We Are All Passengers

–“You say restructuring…I say default. You say liquidity issue…I say insolvency. You say either…I say either. You say bond auction… I say debtpocalypse. Let’s call the whole thing off.”

–Your editor was wondering what Louis Armstrong and Ella Fitzgerald might have to say about the cancelled bond auctions in Italy and Austria this week. Probably nothing, to be honest. They’d go out, have a nice dinner, listen to some good music, and maybe drink a bottle of wine. We might join them.

–But since we can’t do that at the moment, we’ll begin today’s reckoning with this: both Italy and Austria have cancelled upcoming bond auctions, according to Dow Jones newswires. Hmm. What could that mean? Well, Italy said it has plenty of cash and doesn’t need the money. Riiiight.

–Austria’s bond auction was scheduled for August 2nd. That’s the date US Treasury Secretary Tim Geithner has given the US Congress for raising the US debt ceiling. Were the Austrians and Italians worried about a failed sovereign bond auction? Were they worried that as the US gets closer to debt default, global investors will be terrified to loan money to government borrowers?

–Who knows? We don’t have a direct line to the Italian and Austrian bankers. But we can watch bond spreads. The bigger the difference between 10-year yields on Italian and German debt, the bigger the bet investors are making that Italy is going to eventually join Greece in Moody’s triple junk drawer.

–Indeed, the Journal reports, “On Monday the yields spreads between Spanish and Italian 10-year bonds and German bunds widened more than 0.3 percentage points. Some market participants warned before the summit that the result would likely be a short-term relief rally in peripheral euro-zone bonds, followed by gradual, renewed spread widening.”

–Australia has nothing to fear from Europe’s forthcoming insolvency crisis, says Malcolm Edey, an Assistant Governor at the Reserve Bank of Australia. In a speech yesterday he said, “The Australian banks have only limited direct exposures to sovereign debt in the countries regarded as being most at risk. So potential effects on Australian banks’ overall asset quality are not an issue.”

–Okay. If you say so.

–Mr. Edey pointed out that Australian banks have increased deposits, thanks to higher savings rates here in Australia. He says the banks have lessened their reliance on short-term funding through international markets. This makes them less vulnerable to a capital crisis originating in Europe.

–But we have to say that his sanguinity regarding Australia’s exposure to Europe’s debt risks is…alarming. The superficial observation he makes is that Aussie banks don’t own a lot of European government bonds. You can’t lose money on something you don’t own, right?

–That’s not the full picture though. The value of assets on Australian bank balance sheets is directly related to global credit growth. Aussie house prices rose for the last 20 years because of a global bull market in credit. Now we’re in a bear market for credit. Yet most Australian analysts—like American analysts in 2006—are convinced asset quality is not an issue.

–It will be when house prices fall by 40%.

–It’s strange that Edey doesn’t think asset values might fall if credit contracts in Australia. After all, he acknowledges that the bull market in credit is over. He says:

It seems unlikely that we’ll be going back to the days of consistent double-digit growth in lending that we saw in the pre-crisis years. That growth was driven in part by factors that can’t be repeated – the deregulation of the financial system in the 1980s, and the transition to low inflation in the 1990s. There was also a world-wide trend towards greater appetite for risk and leverage.”

–You can’t divorce double-digit lending growth from rising house prices. So how can you divorce much slower credit growth from a fall in house prices? Answer: by ignoring it.

–Speaking of banks and glitches, Westpac is at it again. The company has told Chris Zappone at the Age, “Westpac has experienced a delay overnight in the processing of some payments to and from other banks.” Customers of the Commonwealth Bank—a share we discussed yesterday—were also affected, according to the article.

–About these glitches…it’s perfectly plausible that updating complex computer networks and systems is an error-prone process. Lord knows we’ve had our own troubles with information systems in the past that have resulted in an inconvenience to our customers. It happens.

–One possibility that should not be excluded, or should at least be thought about, is that the complex IT networks we thoughtlessly rely on each day are incredibly prone to deliberate attacks. If someone or some group set out to hack and attack the modern payments system, they could do a lot of damage. And the payments system is just one in a large system of IT systems.

–Modern telecommunications have brought us a lot of convenience. But when a network becomes a target, its vulnerability becomes apparent. This, by the way, is yet another reason to hedge against all-digital money. And it’s another reminder that if your money is in the bank, it’s not really your money.

–Finally, at least 38 people are dead in China after one high-speed train collided with another south of Shanghai near the city of Wenzhou. The accident did not happen on the recently opened Beijing-Shanghai high-speed rail link. And the trains were not China’s newest high-speed trains. But there are some worries.

–The accident appears to have been caused by a lightning strike that knocked out the power on the lead train. It sat on the tracks until it was struck from behind by another train. Six cars were derailed and four fell off the tracks to the ground below. Hundreds were injured.

–China plans to build 16,000 kilometres of new high-speed rail lines by 2020. It’s an ambitious and prestigious “nation building” infrastructure plan that showcases China’s emergence as a global economic super power. It would also require a lot of steel, which would probably require yet more Australian iron ore and coal.

–A knee-jerk reaction would be to say that accidents like this happen when credit-fuelled growth for its own sake hits corruption. China is simply building too much, too fast, to do it safely. There is probably some truth to this, although it’s also true that when you have rapid industrial expansion, you’re going to have accidents. We’re sure these sorts of things happened in 19th century America and Britain.

–But where China’s central control freaks probably went wrong is trying to cover the thing up. Again, to be fair, government control freaks are the same everywhere: suspicious, deceptive, and eager to conceal their own incompetence and fraud. China’s government apparently directed state media, “Do not question. Do not elaborate…” the word from the authorities is all-prevailing.”

–Hmm. That sounds like language straight out of Australia’s climate change debate. But anyway…

–China has more internet users than most countries have people. Stifling public discussion of corruption is nearly impossible. China’s government has tried harder than any government in the world to censor discussion. Still, one blogger tweeted:

“Thunder makes two trains collide.  A truck drives past a bridge, then the bridge collapses. You get kidney stones by drinking milk.  None of us is exempted.  Today’s China is a train running in the thunderstorm, and we are not outsiders.  We are all passengers.”

–Australia is a passenger on the China train too. China’s central planners have set themselves an unnatural and impossible task: unleash human ambition and potential in a nation of 1.2 billion people…and then try and channel and contain it through narrow political and ideological boundaries.

–You can’t expect to introduce that much energy and vitality into a complex system, and then be able to micro-manage freedom of thought and expression. Or can you? Hmm. We’ll think about this.

–In the meantime, China Railway Group stock fell by 7.7% yesterday as a result of the accident. This highlights the financial issue at stake for Australia—what happens to us if China’s high-speed industrialisation derails? Is there a way of hedging your risk to that catastrophic event? We’re working on that one, too.


Dan Denning
Markets and Money Australia

Dan Denning
Dan Denning examines the geopolitical and economic events that can affect your investments domestically. He raises the questions you need to answer, in order to survive financially in these turbulent times.

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6 Comments on "We Are All Passengers"

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Mr Edey, the Australian banks have to roll over $420 billion of debt between 2011 and 2015 and you say we narrowed the short term debt?

What do you mean by short term then spinner? 30 day rollovers is it? Now they pay more than our leading companies for their debt


But that doesn’t include our real estate companies who do hang off our banks, Westfield is now 120 points over the swap rate and Stockland getting up toward 200.


Interesting to look at the 6 month chart of BLY (Boart Longyear). Obviously the market doesn’t think the 6 month report will amount to much when released this week. Hire rates on resources extraction gear might be telling even if one of the clouts is sure to be the high AUD.


DD: “–It will be when house prices fall by 40%.”

Wondering when we’d hear _that_ old song again… .
(Little Stevie & The Easybleats, wasn’t it?)
One of the Top Ten six years ago! :D


I think you’ll find most of the bank’s glitches are around the really low bar for software testers. They’ve been doing perfectly well themself at taking their own systems out without hackers influence.

Ned S
“Were they worried that as the US gets closer to debt default, global investors will be terrified to loan money to government borrowers” One thing I don’t understand is why (by and large) anyone would want to loan money to gov borrowers anyway? What exactly do govs (by and large) do with their borrowings that is productive and can be expected to generate returns? Hmmm … OK, they built some infrastructure and provide some schooling plus provide a bit of law and order – which is handy for business people – But is there anything much else? Not that provides… Read more »

It’s the reliance on cheap none indigeonous staff that is a central theme to these bank glitches. One in particular in 2010 (the biggest one to date) was very specifically of Indian origination.

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