Watching the implosion of the American financial system from afar is a bit like watching a house fire from across the street – gruesome fascination coupled with pity, as well as fear that sparks will fly across to your house. The sparks are flying of cour
Watching the implosion of the American financial system from afar is a bit like watching a house fire from across the street – gruesome fascination coupled with pity, as well as fear that sparks will fly across to your house.
The sparks are flying of course and no one is safe, but the Australian economy is much better able to withstand the fallout than the US.
That’s partly because Australian banks are not crippled by the effects of mark-to-market accounting on balance sheets that largely consist of tradeable securities, as US banks now are.
If the Australian banks’ commercial loans were valued according to the discounts that are currently applying in the tradeable debt market, the write-downs would be horrendous. But happily local bank assets are valued at amortised cost – that is, on the assumption they will be held to maturity, and not traded, minus relatively small provisions for loss.
Most of the differences between the Australian and US economies these days are like that – they make this country more resilient; better capitalised banks, dramatically better terms of trade, a housing shortage preventing (for the moment) a collapse in house prices.
But there is one change in the Australian economy since the last recession that, surprisingly, could act as a hidden trap, and make some of the old rules about how the economy responds to shocks redundant.
It’s the growth in contracting, outsourcing and small business. It used to be that the most important thing to watch in assessing incomes, confidence and bank provisioning was the unemployment rate.
Almost everybody had a job working for someone else and wages were almost never cut, so it was only when unemployment rose that incomes fell and the economy got into trouble.
Over the past 15 years there has been a massive change in employment. These days far more people are contractors in some other form of small business, either because they want to be or, more often perhaps, because their employer contracted out their functions to get more flexibility.
The Government has encouraged this trend with a big gap between the corporate and personal tax rates, so that despite generally effective efforts by the tax office to prevent individuals being taxed at the corporate rate, it has seemed like a good idea to be a contractor instead of an employee.
The result is that the unemployment rate is no longer the benchmark it once was.
The fact that it fell in June from 4.3% to 4.2% cannot be taken to mean that household incomes are holding up and that mortgages will be serviced.
Apart from the near doubling of expenditure on fuel over the past 12 months, there has also been the drip of contracts lost or just reduced, and lower retail sales affecting many more families than ever before.
And at the same time as employment has become flexible, so that many more families’ incomes can fall without the loss of a job, gearing against these flexible incomes has increased dramatically.
Bank lending practices are, to some extent, still based on the old idea that as long as the borrower has a job, he or she can service the debt.
In an era of enormous competition for asset growth, in which marketing has replaced risk assessment as the key banking skill, borrowers with flexible incomes have been loaded with as much debt as those with a secure job.
Some of those loans are called “low-doc” – the type of lending that has boomed in recent years in response to the growth in small business. But most loans to contractors and small business are still full doc, and therefore not broken out in the statistics.
Now construction activity and retail spending – the two key sources of contracting and small business incomes – are responding to six years of rate increases, the rise in petrol prices and the fall in sharemarkets.
So don’t watch the unemployment rate to see how household incomes are going.
This first appeared in Business Spectator
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