To be a successful investor, one must be be aware of the sea-changes that are happening in the economy and financial markets. One of the sea-changes is in the line of central bank thinking. As we wrote in How are central bankers going to deal with asset bubbles?, central bankers are now more ready to deal with asset price bubbles than before. Previously, central bankers were targeting price inflation rate with their monetary policy while they stood idly by to let house prices form a bubble. As Glenn Stevens, governor of the RBA said today as reported in this mainstream news article,
Not only would it confirm that there are serious supply-side impediments to producing one of the things that previous generations of Australians have taken for granted, namely affordable shelter, it would also pose elevated risks of problems of over-leverage and asset price deflation down the track.
Please note that we are not endorsing the economic literacy level of that news article. Rather, we are quoting Glenn Stevens to show you what is going on inside his mind. The RBA is also hinting repeatedly that the next move in interest rates is up. Basically, the RBA is telling Australians this: you better wake up from your old ways and get serious about repaying your debts because the party is over.
This line of thinking is in sharp contrast to China’s central bankers, who are allowing a debt bubble to grow (see Is China setting itself up for a credit bust?) and spill over into asset prices (e.g. property and stocks).
The next sea-change is the change in the line of thinking from our dear Prime Minister, Kevin Rudd. He wrote in his essay published a few days ago,
The roots of the crisis lie in the preceding decade of excess. In it the world enjoyed an extraordinary boom… However, as we later learnt, the global boom was built in large part on a three-layered house of cards.
First, in many Western countries the boom was created on a pile of debt held by consumers, corporations and some governments. As the global financier George Soros put it: ?For 25 years [the West] has been consuming more than we have been producing … living beyond our means.”
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Second, these debts were racked up on the back of sky-rocketing asset prices. In several countries, stock prices and house values soared far above their true long-term worth, creating paper wealth that millions of households used as collateral for their growing debts.
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This crisis has shown we have reached the limits of a purely debt-fuelled global growth strategy. Not only will the neo-liberal model of the past not provide growth for the future, its after-effects will make recovery more difficult. Mountains of global public and private debt, global imbalances, and a weakened global financial system will drag on global growth for a long time. As the renowned financial columnist Martin Wolf has written: “Those who expect a swift return to the business-as-usual of 2006 are fantasists. A slow and difficult recovery, dominated by de-leveraging and deflationary risks, is the most likely prospect.“
This had been what we were arguing for a few years already (see Aussie household debt not as bad as it seems? on January 2008 and The Bubble Economy in October 2006). Kevin Rudd has finally understood the root cause of the GFC- spendthrift ways financed by rising debt using bubbly asset prices as collaterals. Now, he acknowledges that de-leveraging (repayment of debts) will be the fashion for a long time, in contrast to the past few decades of increasing debts. For many Generation Xs and Ys, the change from profligate to more frugal ways will be alien to them.
Unfortunately, as the mainstream always do, both the RBA and government is one-step behind.
The global economy is like a heart-attack patient on a life-support system. He faced a near-death experience in the second half of last year. Today, his condition has stabilised. But it will be a long time before he will fully recover and be fit enough to run again as in 2007. What the government is doing today is to inject more steroids (targeted stimulus spending financed by public debt) in the hope to see the patient running as soon as possible. The result is a walking zombie on life-support system (massive liquidity injections via ‘printing’ money).
As we wrote in Marc Faber vs Steve Keen in inflation/deflation debate- Part 2: Marc Faber?s view, the government is in danger of painting itself into a corner with no exit strategy (even though they’re talking a lot about it). If the exit strategy fails, we know the result is very high inflation (maybe even hyper-inflation).
Tags: asset price bubble, de-leveraging, Glenn Stevens, Kevin Rudd, RBA, stimulus
