–What would you do today if you were deciding the price of money in Australia? Members of the Reserve Bank Board meet tomorrow to decide just that. The odds are the Board will do the safe thing, which is nothing. The cash rate should stay at 4.75%.
–The Bank doesn’t know yet how Australia’s economy will be affected by Japan’s earthquake/tsunami/nuclear crisis. Japanese manufacturing fell in March at its fastest pace in nine years. That’s about what you’d expect for a country that experienced a major natural disaster and then an on-going crisis at a nuclear plant.
–On this point, there is already evidence from William Pesek at Bloomberg that the problems in Japan are going to drive prices for manufactured goods up. Pesek writes, “Supply-chain disruptions are part of a bigger and underappreciated phenomenon: the extent to which Japan’s plight may worsen global inflation.”
–“Along with forcing executives to scramble for production options outside Japan — an effort that puts the pricing power in the hands of factory operators — this crisis places additional pressure on raw material and food prices. That’s horrible news for Asia, where central bankers have been scrambling to head off consumer-price gains.”
–But wait. The Financial Times reports that copper prices are down 8% from their all-time high of $10,190 in February. “There’s no question that Chinese consumption has slowed and we are seeing a build-up of stocks in many of the warehouses in the region,” said one senior metals banker. “The copper market is getting a bit tired at the moment.
–Armed with conflicting evidence about the short-term direction of prices, the RBA will probably take a wait-and-see attitude. This is probably a mistake. The RBA thinks the strong Aussie dollar ($1.04 and counting as we write) will contain inflation. It will keep the mining boom from overheating the whole economy.
–But what if the deflationary impact of Asian manufacturing that’s kept goods cheap for the last ten years is finally giving way to the inflationary impact of hot money financial flows driving up commodity prices? Producers finally have to pass on higher raw material prices to consumers, which means that inflation is showing up in food, fuel, and an increasing number of consumer goods.
–This is a terrifying scenario for central bankers. Asset price inflation=good. Consumer price inflation=bad. When asset price inflation leads to higher commodity prices for producers that are passed on to consumers, asset price inflation no longer equals good. Hence, as we mentioned in Friday’s update to Australian Wealth Gameplan readers, you should get ready for tough talk from central bankers about interest rate rises, and perhaps some actual interest rate rises in the U.S. and Europe.
–Because Europe and America have their own separate but roughly equal debt problems, these interest rate rises will be small and mostly cosmetic. But you’d expect stock prices to react poorly to increased rates. You might even expect a significant correction.
–A 10–15% fall in stocks and lower oil and gold prices are just what the central bankers need to justify another quantitative easing. But that could be several months away, after the correction in stock prices. That is one way of reading the tea leaves this April Monday, anyway
–Other signs of a top? Hong Kong-listed Minmetals Resources, an operating unit of China’s largest metals trader, is bidding $6.99 per share for Perth-based and Toronto-listed copper play Equinox Minerals Ltd. (ASX:EQN). Minmetals is offering a 33% premium to Equinox’s closing share price on Friday
–This is a big bet on higher copper prices. Specifically, it’s a bet that the supply deficit that’s driven copper up the last three years will last for two or three years. At stake is control of Africa’s largest copper mine. And interestingly, the deal is being financed by Chinese banks. We say “interestingly” because it would be a good example of Chinese banks using surplus cash to secure large tangible asset resources around the globe.
–Or it could be the kind of takeover you see at the top of the commodity cycle. Even more powerful evidence of that would be Glencore’s planned $60 billion IPO in London and Hong Kong. The Swiss-based Glencore is one of the world’s largest commodity traders. Its listing now reminds us an awful lot of when private equity firm Blackstone went public in June of 2007.
–Blackstone went public the same week Merrill Lynch threatened to take Bear Stearns to the woodshed. It was the unofficial beginning of the great contraction in global credit…and the end of Bear Stearns and Lehman Brothers and a long-list of leveraged firms here in Australia.
–But not the Big Four banks! In fact, we learned over the weekend that even though foreign banks accounted for 70% of the $110.7 billion in borrowing from the Fed’s Primary Credit Dealer Facility (PCDF), Australia’s banks were pretty circumspect with their emergency borrowing.
–Commonwealth Bank borrowed $75 million from the Fed on July 17th, 2008. It borrowed another $25 million on November 12th. But in public statements, the bank said it only borrowed the money to make sure it could. You know, sort of the way you test an emergency key to your front door, to make sure it works when you actually need it.
–Which brings us back to last week’s subject: the Reserve Bank of Australia. It won’t have to deal with any embarrassing revelations when it meets tomorrow. It can focus on fixing the price of money in Australia. In this respect, anyway, it functions the same way as the U.S. Federal Reserve.
–The Fed, of course, was established as a cartel of private banks back in 1913. The U.S. government contracted out the management of nation’s money, and the government’s banking, to a cartel of private banks. Those private banks have been using this arrangement to their advantage ever since.
–By contrast, the RBA didn’t formally come into existence until 1959 as part of the Reserve Bank Act. Its mission is nominally similar (and unachievable): price stability, full employment, general economic prosperity and welfare. But its board is not, at least at first appearances, entirely beholden to the banking sector.
–In fact, section 17 of the Reserve Bank Act stipulates members of the RBA’s board can’t be employees, officers, or directors of an authorised deposit-taking institution. This would, again at a casual glance, appear to make the board more independent of the Big Four. The Fed is controlled by its member banks. The Reserve Bank appears to keep Australia’s financial industry at an arm’s distance.
–Is that really the case? Hmm. We’ll see. You may have noticed last week that Donald McGauchie and Warwick McKibbin have not been invited back to serve on the Reserve Bank’s board once their terms expire. Both men have been critics of the RBA at times. Jillian Broadbent’s term will be extended five years. And later this month the Board will welcome Queensland-based Catherina Tanna, who is currently an executive vice president for BG Group and managing director of QGC.
–But the big question is this: whose interests does the RBA serve? The banks? The corporations? The government? Or Australians? To answer that, we’ll have to head back to the founding of the bank itself and the spiritual godfather of Australian socialism, Herbert Cole “Nugget” Coombs. Stay tuned…