There are a few numbers. We are told that as a result of paying $13.8 billion to Telstra in decommissioning and infrastructure payments (p.29), the estimated capex to build the NBN will be reduced from $37.4 billion to $35.7 billion (p.28)

And yet the Telstra deal is stated to be a real positive for the NBN – presumably it results in much lower net operating losses the savings of which justify the $13.8 billion spent. But how can we know without seeing the financial details?

The summary acknowledges (p.32) that the project is a very risky one now requiring a weighted average cost of capital of 25% until the concept is proved over the next three or four years reducing, if all goes according to plan, to an average of 10-11 percent over the 30 year period modelled.

While the plan asserts that the NBN will be able to carry debt, it is not clear when and how much debt can be raised, at what cost or whether it will require a Commonwealth guarantee – again a crucial issue unable to be assessed from this inadequate document.

The Implementation Study said that Internet access prices would increase each year in real terms. This document says that the NBN anticipates being able to reduce real prices for all products except the basic service offering of 12 mbps down and 1 mbps up. Since that is the product which experience suggests the majority of households will take up, it seems the NBN is not going to offer cheaper Internet at all and, at least on the basis of this document, has left itself room to increase the cost of the basic service.

However, beyond a few scraps of information and other warm words this is a thoroughly inadequate document. It is a sop thrown to the independent Senators in the hope that they will give the Government their vote. Real accountability, real transparency requires a thorough and complete business case, not 36 pages of reassurance devoid of financial detail.

There has never been a business plan which did not paint a rosy picture of the prospects of a new business venture and no doubt the NBN business plan, if we ever see it, will be no exception.

But the fundamental, threshold issue which the business plan does not and cannot address is whether the NBN is the most cost-effective means of realising the objective of universal and affordable broadband. That is why a Productivity Commission inquiry is so vital. Its main task would be to ask the question the Government has ignored: What is the most cost-effective means of achieving universal and affordable broadband? The NBN is, so it is claimed, one way of getting there. But there will be others and surely none could be more expensive than this plan.

Nobody has trumpeted the need for rigorous cost benefit analyses of major infrastructure projects more than the Rudd and Gillard Governments but on this, the biggest project in our history, they are determined to avoid any scrutiny for fear that the answer they will get will be that this is yet another ill considered, wasteful white elephant.


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Wednesday column: The Governor won't back the banks

Reserve Bank governor Glenn Stevens might even enjoy his appearance before the parliament's economics committee this week.

For once it won't be about him.

Usually he is asked never-ending variants of questions designed to establish whether he plans to move the cash rate.

On Friday he will be asked instead about other banks' business.

Have their costs been rising, as they say they have? And have they been rising fast enough to force them to lift their rates above the cash rate as Wayne Swan and Joe Hockey say they have not?

The banks seem to think Stevens is on their side, gleefully quoting (part of) what he and his board have had to say whenever it suits their case.

Others who have looked more carefully at all of what he has had to say believe he is closer to Swan and Hockey than to the big four.

Friday will give him an opportunity to explain what he knows at length. His staff probably know more about the finances of the big four banks than anyone else, including each of the big four themselves.

Here's what I think he will say...

In aggregate, the big banks' funding costs have been little changed for six months. That six month time period is important because it means their costs have moved little since they last put up rates in May. It gives them no cover for an extra rate hike on the ground that costs have been increasing.

"Little changed" were the exact words used in the Bank's most recent quarterly statement released just two weeks ago. They remain its most current all-encompassing assessment.

But they sweep up a number of (partly offsetting) changes.

Banks can be thought of as getting their funding from three quite different sources.

Long-term borrowing is getting more expensive. As existing long-term loans expire the banks have to replace them with newer more expensive ones, pushing up long-term borrowing costs. The Bankers Association seized on this observation in the latest Reserve Bank board minutes, incorrectly saying the Bank had confirmed "the cost of banks' funding has increased beyond the official cash rate". It had not, because long-term borrowing was only part of the story.

Banks also borrow short-term. Right now they are lucky. Short-term borrowing costs have been sliding in the past six months, after earlier soaring during the crisis. They have now almost slid back to pre-crisis levels.

And banks borrow from depositors. After climbing relative to the cash rate during the crisis, deposit rates stablised early this year and have moved sideways since.

Completing the picture has been a move away from one funding source to two others. Banks are relying less on short-term borrowing and more on long-term borrowing and deposits.

The net effect? That's where we began. Taking everything into account the Bank believes the costs facing the big four are "little changed" after six months.

"Little changed" provides little justification for the extra hikes the banks imposed in November. Governor Stevens will probably say so - if asked - on Friday, much to the discomfort of the big four and their cheerleaders.

But he will be able to offer them something.

The Bank believes the costs facing the big four are set to gradually rise from here on. It isn't certain, because something unexpected could happen, but with the costs of both deposits and short-term borrowing looking to have stabilised, the only trend set to continue is the creeping increase in the cost of long-term borrowing as old loans expire and are replaced by new ones.

It is an argument about the future, a qualified forecast about future cost increases. And it would have scarcely any effect on what the banks charged right now if the market was competitive.

The big four know it is not. Had the other three not followed the Commonwealth in imposing their own outsized rate increases this month, it probably wouldn't have lost too many customers to them. Westpac claims not to have lost many when it did it and wasn't followed by the NAB in December.

That's because despite all that Swan has promised it is still difficult to switch banks. He says he'll get it right in his second attempt next month. We'll see.

And Westpac and now the Commonwealth know the other big banks are likely to follow them in any event.

There are certainly fewer to keep track of. During the financial crisis St George fell to Westpac and BankWest to the Commonwealth.

Curiously from about the moment those takeovers got approved the margins charged by the big four turned fat. It is apparent in the Reserve Bank's chart. Before the takeovers customers paid them a net interest margin of 2.2 per cent. After, it climbed to 2.5 per cent - the worst deal since 2004.

It's been a good crisis for the banks. Last month in an appearance before a different parliamentary committee Treasury official Jim Murphy asked rhetorically, "If there are increased costs, should they be absorbing
them at this time? Everyone else had to face the global financial crisis."

Murphy is working on Swan's package.

Published in today's Age

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Take the Son of Wallis Challenge

It's time.

Details at www.sonofwallis.com.au

Check it out.

Even more urgently, the Senate inquiry into competition within the Australian banking sector needs submissions next week! By Tuesday November 30.

Submit the same piece to both and you're in the running for $1000!

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Tuesday, November 23, 2010

Hurt by the dollar? Don't expect support. Henry.

Treasury boss Ken Henry has painted the bleakest of futures for firms hurt by the sky-high Australian dollar.

He says it will remain high for years. And the best thing to do for the firms that will suffer is nothing.

In what may be his last appearance before a parliamentary committee Dr Henry told Senators examining the mining tax yesterday Australia should "avoid the temptation to offer support" to business whose future the high dollar will ruin.

Instead decision makers should support the transition of workers away from those business "to other businesses which do have a long term future with the sorts of terms of trade we are confronting".

Underlying his message is a belief that the mining boom will last for years and transform the economy...

"It is likely we will see an Australian economy characterised by unprecedentedly strong rates of growth in some sectors of the economy, particularly in mining, in mining investment, in mining-related construction; and other sectors of the economy growing somewhat slower than their historical rates as labour and also capital move away from the slower-growing sectors to the faster-growing ones," he said.

Assistance to industries "finding the going tough" could mean "even higher interest rates and an even higher exchange rate," endangering other industries struggling but surviving.

Few people appreciated the scale of the shock to the economy from the mining boom and soaring buying power as measured in the terms of trade.

"It started in 2003 and 2004 and maybe because it started then, people don't see it as a shock. But the increase in our terms of trade is of the order we experienced in in the wool boom of 1951. Everybody who was alive then remembers it. This has taken more years to build up but we are now at the terms of trade we had then."

"Everybody in Australia alive in the 1970s recalls 17.5 per cent inflation. We got that from a terms of trade boom one quarter to one third as big as this one."

Unless the proceeds of the mining boom were shared across state borders through taxation there was a risk the Federation would break up.

"That is partly a political judgement, but it is also an economic judgment and I think there is evidence in the Eurozone right now of the difficulties of managing a common currency without a comprehensive system of horizontal fiscal equalisation."

"You wouldn't want to see those sorts of tensions play out in the Australian federation. It's a point about national economic performance in a vast land area that happens to share the same currency."

Dr Henry's term as Treasury Secretary expires in April. If is not known whether he has sought reappointment.

Published in today's SMH and Age

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Monday, November 22, 2010

It's time. For a new financial system inquiry. Here are the Terms of Reference:

From Joe. Where's Labor?

Terms of Reference for an Inquiry into the Australian Financial System 2010/11


Since the Financial System Inquiry of 1997 (“Wallis Inquiry”), the collapse of HIH Insurance and the onset of the global financial crisis in 2007, there have been very significant changes in the Australian financial services industry. These include changes in the nature of prudential regulation, the structure of the industry and the basis of product competition.

In particular, since the Global Financial Crisis, the creation of the notion that many financial institutions are now “too big to fail” has created a policy dilemma for regulators and legislators.

Given that without the financial system shocks of the last few years governments in Australia have willingly commissioned external reviews of the financial services system, now is the time to engage with industry in a general review of financial services to prepare us, so far as is possible, for the many challenges that may lie ahead...

Terms of Reference

The Inquiry will inquire into and report on:

1. An analysis of the developments since the implementation of the Wallis Inquiry recommendations and lessons to be learnt from the implementation of those recommendations with specific reference to, but not limited to;

a. The establishment of a stand-alone, integrated prudential regulator, the Australian Prudential Regulation Authority, and its working relationship with the Reserve Bank of Australia, the Australian Securities and Investments Commission and prudential regulators in other jurisdictions;

b. Further policy changes made in the wake of the collapse of HIH Insurance;

c. The aggregation of financial services providers into financial conglomerates resulting in the emergence of large and diverse financial institutions;

d. The role and impact of new technologies; and

e. The appropriateness of government pledging its balance sheet or providing other support to particular entities.

2. The impact on the Australian financial services industry of the Global Financial Crisis including consideration of, but not limited to:

a. An explanation of how United States sub-prime contagion was able to be quickly transmitted to Australian financial markets and severely impede the capital flows on which Australian institutions rely;

b. The consequences for prudential supervision, confidence, stability and competition of government intervention in guaranteeing financial entities and specific products, and the associated creation of a new risk profile (“moral hazard”) for public sector engagement in financial services;

c. The reduction in the number of product providers including an analysis of the impact of entity mergers and changes in the level of business activity of international banks in Australia;

d. The implications for current and future funding of the domestic economy;

e. Changes in global competition that occurred as a result of the crisis;

f. The impact on non-bank lenders and hybrid domestic financial entities such as Cash Management Trusts and Mortgage Trusts;

g. The reduction in liquidity and scale of investment markets such as the corporate bond market, Real Estate Investment Trusts and the RMBS and CMBS markets;

h. Wholesale funding challenges for entities and the need for alternative funding products such as covered bonds or other forms of asset-backed instruments;

i. The impact of new Basel III capital and liquidity rules on stability and competitiveness in the Australian financial services sector; and

j. Any unilateral actions by other jurisdictions that may limit or restrict the Australian financial services sector and how these decisions should be managed into the future.

3. Factors likely to affect the evolution of further stability and competition in financial services, including, but not limited to:

a. Economic growth, demand for credit, domestic savings and investment, technology and industry structure;

b. Efficiency of the domestic financial services system relative to international peers having regard to regulatory, structural and cyclical differences;

c. The emergence of the $1.5 trillion superannuation system and the relationship with the broader banking system including the structural shift of savings from the core banking system into superannuation; and

d. Emerging challenges for cost of capital and required rates of return to ensure both availability of capital when needed and funding of growth in the domestic economy.

4. Consider and recommend policy measures which can facilitate stability and further competition including, but not limited to:

a. Initiatives that reduce the complexity and duplicity of regulation whilst maintaining certainty and predictability in the delivery of financial services for consumers and small business;

b. Facilitation by government of industry wide rather than specific entity competitiveness;

c. Better use of existing government infrastructure such as Australia Post and Medicare Offices, for distribution of financial products to facilitate improved competition, but without government assuming balance sheet risk by competing directly with the private sector; and

d. An improved regular and independent reporting framework that provides comprehensive information on the risks and returns generated by the banking system; and

e. The specific ranges of risk and return that could be reasonably expected to be produced by institutions operating within the unique regulatory sphere of the modern banking system.


The Inquiry will call for and consider submissions from any person or institution and may hold public hearings as it sees fit.


The Inquiry will report back to the Parliament by 1 November 2011.

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Swan to swing at banks. Or so he would have us believe

16 per cent return on equity and too big to fail. Bloody hell!

Treasurer Wayne Swan has raised expectations of an assault on the power of the big four banks in next month's banking statement saying he is "determined to see a new pillar in the system" to take on Westpac, National Australia, the Commonwealth and ANZ.

The so-called fifth pillar would be built around credit unions, building societies and wealth management firms such as AMP and AXA which are currently in takeover negotiations.

Asked on the Nine network whether he would approve the AMP bid for Axa Asia Pacific in order to help create the fifth pillar he said he would not speculate but had made it abundantly clear he would "welcome additional investment in the banking system to provide more competition for the big four".

Each incurred the wrath of the Treasurer by lifting its mortgage rate by between 37 and 45 points in the wake of the Reserve Bank's Melbourne Cup day move of 25 points.

"There are better deals down the street," Mr Swan said yesterday. "If you go to a credit union you may be able to get up to 100 points better in terms of your mortgage. The big banks behave in an arrogant way because they feel confident their customers won't walk."

The Treasurer spoke as the Whitlam Institute released a study finding the big banks "overcharge their home loan customers"... avoid pressure to reduce costs, and funnel the excessive profits to their senior executives.

Prepared by former Labor staffer Nicholas Gruen of Lateral Economics the study claims home loans have become "commoditised" and simple to provide.

"Normally when a product becomes commoditised, its price falls to eliminate the margin, but the mortgage margin is stuck where it was in 2004, at around 2 percentage points," he the Herald.

Dr Gruen wants the government to lend its AAA credit rating to mortgages with a safe loan to valuation ratio, enabling non-bank lenders to get access to funds for mortgages on the same terms as the big four.

In Canada where there is such a system the insurance costs as little as 0.5 per cent of the loan.

Treasurer Swan confirmed his package would make it easier to switch lenders saying it would give "customers the capacity to walk down the street and get a better deal".

In a submission to the Senate banking inquiry Melbourne University finance professor Kevin Davis has proposed allowing borrowers to switch without the discharge of the mortgage and without a new property valuation. Lenders would no longer have "absolute discretion" to change the interest rate" but would have to vary it by "reference to objective information".

Published in today's SMH

Commoditising Banking Nov 2010

Commodising Banking Executive Summary

Kevin Lewis Senate Banking Submission

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