In the past week, the Australian dollar has fallen below parity for the first time in months, the Australian sharemarket has suffered its worst day since March and consumer confidence has remained stubbornly low, despite a 50 basis point rate cut.
And it all has to do with Europe.
The Greek financial situation has become even worse overnight as fresh elections were called for June 17. In the meantime, investors are becoming even more nervous and fears of another financial crisis are crippling consumers.
And even ANZ chief executive Mike Smith has entered the fray, saying he thinks it’s now likely that Greece could have to leave the euro zone.
“The issues in Europe are going to continue to be very difficult and it’s not clear what the answer will be,” he told The Australian Financial Review.
It’s all very confusing for the entrepreneur who’s handing all the indirect effects of the Europe crisis, especially as it affects consumer spending.
So to explain exactly what’s going on here, we thought it’s time for a SmartCompany Q&A to inject some sense into the current situation.
The European financial trouble seemed to go away last year. Now everyone’s talking about Greece getting kicked out of the eurozone – what the hell is going on?
It’s a bit of a different story, isn’t it?
Last year several countries including Ireland and Portugal managed to score some money from the European Union and the International Monetary Fund. And while those economies are by no means speeding along – Britain and Italy have fallen back into recession – they’re certainly not in a terrible position.
It also seemed like Greece would get everything together. But now that’s changed.
But if they agreed on a plan, why the sudden change in sentiment?
Greece has actually agreed on two separate plans. The first involved 110 billion euros provided by the EU and IMF. That was approved last year, but it brought with it harsh austerity measures the Greek public didn’t take too kindly at all.
Fast forward to this year. Investors in Greek debt agreed to substantially write down their holdings as part of a new bailout plan – that was back in February and March, when economists were hopeful the country could right itself again.
But the second part of that plan, which includes a 130 billion euro payout, is the problem. In order for Greece to get the money, it has to implement some of those harsh austerity measures again – and the public doesn’t like that one bit.
But surely the Greek government can sell this as something they have to do to get the economy back on track?
They did. Except when Greece held elections last week the public delivered a savage reaction to the cuts.
The vote was split. On one side, there’s the conservative New Democracy party, which had been working with the EU to implement the austerity measures associated with the bailout.
On the other side, you have the socialist Pasok party, which has campaigned against the austerity measures vehemently.
Since no government was formed, there will be new elections on June 17.
And so what happens then?
If the conservative New Democracy party wins, the best scenario is that austerity measures are implemented, the bailout funds are received and investors are relieved.
The “nightmare” scenario, as some economists are calling it, is that a party is elected which doesn’t agree to the austerity measures, the bailout funds aren’t received, and Greece defaults on its debt.
I’m not quite seeing how this affects Australia.
None of this directly affects Australia. The only way it could affect us directly is through trade and we don’t do much trade with Greece.
The real impact is through indirect channels – the sharemarket, bank funding, the dollar, and consumer confidence.
Whoa, one at a time. Let’s start with the sharemarket.
Sure. The Greek woes are having a huge impact on shares. Yesterday the ASX had its worst day in two months and this morning it’s already fallen another 0.2%.
The problem is Asia; or, more specifically, Asia’s ties with Europe. Europe takes about 25% of Chinese exports, but as the Greece situation gets worse, other countries in the euro zone are affected. Exports drop, and China’s demand for raw materials drops as well.
In fact, that’s exactly what BHP chief Marius Kloppers was suggesting this morning.
Unlike the American sharemarket, which is more focused on domestically-based companies, the Australian sharemarket is filled with companies that are exposed to international crises – banks and miners.
When these two areas start going into panic mode, shares fall. That’s what’s happening now.
You mentioned bank funding. How’s that going to be impacted?
If Greece defaults on its debt, banks could stop lending to each other, leading to another credit squeeze. That means upwards pressure on mortgage rates, even if the RBA decides to cut the official cash rate again.
And, as we all know, consumers and businesses love a rate cut. If the RBA cuts rates, and banks can’t follow through, people are going to hold on to their cash.
More than they are already? That’s hard to believe.
The consumer confidence situation is certainly a worry. In yesterday’s Westpac consumer sentiment index, although confidence rose, it’s still under October levels – when interest rates were actually higher than they are now.
The interest rate cut from earlier in the month will help a lot of industries, but as Westpac chief economist Bill Evans pointed out, the European situation is having a key impact on confidence.
“Increasingly disturbing news around Europe and specifically Greece is likely to have unnerved households.”
If Greece can’t get a plan together, that’s only going to continue, which means more pain for retailers, and specifically the construction industry as well.
Okay. So how is the dollar affected here?
Same way the sharemarket is being affected. Investors get less confident in “risky” currencies and, as the global financial situation deteriorates, head to safer investments.
It also doesn’t help that interest rates are being cut, which was the one thing attracting many investors to the Australian dollar over the past 18 months.
But wait – if the dollar goes down, that’s good for some people, right?
That’s true. Exporters are already grinning ear to ear that the dollar has fallen below parity. If it stays there for a while, they can lock in some long-term contracts to get a fatter margin – and banks have already downgraded their currency forecasts for June.
It may not be great for people travelling overseas or for shoppers buying on international websites, but for exporters this is a great move. And for retailers too, as some people might opt to buy products locally rather than online.
So what do we do in the meantime?
Do what you can always do – focus on your cashflow and keep a close eye on the market. It’s good to be aware of what’s going on in Europe, especially if another downturn is going to hit Australia.
But entrepreneurs should be encouraged, especially if you’ve survived the last financial crisis. You can do it again. Focus on your cashflow, chase after your debtors, and then make sure to keep your marketing up – now is not the time to shy away from new business.