Why Chris Uhlmann is the best political interviewer on Australian radio

From Monday's AM

"Are you saying that you haven't considered or war-gamed the possibility of a lack of cash for Australian business institutions, have you not at least thought about that?"

Full transcript follows:

UHLMANN: Prime Minister Good Morning.

PM: Good Morning Chris.

UHLMANN: There's an international credit strike, what's wrong with canvassing the idea of how you might relieve some of that pressure in Australia?

PM: Well firstly the Reserve Bank throughout the course of the last 12 months has been monitoring liquidity requirements of the Australian domestic economy and acting appropriately, that's the first point.

The second is to recognise clearly the difference between Australia's domestic financial circumstances and those in the United States.

Let me just make two very clear points, first of all in the United States, the underlying problem goes back to subprime mortgages which represent some 15 per cent of the US mortgage market, in Australia that figure is less than one per cent.

Secondly, arrears on mortgage repayments in Australia, remain at about 0.55 per cent, in the United States it's something more than six times that.

The circumstances in the two markets are different and therefore we believe it's very important that we maintain a clear understanding in our public language about those differences. And I think it's therefore very important that all responsible public commentary on this reinforces those differences rather than tries to say that we have exactly the same sort of circumstances as the Americans.

UHLMANN: Well Prime Minister, you know that Australian institutions, not just banks, borrow extensively overseas to fund their operations, can the Australian financial system and its business system survive a long run credit strike, isn't that what this is about?

PM: On the question of the availability of liquidity and credit in global markets, that's what the Australian regulators have been monitoring closely in the 12 months plus that this crisis has been unfolding.

And the Reserve Bank has been acting appropriately in response to that, and of course, we will continue to take our advice from the regulators about the liquidity needs of the economy.

But I keep going back to this point, the United States yesterday, or over the weekend announced this extraordinary $700-billion bailout of bad debt in the United States, and for people now to be providing commentary in Australia that we should do the same, if I have read these comments correctly over the weekend from some, is frankly not responsible.

UHLMANN: Isn’t it responsible though Prime Minister to start considering options? Shouldn't you be thinking in fact as to whether or not our institutions can survive the fact that credit may be extremely scarce now business institutions run on that credit? Haven't you been thinking about that yourself?

PM: But the point I'm making to you Chris, is that, since the Government has been in this last nine months, our regular engagement with the Reserve Bank and others go to the daily, weekly, monthly question of the credit and liquidity requirements of the Australian Financial System and the Reserve Bank has been acting appropriately.

We will continue to maintain our advice from the financial regulators in Australia and act appropriately.

But what I'm saying is that there is a mountain of difference between the need in the United States for a $700-billion bailout of bad debt on the one hand, against the systems which prevail within Australia, which have quite different levels of exposure to subprime, different levels of arrears when it comes to the repayment of mortgages and a different state of the balance sheets of financial institutions.

We will remain vigilant on this as we have been over the nine months that we've been in office.

UHLMANN: There is a huge difference about whether or not we're exposed to those sorts of debts Prime Minister, but isn't the contagion that spreads out from the United States a loss of confidence in the financial system and the fact that the financial system might seize up if there's not enough cash in the system?

Are you saying that you haven't considered or war-gamed the possibility of a lack of cash for Australian business institutions, have you not at least thought about that?

PM: Chris, that's completely implicit in my answers to your previous questions.

UHLMANN: Well that's what Malcolm Turnbull's thinking about, albeit aloud.

PM: What I'm saying is that the circumstances between the two economies are vastly different, secondly on liquidity requirements, the Australian economy, as you would expect the Treasurer and myself have been working through those liquidity needs, with the Reserve Bank and others during the course of this year.

Not in the last week, not in the last two weeks, but all year, and calibrating our response accordingly and that's what we will continue to do.

There is however a vast difference in the circumstances and in terms of international response, one of the other measures which the regulator ASIC (Australian Securities and Investment Commission) announced on Friday, and took further over the course of the weekend, was in relation to the need to bring in appropriate arrangements on short selling for the Australian stock market.

We have done that, we have acted nationally, that's a responsible course of action, it's important to be measured and considered in our response to developments as they occur and that is what the Government is doing.

UHLMANN: Prime Minister do you have full confidence in the Foreign Minister Stephen Smith?

PM: I have absolute confidence in the Foreign Minister.

UHLMANN: Why can't he carry Australia's case to the United Nations this week and do whatever talking needs to be done on Australia's behalf in New York?

PM: When I go to New York for the next three days of this week, there will be some 100 plus heads of government in New York at the United Nations General Assembly, and there will be one topic of conversation and debate and discussion among heads of government and it is this, the most effective global response to the global financial crisis. That is a meeting at heads of government level.

The second point is this: I will also be engaging with the US financial regulators, including the chairman of the New York Federal Reserve, the chairman of the New York Federal Reserve is one of three critical players in the United States on future actions on the US domestic financial market.

These are important meetings, together with meetings with other representatives of the financial community.

Chris, you can either respond to the populist political attack being mounted by populist political opposition, not to go to a meeting of a hundred world leaders at a time of a global financial crisis, or you can act in the national interest and do that. I intend to act in the nation interest.

UHLMANN: Prime Minister, though aren't those two reasons you gave post-facto reasons for this trip, in fact the initial reason you we're going was to address the UN General Assembly and to lobby for Australia's position on the Security Council in 2012. Is that really necessary now?

PM: The absolute requirement in the midst of a global financial crisis is to deal with how the world responds to the range of proposals which have already been put forward by the International Monetary Fund, by the Financial Stability Forum and on top of that, by the G20.

The key thing is to muster political support to respond globally. The head of the IMF said recently, the solutions are out there in terms of response to global financial market instability, what is lacking is the political will to do that. Our challenge is to muster that will.

Of course there are other matters on the international agenda as well, including a global response to climate change, but when you have an opportunity, as the leaders of the world gather in New York for just three days to engage on what is the greatest financial crises that we have seen for a long, long time, and to muster the political will to respond coherently to it, it's important that in the national interest, Australia is there rather than simply hoping that someone else sorts it out on our behalf.

UHLMANN: Prime Minister Thank you.

PM: Thanks very much.

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How bad? So bad that even McDonald's can't borrow

From Adam Carr's morning note at ICAP Securities:

"Nothing lasts forever and that euphoric reaction to the Paulson plan ended with a thud last night. Legitimate concerns are being raised as to how assets will be priced in these reverse auctions, and more importantly whether it will be enough to stop the blood shed.

This is a 10 trillion dollar + market we’re talking about…$700bn sounds like a big number and it may help a select number of larger financial institutions avoid insolvency, but it may not be big enough to stop the rot, to stop ongoing asset price depreciation and insolvency for the broader market – regional banks etc. It certainly isn’t enough to avoid recession.

Think I’m being pessimistic? Freakin’ Mcdonald’s reported last night that the Bank of America can’t lend to them – Maccas!!! I appreciate that the BoA has it’s hands full – but this is symptomatic of a broader problem...

...which is why US 3m libor hasn’t come off that much, setting at 3.19% from 3.21% the previous day. 3m libor-ois is currently at 127bp, down a bit, but still very wide (80bp just 2 weeks ago).

So no-one was taking any notice of the ratings agencies as they tried to talk up the US and its credit rating – maintained at AAA. The USD dropped over 3 big figures to 1.48 EUR (biggest fall in 9 years), carrying the Aussie back over 0.85, before settling a little over 0.84. That drop in the USD and the fact there was nowhere else to run saw strong gains in commodities. Oil spiked about 15% higher to $120 (from $104 biggest one day jump ever) and gold was up a further $35 (or 3.3%) to $902.

Equities were given from the open - the ban on short-selling financial stocks not helping a great deal. Financials were hit particularly hard, falling 8.5% in the session, though Morgan Stanley initially bucked that trend as Mitsubishi said it was buying up to a 20% stake in the company (ended 12c lower). The broader market was down 3.8% as measured by the S&P500 (1207.1), the Dow dropped 372pts (or 3.3%) to 11015.7), while the NASDAQ fell 4.2% (21787.9). Aussie futures fared only a little better, the SPI falling 2.2%."

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"History’s biggest bet" - good readings

Why Paulson is (maybe) right - Charles Wyplosz

The world’s bankers created a reckless mix of lending and securitization which exploded in their faces last year; they’ve stonewalled since. It would be criminal to bail them out, but spilling blood for its own sake is foolish. Here one of the world’s leading macroeconomists explains how the ‘Paulson Package’, history’s largest bet, might work and might not cost taxpayers too much. It’s too early to know which label to apply: “bailout” or “shrewd cleansing operation”.

Why Paulson is wrong - Luigi Zingales

This weekend’s decisions will shape the type of capitalism we live with for the next fifty years. When a profitable company is hit by a very large liability, the solution is not to have the government buy its assets at inflated prices – the solution is Chapter 11.

Cash for Trash - Paul Krugman

Everyone agrees that something major must be done. But Mr. Paulson is demanding extraordinary power for himself — and for his successor — to deploy taxpayers’ money on behalf of a plan that, as far as I can see, doesn’t make sense.

A Bad Bank Rescue - Sebastian Mallaby

With truly extraordinary speed, opinion has swung behind the radical idea that the government should commit hundreds of billions in taxpayer money to purchasing dud loans from banks that aren't actually insolvent. The scheme has gone from invisibility to inevitability in the blink of an eye. This is extremely dangerous.

Costly Rescue Could Narrow Economic Options - Mark Landler

It’s hyperbole to say we’re abandoning the free-market system. But we certainly seem to be entering a new uncharted territory of regulation.”

This is no time for politics of the playground - Clive Crook

The technocrats are in charge – Hank Paulson at the Treasury and Ben Bernanke at the Federal Reserve – and even they are making it up as they go along. President George W. Bush appeared briefly last week, noting that the country was worried about the current financial difficulties and saying, as though this were important information, that he shared those concerns. Wisely, he did not affect to take command of the situation (you thought the collapse of Lehman was a blow to confidence).

Wall Street: The dark theory - Richard Siklos

What if the underlying problem goes deeper? What if the reality is that the US economy has been a lot worse than was thought for a long time, and now the chickens are finally coming home to roost?

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The rescue: aerial view

HT: Marginal Revolution

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Latest rescue thoughts

How it came to this - David Warsh, Economic Principals

"The 25-year Reagan boom didn’t have to end this way. George W. Bush is likely to go into history as the $2 trillion man – $1 trillion for the war in Iraq and its trail of claims, another $1 trillion for the sub-prime bailout."

The rescue might make money - Stephen Bartholomeusz, Business Spectator

"If the plan were executed cleverly, however, it could also see the creation of the biggest vulture fund in history and the US taxpayer might even profit greatly from it."

Maybe things aren't that bad for the banks - John Berlau, Wall Street Journal

"The latest mortgage delinquency rate is just 6.4% -- historically high, but not anywhere close to the mortgage default rate of over 40% in the depths of the Great Depression."

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A bold suggestion from Malcolm Turnbull

The Opposition Leader Malcolm Turnbull has stepped up debate on the health of Australian banks suggesting that the Prime Minister follow the lead of the US President and use public funds to help them out.

Over the weekend President Bush unveiled the largest financial rescue in American history, asking to let the Treasury buy as much as $700 billion of bad mortgages from financial institutions in trouble.

In an Australian television interview Sunday Mr Turnbull called on Mr Rudd to consider doing the same thing.

“We know that it has been very, much harder for banks, particularly the second-tier banks and financial institutions, to re-finance mortgages,” he told the Nine Network.

“In the US, the government is taking a role, proposing to buy some of these securities, in effect to provide additional liquidity to take the pressure off mums and dads.”

“We've got the capacity to do that through the Office of Financial Management...

That's something I'd like to talk to the Prime Minister about to see if we can agree on some bipartisan measures.”

The Treasurer Wayne Swan immediately rejected the idea, labelling it “either a monumental gaffe or intentionally irresponsible”.

“The fact is Australia simply does not have the type of bad debts prevailing in the US banking system,” he said.

"In the national economic interest, it's important Mr Turnbull stop talking down our banking system at a time of global uncertainty.”

Reserve Bank figures show only 0.4 per cent of all Australian mortgages are seriously in arrears, no more than were in trouble a year ago.

"As the Reserve Bank Governor pointed out, the reality is that the health of our banks is light years away from that of US banks,” the Treasurer said.

On Friday Mr Turnbull quibbled with the Reserve Bank Governor’s assessment, saying that “light years suggests millions of miles away - the world is more connected than that”.

Late yesterday he expanded on his suggestion saying that earlier this year the Government had introduced legislation that would allow the Office of Financial Management to buy Australian mortgages.

“There would be no need to take on the excessively risky portfolio that might be desirable in US and the UK,” he said.

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$700US billion - not too far short of Australia's entire GDP!

The world's biggest-ever financial bailout

CNN on the facts, as of Sunday:

"President Bush asked Congress on Saturday for the authority to spend as much as $700 billion to purchase troubled mortgage assets and contain the financial crisis. The legislative proposal - the centerpiece of what would be the most sweeping economic intervention by the government since the Great Depression - was sent by the White House overnight to lawmakers."

Paul Krugman on the lead up:

"On Sunday, Henry Paulson, the Treasury secretary, tried to draw a line in the sand against further bailouts of failing financial institutions; four days later, faced with a crisis spinning out of control, much of Washington appears to have decided that government isn’t the problem, it’s the solution. The unthinkable — a government buyout of much of the private sector’s bad debt — has become the inevitable."

Alan Koher on Australia's part in swift moving developments today:

"Australia’s stunning ban on all short-selling is a revolution that will likely flow around the world in a series of dominoes from tomorrow. The global hedge fund industry will effectively be shut down overnight. The business of securities lending will also shut down."

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SATURDAY INSIGHT: Landslide piled upon upon landslide

Ruth Williams and Peter Martin in the Insight section of Saturday's Age

"In a landslide, each time the earth moves and settles, people imagine the worst is over - until it happens again."

Think back almost a week ago. On Sunday afternoon, as Melburnians enjoyed a few hours of sunshine before the inevitable evening clouds, the financial world order was about to change in the most dramatic fashion. By Monday morning, as the Australian stockmarket reacted violently to the news from New York, the damage was clear. And throughout the week, it got progressively worse, leaving investors reeling and Australians concerned about what it meant for them.

It was a week that broke records as well as banks, and prompted intense soul-searching on how the subprime mortgage crisis in the US could cause so much pain...

The bad news came thick and fast. Venerable Wall Street investment bank Lehman Brothers collapsed. Rival Merrill Lynch was sold off at bargain basement prices. American International Group, the world's biggest insurer, survived only after being given an $US85 billion ($A105 billion) lifeline from the US Federal Reserve. There was a shotgun merger between HBOS and Lloyds TSB in Britain, and $US180 billion was heaved into markets after a terrifying pause in global commerce on Thursday evening. That funds injection sparked yesterday's dramatic turnaround.

In Australia, news of the impending crisis spread quickly, and had fast and evident results. On Monday, as Australian shares fell almost 2%, Treasurer Wayne Swan and Prime Minister Kevin Rudd spoke to Glenn Stevens and Ken Henry, heads of the Reserve Bank and Treasury, then briefed cabinet later that day.

On Tuesday, the benchmark index sank another 1.4%, its lowest since Christmas 2005, and ANZ chief executive Mike Smith cut his holiday short, arriving back in Melbourne on Tuesday night. On Wednesday and Thursday markets fell still further. Before yesterday's rally, Australian shares were worth 6% less than they were at the start of the week. Super returns have been hit, share portfolios of investors big and small substantially deflated.

And the global flow of money, which keeps the world's economy going and upon which our banks rely for access to wholesale funds, sits almost as stagnant as parts of the Murray-Darling basin.

Last Sunday evening, as Victorians drifted off to sleep, events taking place in New York were to radically alter the world's financial system, and with it, Australia's. The implications - financial, economic and even political - will be far-reaching.

"From a historical perspective, there has been nothing like this since the Great Depression," says Patrick de Fontenay, adjunct professor at Australian National University's Crawford School of Economics and Government. "The problem is that all financial institutions that rely on debt for their operations are having trouble rolling over their debt. And whenever a financial institution gets in trouble, there's contagion."

What we are seeing is contagion on a huge scale, and it has terrified investors. AIG was, to use the cliche, "too big to fail". But Lehman, which the US Federal Reserve allowed to fall into bankruptcy, was not. Investors are now fearing - indeed, expecting - more collapses of financial institutions that are also not too big to fail. What investors do not know is how far the contagion will spread. That makes them scared, which makes them panic.

And nowhere was panic more evident this week than on global sharemarkets. Wall Street fell 4% in one day, and Australian shares, despite a 4.3% rally yesterday, will finish the week at levels last seen 2½ years ago. Yesterday's bounce was more evidence of raw emotion at work as panic selling gave way to panic buying.

Even those who have been in the market for a long time - who worked through the 1987 stockmarket crash - are stunned. "The events of this week have been extraordinary," says David Evans, managing partner of stockbrokers Evans & Partners.

"It has been a historic week. It could be that all of the major American investment banks as they stood a week ago, by the end of next week or next month will have different letterheads."

The sell-off in Australia, as elsewhere, has been most dramatic in financial stocks - traditionally a haven for investors. Macquarie Group, which once traded for $97, lost almost a quarter of its value in one day on Thursday, falling to $26.05 before an extraordinary rebound yesterday. This week, the S&P-ASX financial index dropped 1.4%, with the big four banks all hit.

In Australia, the biggest sharemarket victims during the week would have been those who borrowed to invest, who found their share portfolios were worth less than the debt outstanding on them.

"People who are highly geared have more to be concerned about," Evans says.

Thousands are facing margin calls - a demand to pump more money into their loan accounts. These forced sellers drive prices down further, building, and building, on the downward momentum.

The Australian Securities Exchange's latest information, from late 2006, shows that about 7.3 million people - about 46% of the adult population - owned shares directly or indirectly through a managed fund or self-managed super. But the survey doesn't track how many of those people borrowed to buy their portfolios. Just how many people out there are sweating on a margin loan, frantically clutching for cash to meet their obligations, is not known.

But while the threat of a margin call may hang over the heads of a minority of Australians, every working Australian is exposed to the market through their superannuation. And here is another local consequence of these global events.

Headlines this week warned of more negative super returns, coming after last year's average return of minus 6.4%. For the June quarter, super returns were the worst since compulsory super began in 1992.

Back in June, that negative symbol came as a shock to many investors, accustomed to their super funds delivering double-digit returns. Superannuation Minister Nick Sherry was moved to reassure super investors that despite last year's negative returns, super remained a sound investment.

It was a pre-emptive move, aimed at shoring up people's faith in super before it faltered too much. But he may well have to say it again in a few weeks' time when the September quarter statements go out, bearing once again a number with a negative symbol in front of it.

His central message has been that, even though returns are lower now, long-term averages remain strong. "Australians overwhelmingly do not access their superannuation at a single point in time; it is a long-term saving," Sherry told Parliament this week. "The most important rate of return to focus on is the five to seven-year rate at least, if not longer."

If it fell, in part, to Sherry this week to reassure super investors, it was also up to the super industry itself. Richard Gilbert, chief executive of the Investment and Financial Services Association, urged super investors not to be "like lemmings running off a cliff", advising them to call their super funds, or even get paid advice. "Don't make decisions based on your instinct alone," he said.

One group of people will face significant implications from the market slide - those about to retire. There are about 1.4 million Australians aged between 55 and 60, many of whom are considering retiring and accessing their super. Another 1.3 million are in their early 50s.

"If you are 55, or approaching 60, and thought you were going to retire next year, well perhaps you can't," Gilbert says. "It's going to affect a lot of people."

But for the rest of us, with a decade or more left on our super investments, the eventual super damage is unlikely to be severe. Super accounts are still buoyed by a decade of strong returns. Assuming markets eventually recover (and they always have in the past), everything that goes into super accounts now is buying at what may be close to the bottom.

But even those who escape relatively unharmed on their super are likely to feel a further consequence of this week's events - more pressure on bank mortgage rates.

Once upon a time, Australians who took out a mortgage might have been reassured that it had the words ANZ or National Australia Bank written on it. But these days, that doesn't mean that the money behind that loan came from ANZ or NAB depositors, or even that it came from Australia.

Roughly half of the money lent by the big four Australian banks comes from overseas. Almost all the money once put up by non-bank lenders such as Aussie and RAMS did. And although it looks the same to an Australian borrower, the price of that money to a lender - such as a bank - is beyond Australian control. Whenever the Reserve Bank cuts interest rates (which is likely at its next board meeting on October 7) it is only able to cut the price of the Australian money. The price of the other half is set in China or Europe or Japan, or wherever the ultimate lender lives - and it's soaring.

UNTIL the credit crunch began in August last year and foreign investors got nervous, they were happy to demand little more than the Australian wholesale interest rate to invest in Australian mortgages. But after August, when it became apparent that many of their loans to US borrowers were worthless, they started demanding a lot more to fund mortgages - even good quality Australian ones, if they would fund them at all.

RAMS folded, other non-bank lenders became shells of themselves and Australia's big banks aggressively pushed up their rates well beyond the rate rises sanctioned by the Reserve Bank. The Government could only look on helplessly as mortgage rates pushed through 8% into the nines - despite the official cash rate peaking at 7.25%.

In recent months, foreign lenders had relaxed, cutting the premium they demanded to fund Australian home loans to about 1 percentage point. But this situation ended late last week. So horrified were the lenders at what happened to even top-notch, AAA-rated US institutions, their asking prices to lend to Australian institutions are surely set to go through the roof.

What does all this mean? When the Reserve next cuts Australian interest rates, mortgage holders should not expect Australia's banks to pass all of it on. Too many of their other costs will be going up.

So, Australians will feel the impact of this week on their share portfolios, their super funds and their mortgages. It all amounts to a lot of bad news - and a delicate balancing act for the Government.

In the political world, if there is to be a winner of any sort from the market fallout, it may well be Malcolm Turnbull. As investors waited anxiously on Tuesday morning to see how much our sharemarket would fall, Turnbull emerged victorious from a Liberal leadership ballot. A former merchant banker, his economic and business credentials tower above those of his predecessor, Brendan Nelson. His first question to the Government as Leader of the Opposition?

"What concrete action is the Prime Minister now taking to further strengthen the Australian economy, in particular the financial sector, in response to the bankruptcy of Lehman Brothers investment bank?"

Rudd soon fronted the media to reassure the public of a capable Government, briskly dealing with the unfolding crisis.

"On a daily basis the Treasurer and myself have been in active conversation with both the secretary of the Treasury, the governor of the Reserve Bank, and … the head of APRA (the Australian Prudential Regulatory Authority). That close collaboration continues," he said.

One can only hope the politicians comprehend the magnitude of the crisis facing Australia and the world, because the immediate woes facing super funds, mortgages and share portfolios fade compared to what could really go wrong.

In a landslide, each time the earth moves and settles, people imagine the worst is over - until it happens again. In March there were five big investment banks in the US. Then Bear Stearns collapsed, sold in a forced rescue to a bank for a mere fraction of its value.

Then there were four - Lehman Brothers, Merrill Lynch, Goldman Sachs and Morgan Stanley. Like Bear Stearns, each had survived the Depression. But not all would survive this week - Lehman collapsed after its shares plunged 92% and the US authorities declined to intervene. Merrill Lynch sold to the Bank of America for one-third of its previous value on the same day.

And then there were two. A day later US authorities took over the world's biggest insurance company, American International Group, rather than allow it to collapse.

Every time another one falls, the other institutions with which it does business hurt too. They become less willing to lend or invest money, and the global flow of money dries up further.

And the next weakened institution, frantically trying to save itself by borrowing more money, finds that no one will lend to it. It topples, and the landslide resumes. No one can say when the landslide will end.

The direct effects are bad enough. Lehman used to employ 26,000 people - 140 of them in Australia. Merrill used to employ 60,000. The indirect effects are worse. US firms and US consumers are winding back spending and may well bring on a recession.

In normal times the US Federal Reserve would try to buoy things by cutting rates (it resisted temptation to cut this week), but with its official interest rate at 2%, it can't cut much further. Of course, a recession in the US needn't mean one in Australia. For five years Australia's prosperity has been underwritten by the extraordinary growth of China and its demand for raw materials. The big question now is whether that growth will continue without rising demand for Chinese goods from US consumers. China exports roughly half of everything it produces - mostly to the US and Europe, so a recession in the US would be expected to have an effect on Chinese economic growth.

But in July two economists from ANU reported that a US recession might not hurt China deeply, because the money that would have been invested in the US would instead be pumped into China, accelerating its development. The jury is out.

However, a recession, even one that does spread to Australia, is not the biggest threat concentrating the minds of those in Australia's Reserve Bank. Australia has, after all, survived recessions in the past.

On Thursday, after Kevin Rudd had tried to reassure Australians of the soundness of our banking system, of the Government's busyness as it managed the crisis, investors got a taste of the biggest threat to economies all over the globe.

For an hour or two on Thursday afternoon, an entity called the forward exchange foreign market in Asia stalled, and the heart of the world's financial system stopped beating.

No financial system can work unless the people and businesses that need access to money can get it. For a few hours on Thursday, the US dollar became completely unavailable for some purposes. No one who wanted to enter into a so-called forward contract - a commonplace and crucial part of international commerce - could do so using US dollars.

So frightened about the future had people with US dollars become that for a few hours they were unwilling to agree to part with them in the future at any cost.

British, European and other central banks couldn't wait for the US financial system to open at 11pm east Australian time, instead taking action at 5pm - which was 3am in New York.

They poured $US180 billion into global markets - almost enough to buy the entire output of Victoria for a year. They spent it in minutes.

It is possible to think of the financial system as the lubricant on the wheels of trade. Without that lubricant ("liquidity" in the economists' language) the wheels seize up.

If people with money become so worried about the future that they refuse to part with it, then commerce itself will seize up.

Regarded as a remote possibility throughout the US financial crisis, this scenario has become more real this week. And, as Australians ponder their super returns, their portfolios and their mortgages, this bigger threat looms.

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The NSW government is a joke

...a joke that keeps on giving. Enjoy it!

From Friday's SMH:

Yes, Minister, you pay for public schools.

"AFTER just days in her job as the state's Education Minister, Verity Firth was shocked to discover that the State Government provided most of the funding for public schools.

Ms Firth told the Herald she was concerned and more than a little surprised at the discovery.

"When you think about the actual percentage of education funding that comes from the states versus the amount that comes from the Commonwealth, the states overwhelmingly fund primary and secondary school education," she said.

"I think I was a bit ignorant about that. I think I'd always assumed it was a bit of a 50-50. It's not at all; it's about 80-20 … we need a better partnership on that."

Okay, so she's just been made the Minister.

But for how many years did she vote on budgets on before that without reading them?

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"A quick primer on this week’s events"

From the ANZ Bank's Amy Auster and Amber Rabinow:

The unusual developments in the global financial markets have rattled investors over the past week. Below is a quick summary of what has happened and why, and what it might mean.

Consolidation in the US financial system. The bankruptcy of Lehman Brothers Holdings and the mergers of Merrill Lynch – Bank of America and HBOS – Lloyds were significant events. The moves were forced by the continued downward spiral of share prices, as investors feared that these financial institutions would no longer be able to raise sufficient capital to finance the loans and other assets that were on their balance sheets. Only one of the three institutions that ceased to exist this week was a commercial bank that holds deposits on behalf of households. The other two were investment banks that have to raise their debt funding from the capital markets. As financial conditions have become tighter and tighter over the past year, it has become more and more difficult for this business model to be maintained. Concern over the investment bank model is what has caused the share prices of the two remaining Wall Street investment bank firms, Goldman Sachs and Morgan Stanley, to remain under pressure this week. In Australia, Macquarie Bank’s equity value was also under pressure, but rose quickly on Friday...

US government support for institutions that are core to the US or global financial system. Over the past few weeks the US government has taken the extraordinary step of taking control over three financial institutions: the government-sponsored mortgage giants Fannie Mae and Freddie Mac, and the global insurer American International Group. This was accomplished through the issuance of new, preferred stock that had the effect of making the US government the majority shareholder in these firms, and guaranteeing the payment of the debt that had been issued by these institutions.

Why did the US government take this step? The simple answer is that allowing these institutions to go bankrupt could have conceivably caused a shutdown of the global payments system, thrown the US housing market into chaos and caused enduring harm to the US economy. The steps taken by the US government this week are not the ultimate solutions to the problems facing these institutions, but they do buy some time so as to avoid hasty, destructive actions.

While commentators have called the move a “bailout”, this is not entirely correct. The holdings of existing shareholders in Fannie, Freddie and AIG have been completely diluted, and their shareholdings at present are worth very little. Bondholders can be assured that they will continue to receive interest payments, but they are not being bought out of their positions.

Most importantly, all three institutions will be forced to significantly change their businesses, primarily by selling down the assets – such as mortgages or other securities – that are currently on their balance sheets. In the case of Fannie and Freddie, the reduction will be about US$1.2 tr in the coming years. In the case of AIG, sales could amount to US$712 bn and entire parts of a company that had a balance sheet of US$1.04 tr as of June 2008.

Finally, governments around the world have undertaken further policy measures in an aim to shore up financial stability. The US Federal Reserve, European Central Bank, Bank of England, Bank of Japan, Bank of Canada and Swiss Central Bank – and the Reserve Bank of Australia – have all acted to inject funds into the financial markets to promote liquidity in the system and discourage banks from hoarding their cash. Such action helps to reduce the stresses in the short-term interbank market, where just a small rise in funding costs causes significant rises in longer-term borrowing costs for banks and their customers.

In addition to central bank action, the US Treasury and other US authorities have taken steps to address market turmoil. The US Treasury this week announced an increase in its funding program of US$100 bn (0.8% of US GDP) to provide the Federal Reserve with more capacity on its balance sheet to fund liquidity injections and help reduce the burden of unwanted assets on the credit markets. Separately, the Securities and Exchange Commission has adopted newregulations aimed at reducing short-selling in the equity market, which some observers blame for having caused such a sharp sell off in financial stocks over the past month.

The week ended with statements by US Treasury Secretary Paulson and others confirming plans are underway to establish a (government-funded) agency that will buy bad debt from the financial sector. This would be an institution similar to the Resolution Trust Corporation (RTC) that was established in the wake of the US Savings and Loans crisis of the 1980s. At that time, the total cost to the US taxpayer of this institution was US$123bn, or 2.1% of 1990 GDP. The establishment of such a vehicle is positive in the sense that it is the first attempt to systematically address the debt overhang now plaguing the US financial system.

What does this all mean for the future For now, the uncertainty in the financial markets is likely to persist. We may see more rumours of mergers and/or failures by other institutions, in the United States and elsewhere. The reason is that the balance sheets of these large, financial institutions are connected and interwoven with each other in ways through a complex chain of lending and borrowing. When large institutions start to fail, other institutions react by pulling back their loans to those institutions, as well as others. This causes a chain reaction of a progressive reduction in the availability of funds, and as the reduction deepens other institutions face difficulty obtaining the financing they need. A crisis of confidence ensues, and that is what central banks are working assiduously to avert by pumping cash into the global payments system.

Some observers question whether pumping cash into the payments system is inflationary. Under normal circumstances, the answer might be yes. However, the deflation in asset prices (equity, bonds, and property) that we have seen in the United States puts deflationary pressures on the economy. Economists call it a negative feedback loop, which looks like this: Falling asset prices cause households to feel they are losing wealth. The consumers in these households cut their expenditure, and consumption falls. Producers see falling demand, and cut back on production – and possibly lay off workers. Falling employment causes consumption to fall even more, and the cycle worsens. Such an environment is a recipe for disinflation, or falling inflation. What modern central banks target is price stability – a stable mix of growth and inflation. The steps being undertaken by central banks this week are a bid to re-establish financial market stability, and thereby ensure a desirable mix for growth and inflation is attained. Given the continued uncertainty, we can expect to see more of these sorts of measures in the weeks ahead.

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Lehman and AIG - What happened?

Steven Levitt asks all those dumb questions so you and I don't have to.

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How bad did things just get?

So bad that for a while yesterday a key part of the financial system stopped working.

Many Australian, Asian and European superannuation funds and corporations will not invest in the US unless they can hedge their currency exposure.

Hedging means protecting yourself against movements in exchange rates.

It comes at a cost, but it has always been available - until yesterday.

Yesterday it became impossible to hedge at any cost. No-one with access to US dollars would agree to use them in the forward market.

It meant no trade on any terms until the US market opened for business and the US Federal Reserve once again flooded its financial system with dollars...

The implications were beginning to sink in. The US dollar, previously the most- tradeable currency in the world, wasn't safe to deal in.

Because the US dollar is the benchmark by which other currencies are measured, it would be hard to trade in them as well.

Currencies could still be swapped at the going exchange rate (the so-called spot market), but Australian mining companies, super funds and exporters would be unable to buy protection against currency movements.

If it continued it would mean that many would find it safer to withdraw from international trade and investment.

Adding urgency was the time of year. Quarterly hedging contracts were about to expire.

Rather than wait even a few more hours for the US market to open, five central banks in Europe, Canada and Japan announced plans to sell as much as 180 billion US dollars to anyone who wanted them.

The US had agreed to funnel them the US dollars immediately. It was an emergency plan they had been cooking up for months.

It didn't involve the Reserve Bank of Australia this time, but next time it might - if there is a next time.

The very worst case is unthinkable - that financial flows between countries will stop. But a more likely outcome is in some ways worse - that trade will continue but that there will be less of it.

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What has collapsed into what?

With typical interactive stylishness the New York Times explains.

Play around:


Hat tip: Marek

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We're sound. Our Governor says so.

The Reserve Bank Governor declared Australia’s financial system sound as the US yesterday bailed out the world’s biggest insurer, American International Group, with a $A107 billion loan in exchange for what amounted to nationalisation.

Speaking just hours later Glenn Stevens told company directors in Sydney that the condition of Australian banks was “light years away from what is happening in other banking systems around the world.”

Local banks had “very good profits, still ample capital and still ample access to funding” he told the directors.

However a small number of corporations were highly leveraged. “We all know who they are," he added...

The Governor's assurance was backed up by the Prime Minister who told parliament it was important to keep the challenges posed by the US financial crisis “in appropriate perspective”.

“We in this country are better prepared than most to deal with the buffeting which is being presented to other national economies,” Mr Rudd said.

On Wednesday the Reserve Bank injected money into the Australian banking system for the third successive day giving Australia's banks access to $4.285 billion in order to more than satisfy their immediate need for $2.180 billion.

In its annual report released yesterday the Bank said that long-time observers had expressed concern about the underpricing of risk in the US for years. But it had been impossible to accurately predict “how or when the process of unwinding would occur, or what its economic consequences would be”.

“No-one foresaw the sudden loss of confidence displayed in the world’s largest financial houses, manifested in a severe disruption in interbank markets,” the Governor said in the report.

“As banks all over the world became less certain of their own funding requirements and less confident of the credit profile of their counterparties, the interbank borrowing markets in countries including Australia became tight as banks were more inclined to hold onto liquid balances.”

The Reserve Bank responded by sharply increasing the level of cash it made available to the banks from an average of $750 million to a peak of $6.7 billion.

If the Bank had not done this, “the cash rate would have risen above the
target set by the Board as financial institutions bid more aggressively for funds in an attempt to increase their cash balances.”

Mr Stevens told the company directors that the government sector might have to “expand a good deal” in the future in order to support a weakened financial sector.

“The build‑up in public infrastructure in Australian cities and regions may point in the same direction, though to a lesser extent,” he said.

“If the sudden aversion to these sorts of assets by private investors continues for any length of time, governments may have to choose whether to fund the projects themselves, or defer them.”

Central banks may also have to consider whether to “lean against booms” in the future by keeping interest rates high even when inflation was under control.

“Among thoughtful people this question is up for discussion,' he said. “It will be fascinating to watch how the debate unfolds. I am not proposing to take a position today.”

The Governor would not be drawn about whether the Reserve Bank board would cut interest rates at its next monthly meeting on October 7.

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RIP "Go for Growth"

If you remember that slogan you will probably also remember the Coalition's similarly appalling: "Aspirational Nationalism".

Pardon me while I. . .

Anyway, today the Reserve Bank Governor Glenn Stevens made it clear what he thinks of "Go for Growth".

It makes you pray that John Howard and Peter Costello didn't mean it.

Here's the relevant bit from Stevens:

"The economics of full employment are different from the economics of trying to get to full employment. This is a simple point, but an important one...

When the economy has too much spare capacity – say, in the aftermath of a business cycle downturn – the aim of macroeconomic policies is to push up demand so that it catches up to supply potential. There may be several years in which demand growth exceeds the normal pace as it eats into the spare capacity.

Once the spare capacity has been wound in, however, actual growth in demand and output has to slow, to match the growth rate of potential supply.

That growth in potential supply is given by the growth in the labour force, the capital stock and the productivity of those factors of production. Typically we think of ‘potential GDP’ in Australia rising by something like 3 per cent a year, give or take a bit.

This, as my predecessor Ian Macfarlane remarked a few years ago, means that once the reserves of spare capacity are pretty much used up, we should expect to be accustomed to growth rates for GDP starting with a 2 or a 3. There will not be many with 4s or 5s, as we had for some years through the 1990s and earlier this decade.

Periods of growth noticeably above about 3 per cent will be roughly matched in frequency and duration by periods below – as we are having now."

If we set our aspirations higher than that – if we try for above‑average performance all the time – we will just get inflation. That is the economics of full employment."

Kapow!

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Does the reserve bank buy or sell bonds in order to move interest rates?

Neither.

From today's RBA Annual Report:

"The announcement of a change in monetary policy is normally sufficient in itself for the market to move the cash rate to the new target."

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Lehman changes everything...

...for Australia's Reserve Bank

An interest rate cut at the next Reserve Bank board meeting on October 7 is now a live possibility as a result of the collapse of Lehman Brothers in the United States.

The minutes of the Bank’s most recent board meeting on September 2 released yesterday contain no hint that there would be a follow-up cut. They say the decision to cut in September was reached on “balance” after weighing up “opposing forces confronting the domestic economy”.

The collapse of Lehman Brothers, the fire sale of Merrill Lynch, and an impending worldwide shortage of capital have dramatically changed that landscape.

The Bank believes that four risks have grown since the weekend.

One is that money will become hard to get as international investors shut their wallets...

In the first two days of this week the Bank has spent around $4 billion buying bank securities for cash in order to ensure that they have ready access to it.

Its September minutes express concern about the rising cost of funds in financial markets and indicate that was one of the factors that persuaded it to cut its cash rate. Those costs are likely to rise much higher.

Another risk is that the US will slide into recession, dragging down the world economy and commodity prices with it. That would slow the Australian economy and ease any risk of resurgent inflation.

There is also a risk that Australians will feel much poorer and wind back their spending in the wake of the slide in our share market. The Australian market slid 1.5% on Monday and a further 1.4% on Tuesday.

And there is the risk that Australian banks are themselves exposed to Lehman Brothers. In parliament Prime Minister Rudd described that exposure as “modest”. Westpac said that its exposure was less than A$10 million.

But Mr Rudd said it was important to acknowledge that Australia was part of the global financial system and “therefore not immune”.

The Prime Minister and the Treasurer were by the Reserve Bank Governor Glenn Stevens and the head of the Treasury Ken Henry Tuesday morning.

The futures markets yesterday pushed up further the implied probably of an October interest rate cut, pricing in a greater than 100% chance of a cut of 0.25 percentage points. This suggests that the market believes there’s a chance that the Bank will cut by more than 0.25 points on October 7.

The Bank last cut interest rates by more than 0.25 points in April 2001 when it cut by 0.50 percentage points in a successful effort to prevent Australia falling into the recession that awaited the US.

It was due to get an idea of how seriously US authorities viewed the crisis at 4.15 this morning when the Federal Reserve US revealed whether its Open Market Committee had decided to cut US rates. A decision by the Fed to cut its federal funds rate by 0.50 percentage points to 1.5% would be seen as a sign that it was very worried.

The Reserve Bank’s Governor Glenn Stevens will have an opportunity to outline his reaction to developments in the US at a previously scheduled speech at lunchtime today.

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What doesn't the new Liberal leader know about?

Search me

Malcolm Turnbull may be the best connected leader the party's ever had.

His links extend into the law, high finance, personal finance, information technology, academia, the media and the Australian Labor Party.

He first made contact with the labour movement while packing fruit at the Sydney markets in between finishing school and starting university.

As he remembers it, “I think I had been sacked or I was having some problems with my employer so I went down to the Trades Hall to ask for help"...

The then head of the NSW Trades and Labour Council Barry Unsworth listened “with a modest amount of interest and said, you should see another Trades Hall official Bob Carr.”

Later to become the NSW Premier, Turnbull says Carr “didn’t seem particularly interested, but then uttered the line I’ve never forgotten, which was: I’ve just read a fascinating book on the politics of Eastern Europe, would you like to borrow it?”

The two became firm friends. In the 1980s Turnbull partnered with another former Labor Premier Neville Wran and a Labor son Nicholas Whitlam in an investment bank they entitled Whitlam Turnbull (and later renamed Turnbull and Partners when Whitlam was forced out).

After packing fruit, he worked as a journalist for The Bulletin magazine and Channel Nine. Even now he has been known to direct television journalists in their work, suggesting shots.

Moving to the other side of the camera as Kerry Packer’s personal lawyer, he defended the Nine Network owner vigorously when his reputation was under attack at the Costigan Royal Commission and later won a landmark case against the Thatcher government in the so-called Spycatcher trial. He was for a time one of the most famous lawyers in the country. He married Lucy, daughter of the famous Sydney Queen's Counsel Tom Hughes.

At Turnbull and Partners and later as head of Goldman Sachs in Australia he made enemies and had success in corporate takeovers, becoming involved in the affairs of the Alan Bond group of companies, Fairfax and the insurer HIH.

As a private investor after corporate life he owned stakes in technology and personal investment companies. As head of the Liberal Party’s Menzies Research Institute he developed deep links into academia, giving him access to ideas well beyond those usually available to Australian politicians.

He knows his way around.

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Joy from tonight's ABC news.

I don't know exactly why, but tonight's account lifted my spirits:

"Babcock and Brown plunged 33% to a record low, Allco fell nearly 20%, and Macquarie was down 7% to its lowest in four years."

I'm sure it shouldn't have.

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Costello - not in it for the money

He is not in it to be leader. He won't stand today.

Is it the money? Not that either.

Whatever reasons Peter Costello has for continuing to hang around, they don't include money.

Right now, as a backbencher, the former Treasurer is earning $127,000 per year.

But calculations performed by The Age using tables prepared by the Department of Finance suggest that if he retired instead, his annual income would jump to $176,633 courtesy of Australia's generous parliamentary superannuation scheme.

That payment would grow with increases in parliamentary salaries and would stay with the 51-year old for the rest of his life.

In plain terms each extra year that Mr Costello remains in Parliament as a backbencher is costing him $50,000. Each extra week is costing him $1,000.

And staying on won't boost his super payout...

Peter Costello entered Parliament in March 1990 – more than 18 years ago.

Eighteen turns out to be an important number in the design of the parliamentary superannuation scheme. Before 18 years there's something to be gained by staying on to build up a bigger super payment. The payout increases by 0.00685% for each additional day that an MP stays in office.

But at 18 years the payout hits a ceiling of 75% of the backbench salary (plus an allowance for having served as a Minister) and can't move higher.

In recognition of that after 18 years the required super contribution drops from 11.5% to 5.75% of the MP's salary.

But from the point of the view of the MP it's wasted money. The extra super contributions don't increase the super payout.

The payment that Peter Costello gets for having served as the Treasurer is also close to maxing out. As Australia's longest-serving Treasurer, in the job for more than 11 years, he is entitled to 73.4% of the extra salary he got as the Treasurer, close to the maximum of 75 per cent allowed under the rules.

If he wants he can halve his $176,633 per year pension and turn the rest into a lump sum of $1.77 million.

But, in the spirit of the rules that he oversaw when he was Treasurer, he will be unable to get access to the lump sum until he is 55.

Another rule that he introduced might complicate things. In his first budget Peter Costello slugged high-income earners with an extra superannuation surcharge, worth 15% of their super contributions.

He abolished it nine years later. As a member of parliament he has had the right to pay the surcharge each year as it fell due or to let it accumulate and to pay it with interest on his retirement.

If he took the second option it'll cut his retirement payout.

Whatever he does he'll be better off than many. MPs elected after 2004 get access to a much less generous scheme.

As the leader of his party pointed out in parliament Monday, single old-age pensioners get $273 per week. At $14,196 per year, its a mere 8% of what the former Treasurer will make.

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The coming pensions review will be easy...

Its already on the shelf

The Rudd Government's claim that it must wait for a review before raising the age pension has been undermined by the revelation it considered a detailed submission on the question before the May budget.

Documents released to the Seven Network under the Freedom of Information Act reveal cabinet considered an 83-page submission, including detailed options, on increasing payments to age pensioners on March 25.

But it decided to take no action other than continuing the annual $500 pension bonus and raising the utilities allowance.

"It is now clear Mr Rudd's committee on pensions is just a cynical smokescreen hiding his deliberate refusal to help Australia's pensioners," said Opposition Leader Brendan Nelson.

Treasurer Wayne Swan yesterday maintained that he needed a full report before considering Dr Nelson's proposal for an immediate rise in the single age pension of $30 a week.

"We want to have a comprehensive look at all of the issues that arise when you increase a base rate of pension, and to make sure we do it in a comprehensive way," Mr Swan told Brisbane radio...

"The pensions review will report at latest by February so we can take action in next year's budget."

That review is being conducted by the head of the Department of Families, Housing, Community Services and Indigenous Affairs, Jeff Harmer.

The documents released to the Seven Network reveal that it was Dr Harmer's department that prepared the cabinet submission in March, suggesting the department has already examined the options the Treasurer is asking its head to examine.

Among the changes it considered was altering the way in which age pensions are benchmarked to male total average weekly earnings.

At the moment they are increased each March and September in accordance with movements in earnings to the previous November and May. The department considered adjusting the pensions in accordance with the forecasts of future movements in earnings.

The FoI documents reveal the Treasury opposed the idea, saying it would mean indexing the pension to a figure that was not independently sourced.

Prime Minister Kevin Rudd first wrote to Mr Swan about increasing the age pension on March 12, a few days after media reports raised the possibility the $500 pension bonus paid by the previous government would not be continued by Labor.

A series of emails between the Treasury and the Department of Families and Community Services followed, ending in a cabinet submission on March 25 and a briefing for the Treasurer on April 16.

Most of the options considered by the departments were blacked out in the documents released under the Freedom of Information Act.

During the past week, ministers including the Prime Minister, the Treasurer and the Deputy Prime Minister have conceded they would be unable to live on the single age pension of $273 a week.

The documents suggest that they have had options before them for increasing the age pension for six months.

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Meanwhile the ABS is doing its best...

...to get good statistics

Today's Adelaide Advertiser reports:

"An 85-year-old stroke victim and his 80-year-old wife have been threatened with fines of $110 for every day they refuse to be part of an Australian Bureau of Statistics employment survey.

Antonia Van Den Berg and her invalid husband, Bert, of Kilburn, are among 27,000 households used by the ABS for its monthly survey to determine the nation's official unemployment rate.

Mrs Van Den Berg has told the ABS she and her husband do not think their views on the job market are relevant – they would not be looking for work, and were tired of being asked questions about employment.

"I just want them to go away – we are so old and we don't want to be pushed around and told we will be fined $110 a day as punishment," she said.

"They are asking us things like how many hours we work, which is just silly, and they demand to be let into the house and demand we answer questions."

Mrs Van Den Berg said she could not sleep because of the threats and was scared of being fined."

Continued...

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What if you couldn't trust the employment figures?

A surprise dive in Australia’s unemployment rate has thrown future interest rate cuts into doubt.

The unemployment rate fell from 4.3% to 4.1% in August as an extra 14,600 Australians found new jobs, half of them in Victoria.

The official figures suggest that an extra 8,659 Victorians found jobs in August, more than reversing the slide of 7,880 in the previous six months.

But the are less reliable than in the past...

The Bureau of Statistics has warned that monthly changes in the state totals are subject to greater than usual margin of error as a result of its decision to cut the number of households it surveys by 24%.

The nationwide boost in employment – the 13th in 14 months – will be treated as a mixed blessing by the Reserve Bank.

“The jobs market is likely to soften in coming months, but at the current time its clearly in great shape,” said CommSec economist Craig James.

“The Reserve Bank will no doubt be restrained in its celebrations, worried that the tight conditions could drive up wages. It certainly doesn’t need to be in a rush to cut interest rates.”

JP Morgan economist Stephen Walters agreed, saying the news showed that the Australian economy was “not, after all, on its knees”.

“It is not in urgent need of resuscitation. We expect the Bank to delay the next rate cut until December.”

BT economist Chris Caton said the news was consistent with this week's reports of a rebound in consumer confidence and retail sales.

“This doesn't mean that things are rosy; only that there is no reason to use that other “R” word – recession,” he said.

“There almost certainly are more rate cuts in the pipeline, but the chance of one next month is now less than 50%.”

Every state other than NSW and South Australia recorded an increase in jobs last month. NSW has by far the worst unemployment rate in the nation at 4.9%. Victoria's has improved from 4.6% to 4.3%. Western Australia has the lowest unemployment rate in the nation at 2.8%.

The Treasurer Wayne Swan described the employment figures as “solid” and said he was confident that the Bureau of Statistics cutbacks had not made them inaccurate.

“I rely on the accuracy of the Bureau like everyone else does, and the statistician vouches for these figures. So I think people can make up their own mind,” he said.

But Westpac economist Anthony Thompson said the cutbacks had made the figures much less reliable.

While the Bureau of Statistics reported that the total number of Australians with jobs had increased by a seasonally adjusted 16,600 he could only be confident that the true result was somewhere between a slide of 45,800 and and a increase of 120,800.

“The month by month changes are volatile and noisy,” he said.

Employment growth has slowed to 12,200 per month this year from 21,900 per month last year.

Most of the new jobs are being created in mining and farming, with employers in construction, retail and manufacturing industries shedding jobs.

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Beyond satire

NSW. The latest update.

Why oh why didn't we kick out this government on either of the last two occasions when we had a chance?

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Happy days are here again - for some of us

Suddenly we're optimists again. Or at least half of us are.

The combination of tax cuts, interest rate cuts and lower petrol prices appears to have brought on a surge in consumer confidence in the past month - amidst a certain type of consumer.

Men are feeling very good – perhaps because they've got more of the tax cuts than have their partners.

For the first time in a year more of them feel good about the economy than feel bad, albeit by a small margin. Optimistic men outnumber pessimists by 0.08%.

By contrast the latest Westpac Melbourne Institute survey suggests that women feel overwhelmingly negative...

...with pessimistic women outweighing optimists 15.7 per cent.

Both genders report feeling better after the interest rate cut - but men by 9.7% and women by 4.6%.

There's a similar divide when it comes to home ownership. Australians who have already paid off their houses weren't much moved by this month's interest rate cut, feeling just 2.4% more confident. But Australians still tied to a mortgage jumped in confidence 10.8%

Westpac's chief economist Bill Evans described the result as "remarkable". Consumer confidence soared 7.0% in September after jumping 9.1% in August – a compound jump of 16.7% - one of the biggest this decade.

The London-based strategist at TD Securities, Stephen Koukoulas says the resilience fits in with other data that suggested that the Australian economy will now not be heading into a recession he feared.

But it suggests that the Reserve Bank's program of interest rate cuts will be more muted, "certainly less than the market currently has priced in".

"With consumer sentiment on the rise and with it, consumer spending likely to increase, demand may well underpin price pressures.

Inflation may well stay sticky. As a result, interest rate cuts will be small and infrequent," he says.

The Treasurer Wayne Swan said while he welcomed the boos in confidence Australians should not get "too excited".

"It is only one figure, but it does highlight the benefit to family budgets of the tax cuts we delivered and of course this month's interest rate cut."

Middle income earners appear to have been the most cheered by the tax and interest rate cuts, boosting their confidence by 22.5% in September. By contrast Australians earning above $60,000 were only 4% more confident and Australians earning less than $40,000 were 7% more confident.

Most of the change in sentiment relates to feelings about the future. When asked whether not was the right time to buy a major household appliance only 33% of those surveyed said yes. 45% said no.

Other figures released yesterday show that new borrowing fell 1.3 per cent in July, it's sixth consecutive monthly fall.

But the confidence survey provides grounds for optimism about future borrowing.

41% of Australians surveyed in felt that now was the right time to buy a house, up from 32% in June.

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Lots of prizes!

Yep! It's one of the really bright ideas in the Cutler Innovation Review, named Venturous Australia.

It's in the excellent Chapter 7:

Recommendation 7.1: The Australian Government should experiment with the use of prizes to stimulate innovation. funding should be modest - say $5 million over two years with an external evaluation after three years.

What's so bright about the idea?

Patents (meant to stimulate innovation) are turning out to stifle it.

They are being granted for ideas that once wouldn't have been patentable, where they stop innovation until the patent expires.

"In the words of Sir Isaac Newton, we stand on the shoulders of giants. Because new knowledge always builds on old knowledge, the property rights we have erected to encourage innovation can actually obstruct it."

The report wants intellectual property treated as an economic, rather than a legal question. "It should make the same transition as competition policy did in the 1980s and 1990s to being managed as such."

Just as we began examining import protection on its economic merits we should begin examining IP protection on its economic merits.

But prizes as an alternative?...

Well think about what people will do to get a knighthood, or an Order of Australia.

In Queensland, some of them did a lot.

According to a study of the International Who's Who Australia is one of the top 5 countries in the world for awards per head.

But using them instead of patents?

The US Senate is/was considering The Medical Innovation Prize Fund Act of 2007.

The idea:

"The level of funding for medical innovation prizes would start at $80 billion per year, and increase with the growth in GDP..

The patent system would still be used, but the patent owners would no longer be given monopoly rights to control the manufacturing and sale of products. Instead, patents would be used to establish who "owns" the right to the cash rewards given for new inventions. Drugs developed without patents would also be eligible for the prizes."

HT: Marginal Revolution

A new book called Against Intellectual Monopoly argues that the patent system was rotten from the start.

The authors say James Watt, inventor of the steam engine was a "scoundrel" who with his politically-connected partner Matthew Boulton used the patent system to crush their innovative opposition and delay the industrial revolution.

"During the period of Watt's patents, the United Kingdom added about 750 horsepower of steam engines per year. In the thirty years following Watt's patents, additional horsepower was added at a rate of more than 4,000 per year. Moreover, the fuel efficiency of steam engines changed little during the period of Watt's patent; however between 1810 and 1835 it is estimated to have increased by a factor of five."

HT: MR. Some dispute this.

A prize for his really bright idea might have been better.

Joshua Gans proposed them in his submission to the review.

John Quiggin and Dan Hunter touch on some of the ideas in a paper entitled Money Ruins Everything.

Here's something else from Chapter 7 of Venturous Australia:

Box 3: Some examples and principles of targeted transparency

In their book Full disclosure: the perils and promise of tranparency American scholars Archon Fung, Mary Graham and David Weil outline a range of regimes that mandate disclosure to consumers which were designed to improve information flows. The two most successful examples of what they call ‘targeted transparency’ demonstrate the link between good information flows, demanding customers and innovation.

Los Angeles required restaurants to display prominently on their front window the rating they had received for hygiene from the government regulatory regime. Importantly the rating was to be displayed as a simple ‘A’, ‘B’ or ‘C’ classification which was easily understood by consumers.

With this information so prominently available to consumers, consumers were more easily able to demonstrate their preferences. Virtue in such matters became its own reward; and perhaps more pointedly, vice became its own punishment. The public’s unsurprising distaste for bad hygiene kicked off a vigorous race to the top with restaurants striving to move up the ladder, particularly from a ‘C’ grading with a range of beneficial impacts, not least lower admissions to hospitals for food poisoning.

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An innovative innovation revew?

We'll see

The Innovation Minister Kim Carr will releases the Review of the National Innovation System in Melbourne at 2.30pm.

The members include Terry Cutler, Nicholas Gruen (well-known to readers of this blog), Steve Dowrick of the ANU, and Glyn Davis, the co-convenor of the 2020 summit - so it might be good.

"The review has made a broad range of recommendations including innovation in business, strengthening people and skills, excellence in national research, information and market design, and taxation."

It'll be here.

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"Being debt free sounds terrific . . .

...until you ask the economists’ question: at what cost?”

Nicholas Gruen with an excellent column in today's Financial Review.

It's about how NSW Labor dug its own grave.

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The thoughts of Governor Stevens

On the two interest rate rises earlier this year:

“I don’t think they were unnecessary. I think they had to be done.”

On rate cuts to come:

“I can’t come here and precommit or make a forecast about what the board’s going to do in forthcoming meetings.”

On recession:

“I think it would be dishonest to deny that there’s any possibility at all of recession. There's clearly some probability of that.”

On working families:

“I think it’s been tough for many of them, particularly those that are indebted.”

On the banks:

“To be frank I think it is unlikely that the banks will volunteer reductions in loan rates independently of the Reserve Bank lowering the cash rate.”

Details follow...

Australia’s Reserve Bank Governor has evoked the concept of a recession while warning that Australia’s unemployment rate is set to increase to well above 5%, adding an extra 100,000 people to the unemployment queue.

In his first appearance before the parliament’s economics committee since cutting interest rates by 0.25 per cent last week Governor Glenn Stevens said the banks; future decisions would be about whether to cut rates further, not whether to raise them.

“We have moved from a phase where the question was whether we had done enough to make sure inflation will come down over time, to one where the question will be whether we hold rates here or go down even more,” he told the Melbourne committee.

Asked whether the Reserve would be cutting rates again Mr Stevens replied that he did not want to pre-empt decisions to be made by his board, adding that the financial markets had priced in further cuts and that he had “no particular agenda to either dissuade them or encourage them any further”.

Although inflation would continue to rise, the battle to contain it had been won. It would begin falling within six months after peaking at 5%.

The challenge for the Bank would be to ensure that it brought about a soft rather than a hard landing.

“I think it would be dishonest to deny that there is any possibility at all of recession,” the Governor said.

“There is clearly some probability of that.”

“The risk of recession is not zero, but the most likely outcome is a gradual slowdown.”

Australia’s unemployment rate, at present 4.3%, should begin climbing within months.

Asked how high it would climb the Governor replied that Australia’s economic situation was similar to the “mid-cycle pause” of 2001.

“In that episode the rate of unemployment rose by a percentage point or so over the next year to 18 months,” he said.

An increase in Australia’s rate of unemployment from 4.3% to 5.3% would add more than 100,000 Australians to the unemployment queue, boosting the number of unemployed from 471,000 to around 600,000.

The number of Australians with jobs would continue to climb, although much more slowly than the number of people wanting work.

As the Governor addressed the committee the ANZ Bank revealed that its survey of job advertisements had recorded its biggest monthly side since 2001, collapsing 4.9% nationwide and by 7% in Victoria.

The Dunn and Bradstreet survey showed that business executives expected conditions to decline further in the December quarter.

The Governor said that consumer and business confidence had not “collapsed” but was merely low.

“What I would say about the Reserve Bank board is that these people that are pretty well plugged in to the business community, and I have not heard them speak of a collapse in confidence at all, in any of the discussions we have had, he told the committee.

“Perhaps they should get out more, Governor,” Steven Ciobo, the Opposition's small business spokesman said.

"I think they get around a fair bit," Stevens shot back.

The Governor said that Australian businesses appeared to have “enough confidence to have planned an enormous upgrade in investment spending.”

“I suspect that not all that investment will get done. It probably can’t get done actually. It would be too much for the economy to handle. But top me those plans do not seem consistent with a collapse in confidence.”

Told of a survey that rated Australian consumer confidence the second-lowest in the Governor said he did not think that was right.

“I myself think there are grounds for a fair bit more confidence in Australia than there are in the US, the UK or in most of mainland Europe,” he told the committee.

Mr Stevens said that in one respect the US sub-prime mortgage crisis had been good for Australia. It stopped the same sort of thing happening here.

“Some fringe players in the Australian mortgage market had lending standards not as bad as in the US, but they were prepared to take more risk.”

“Had this gone on for five more years we would have had more such lending.”

“I suppose it is in some way fortunate for Australia that US lending standards fell over when they did from that point of view,” he said.

While some Australian banks would be able to cut their rates independently of the Reserve Bank, he was not expecting them to.

“It's their call, but it doesn't strike me as likely,” the Governor said.


The reserve Bank Governor Glenn Stevens has nominated 3% as Australia’s economic speed limit telling the Parliament’s economics committee that demand growth faster than that is not sustainable.

“The economy’s potential to supply things probably rises at about 3 pc per annum,’ he told the biannual committee hearing in Melbourne.

“If demand is rising at 4% or 5% or 6% as at various years it has, sooner or later you are going to reach the point where you are stretching that supply capacity.”

“You want to grow above trend to use up the capacity when it is idle, but once you’ve done that you have to slow it down to the economy’s medium term growth in potential supply.

“It has to have a ‘3’ in front of it. You can’t have demand growth of 5% without a problem on inflation.”

Non farm economic growth had slowed to an annualised pace of about 2%.

“Our feeling is still that the low point will be lower than that. You can’t grow above average indefinitely,” he told the committee.

Economic growth was slowing rather than turning negative, and its composition had changed.

“Household consumption is probably a little weaker, investment is a little stronger and public spending is a little stronger than we had assumed some months back.

“GDP growth is if anything slightly higher than it seemed as if it would be some months back, although I think we’ll still get to the same low point in growth. “

“Maybe it will take a quarter or two longer than it would have.”

The Reserve Bank was reacting to the impending slowdown by cutting interest rates ahead of time.

“If you want to change lanes in you car you apply a bit of steering, but once you are heading in the right direction you straighten up,” the Governor said.

“If the economy is slowing you don’t push it down and down.”

“If you wait for the your target to be evidentially achieved before starting some adjustment you have waited too long.”

Mr Stevens said the global slowdown would on balance be good for Australia.

“At this point we would be considering the below average growth in the world economy - not a complete crash - quite helpful for dampening prices.”

He did not expect the slowdown to have too much effect on China.

“It is true that Chinese economic growth is slowing somewhat. They wanted to slow and they have done it because there has been evidence of overheating.”

But the resources that Australia sold China would continue to be in demand.

“If you visit China you will see the iron ore we sell in the enormous infrastructure that they are building.”

“My guess is they will continue to do that for some time, and if the economy slows too much they will adjust things and speed it up.”

The Governor said that this did not necessarily mean that commodity prices would climb further. Metal prices had already fallen and spot prices for coal were coming down.


Tim Colebatch: Glenn Stevens makes an unlikely optimist.

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