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Henry Thornton - Contributors: A discussion of economic, social and political issues Blogs
Europe stuffed, US stagnating; Asia growing
Date: Thursday, November 03, 2011
Author: Henry Thornton

One of Henry's most read blogs was posted on 1 November 2007.  Its heading told the story 'US recession inevitable; China unstoppable'.

The visiting guru, like Voldemort whose name cannot be spoken, has returned to Australia for his annual visit, slightly peeved that his visit coincided with the horse race that stops a nation, as this reduces his opportunity to practice his guruship.

Henry caught up with said guru thanks to the good offices of Shane NcNeice.  His headline on this occasion might be 'Europe absolutely stuffed; US to struggle for a decade or more; Asia to grow strongly'.

(Alert readers will see that Henry has no future as a writer of headlines.)

'Greece will default' was the opening salvo.'Its public service is overstuffed; it joined the EU with dodgy numbers simply to get German rates of interest and borrowed far too much; the New Drachma's are already printed so Greece can cut wages by devaluing, which is far more palatable than cutting wages by 50 %'.

'There is no way they can avoid default; the Germans are simply not gonna pay; Greek debt will be written off 100 %; Greek banks will be bankrupt, and the State owned German banks and French banks, who also hold a lot of Greek debt, will be in trouble'.

'Greek debt default and interbank loans will freeze the Eurozone banking system which will need to be recapitalised'.

The guru acknowledged that US banks will not be immune as they are heavily involved in the Eurozone interbank market and have like Lehman Brothers issued a lot of credit default swaps that will be triggered when Greece defaults.  Like Lehman Brothers, we know there are a lot of these instruments out there but the statistics are almost non-existant.

When questioned the guru agreed that, 'within a year', Portugal, Ireland, Spain and Italy would also default. While the guru implied that all this Eurozone mayhem would largely be contained within Europe, many in the audience, including Henry, wondered how this could be possible.

'Mrs Merkel has no interest in solving this problem', the guru added. 'She just kicks the can down the road.  The crisis is keeping the Euro low, and with low wage increases and subdued labor costs in Germany this is helping to make German industry incredibly competitive'.

'There are no jobs in Greece (or the other weak nations of Europe) for young people who are queuing up to emigrate'.

'The big central banks are printing money 24/7; banks are not lending but accumulating cash to cushion themselves when the defaults are triggered.  The latest statistics show US base money grew by 37 % in the year to September'. Henry observes that Milton Friedman must be spinning in his grave.

'The US budget deficit is 9 % of GDP, or $1.3 trillion. The Democrats want to raise taxes, and the Tea Party Republicans want to cut spending.  There is complete political gridlock. Bene Bernanke is printing money like crazy and using most of it to buy government securities - eg $855 billion of that $1.3 trillion deficit.

'Foreigners are reaching their limit for buying US Treasuries and China is selling down'.

Warming to his task, the guru noted (to Henry's delight) that there aret two sorts of inflation - goods and service inflation and asset inflation.

Goods and service inflation is dead in the USA, as it was for 40 years after 1929.  Young people who can't get jobs will be 'scarred for life' and except for food and energy there will be no goods and services inflation.

'But asset inflation is everwhere, even asset bubbles.  The Australian dollar is a bubble, US Treasuries, Gilts, JGBs, even London houses, which are being purchased by Arabs, Russians, Indians and Chinese, are bubbles'.

'Eventually there will be a Northern Europe Euro and brutal readjustment in the South. We're talking about social revolution'.

There will be stagnation or slow growth in most of Europe and the USA, 'at least a decade of austerity'.  Demographics will also hinder Europe, where indigenous Europeans are not replacing themselves, except in Sweden where there is two years paid maternity leave'.

'China is allowing wages to rise so that consumer spending can replace exports.  China knows what it is doing'.

'There will be no war in Europe.  The most likely war is between China and Russia over Siberia - a vast, resource rich area largely empty and unexploited'. (Henry kept his thoughts about a similar rich, lightly populated region to himself.)

'What about Australia?' a brave soul asked. 'Australians will feel very rich when the Australian dollar hits US$1.20, but there will be a lot of industrial unrest, like the UK in the 1970s'.

We thanked the guru in the traditional manner and Henry presented him with a copy of Great Crises of Capitalism. With appropriate modesty , it may be appropriate to say that some of this book's themes are similar to those of the guru, though stated in generally less colorful language.

The group then retreated to Vlados for a traditional (and consoling) dinner of lightly cooked meat, salad and red wine. The guru drank only coke.

RBA`s next major dilemma
Date: Friday, October 03, 2014
Author: Henry Thornton

'Be careful what you wish for' is a useful piece of advice for naive youngsters.  But one assumes that grown-ups do not need reminding about such an important matter.

The RBA has been confronting dilemmas.  Policy #1, cut interest rates more than is strictly needed to control domestic inflatiion to discourage the excess capital inflow that has been keeping the dollar so high. To little, too late, Guv'nor Glenn. Already whole swathes of existing globally sensitive industy is weakened, and in some cases decimated.

With Policy #1 'working', watch the housing market take off, fuelled by overseas buyers and local investors, 'crowding out' (foregive the technical term, gentle readers) local potential home owners. The frustrated domestic home owners include the young people who are further discouraged by the enormous difficults in getting jobs, partly because of the dire effects of Policy #1, the non-policy of letting the Aussia dollar rip.

At least the RBA seems to have spotted the fallacy of trying to introduce Policy #2, raising interest rates to slow rampaging house price inflation.  They have handballed responsibility of containing house price inflation to APRA, as the designated custodian of 'counter-cyclical Australian macroprudential policy (C-CAMP).  Let's hope APRA does not respond with 'Que?'.

Now the Aussie dollar is on the skids, helped along by falling iron ore prices. Now that iron ore prices have halved from their peak, the fall in the Aussie is likely to become precipitous, to the point of being damaging. An economy cannot restructure on the whim of international currency speculators, which is why policy #1A was proposed here almost two years ago.

A distinguished friend provided Henry with some chilling arithmetic. 'When the commodity boom was at its peak, the current account deficit was around $17 billion. What it will be now commodity prices have collapsed is anybody's guess, but it will not be pretty. Overseas investors are likely to abandon Australia, forcing the dollar even lower. (As you know, Henry, financial markets almost always overshoot.)

'A much lower dollar will be very damaging for the banks, who still fund a lot of their lending from offshore.  And now it seems punters are waking up to the risks with so-called 'hybrid' securities. Remind your readers to 'Fasten seat belts' Henry.  There has never been a commodity boom that ended well. You predicted recession more than a year ago - and here it comes. And domestic inflation will soon be the problem du jour, and the RBA will have another dilemma. Bloody hell!'

'The glass shall be dry, Henry, not just half-empty'.

ISIL, ISIS, Islamic State, whatever.

Gary Scarrabelotti shares his thoughts on developments in the Middle East and suggests an approach, including 'No boots on the ground', at least for now.

Even if Islamic State were one day to control a territory that stretched from Damascus to Baghdad, Gary says, that would not represent, in and of itself, a strategic threat to Australia.

True, the glamour won by Islamic State, for upending the political geography of the Middle East, would drive waves of influence across the globe and inspire would-be Sunni insurgents elsewhere.  And true, it would be a real worry for Australia if, for example, Islamic State imitators were, one day, to take hold in some part of Indonesia and could not be rooted out.  That would have strategic implications for Australia. Right now, though, that’s a far-off scenario.

Long before that could happen, an Islamic State triumph would energise its natural rivals: Iran, certainly; and, very likely, both Turkey and Saudi Arabia. With any great Islamic State victory, the survival instincts of its neighbours would kick in.  The result would be general war in the Middle East.  It’s a war Australia would not need to fight, any more than we needed take sides in the Iran-Iraq War of 1980-88.

So why are we so agitated, then?

It comes down to our “light on the hill” social experiment with culturally colour-blind immigration. We imported the Middle East into our suburbs.

So, yes, we do have a problem. Do we, however, have to go to Iraq (and maybe also Syria) to remove the temptationto join jihadthat Islamic misfits into our society find so alluring?

No, I don’t believe so.

Our focus should be on pre-empting terrorist attacks in Australia.  As for cutting off the supply from our shores of recruits to foreign wars we don’t like,well, I wouldn’t make it a priority.  If it were up to me, those who want to ‘do’ jihad in foreign climes, I’d let them go: give them time to reach their destinations, cancel their passports, and let fate take its course. The prospect of being rendered stateless should, in any case, sober up a certain number of angry young men. Genuinely penitent jihadis could always be re-issued with a passport as an act of mercy.

Read on here.  

Saturday Sanity Break, 27 September 2014
Date: Saturday, September 27, 2014
Author: Henry Thornton

The coalition of the willing is beginning its task of dismantling the Islamist fanatics with overwhelming air power, but one naturally wonders if this job can be done effectively even with lots of boots on the ground.  There are many different views on whether the current approach (without Western boots) can work but, with the terror coming to Western nations so decisively, what other approach is feasable?  We sincerely hope that moderate Muslims, of whom there are many, rally around team Australia at this difficult time.

The efforts of disaffected youths is a particular problem.  With middle class youth in the affluant suburbs of Melbourne finding it difficult to get jobs, one has great sympathy for young unemployed people in the poorer areas of our great cities. Poor parenting must be part of the problem, and the stories about the parenting of some of our indigenous football stars in today's press shows it is possible to do a good job in even the direst circumstances.  Australia must fix the jobs crisis as part of any anti-terror  program that has a chance of working. Is the Labor opposition willing to embrace this notion?  Time to ask them, Mr Abbott.

A close friend has pointed out that Australia has embraced many immigrants, on balance at great benefit to the nation. But perhaps the skeptics about large-scale immigration from troubled parts of the world have a point.  Henry's friend said: 'I never thought I'd see the day when police and military personal, including school cadets, are instructed not to wear their uniforms when travelling about. I understand why this is necessary, but what a comment on an overly generous "multicultural" immigration policy'.


Henry found some supporters at 'The Melbourne Forum' this week, as reported here. The economy is in a parlous state, and headed for 'The recession we did not need to have'.  The powers do not seem to understand, but it now seems certain that the problems of insufficient jobs, especially for already disaffected youths, are likely to get far worse.

Yet the budget deficit we do not need to have - check New Zealand if you doubt this assertion - is still mired in the Senate and there is very little sound policy on offer, although the BCA's efforts are worthy of praise.

3D printing - this is a vital part of a viable part of a modern manufacturing industry, and here is a nice illustration.

Film piracy is also a key activity for disaffected youth.  The good guys in this debate are removing the excuses of pirates by offering small if any times between release overseas (especially the USA) and reasonable fees, though US levels will be hard to achieve with Australia's relativey high levels of costs.  More here.

Did you see the report this year that average levels of wages in US mines are twice Australian levels?  Even truck drivers in mines are being replaced by robots, gentle readers.


The AFL season comes to an end today, barring a draw in the Grand Final.

It promises to be a battle for the ages. Sydney Swans have the 'Bondi billionaires' plus a bunch of home grown, well drilled stars from previous finals campaigns.

Hawthorn, last year's champion team, has lost Buddy to Sydney but is full of even more well drilled stars with a relentless commitment to winning whose tradition was established by 'Kennedy's commandos all those years ago.

The pundits are mostly favouring Sydney, but all of them think it will be close, so a draw is a distinct possibility. Sadly, Henry cannot say 'Go Blues'.

But, in fact, what a boilover.  Hawthorn was relentless and brilliant, to the point that Sydney seem shell-shocked from the get-go. Hard to watch, and indeed Henry switched off at half-time. Lot's of implications for 2015, but it would be best to enjoy the festive season and some cricket before thinking about this generally depressing subject..

Image of the week - iron ore mine working a low level.  (More paintings here.)

Monetary policy, asset inflation and the exchange rate
Date: Thursday, September 25, 2014
Author: Henry Thornton

As widely reported, the RBA's latest Financial Stability Report has confessed concern at the hot property market, especially in Melbourne and Sydney. It has said it is looking at action, perhaps even what APRA calls 'countercyclical macroprudential policy', especially applied to investment properties. Another area of scrutiny is houses purchased by overseas buyers.  The rules say such purchases should only apply to second hand houses but 'everyone' except the regulators say there is a lot of overseas buying of new houses. In any case, trying to limit overseas buyers to new houses would be guarenteed to fail.

The AFR calls any sort of 'macroeconomic policy' a return to the failed direct controls of the past, and says instead interest rates should be raised. This would be a 'return to the failed macroeconomic policies of the past', when monetary policy - the use of movements in cash interest rates - failed to fix an overvalued exchange rate, and failed to restrain runaway house prices.  This is no great problem, however. In both cases this was because monetary policy should stick to its primary strength, which is nudging the overall economy into a state of sustainable growth with low goods and services inflation.

Many years ago Milton Friedman said 'monetary policy cannot serve two masters' and current dilemmas show exactly why this is so. Assuming it was planning to control the overall economy plus the currency and house prices with monetary policy - movements in cash rates of interest - which way would it move at present?  Raising rates would help restrain house prices.  Reducing cash rates would help reduce the overvalued exchange rate. The RBA is entitled to ask: 'Que?'

Today Henry had the chance to debate this weighty matter at Melbourne University, like a Chinese dissident of 30 years ago being allowed slight renewed access to the political leaders. Kevin Davis from the Murray Inquiry and Glenn Stevens from the RBA amongst other worthies were the stars. To prepare, Henry read the RBA's 64 page Financial Stability Report. War and Peace it aint, but it is well written and crammed with facts. The next breakthrough for central banks is to debate policy, even with discredited former leaders.

Great but (naturally) guarded speeches by Kevin and Glenn which I shall link to when links are available. Janine Dixon presented some simulations of the likely effect on unemployment of a substantial currency depreciation not met by price and wage restraint.  She said that this meant an increase of unemployment  of 4 percentage points, to 10 or eleven percent!  This is broadly like it was in the recessions of 1981 and 1991 and so has some inherent plausibility.

Then Nicholas Gruen presented some seriously radical ideas about really deregulated banking which cheered the room and bankers (except central bankers) are regarded by academics as among the more villanous members of polit society.  Max Corden reported that he is reading the ('brilliant') manuscript of Martin Wolf of Financial Times fame, and thought that Nicholas was on a similar tram. Professor Helen Sullivan, director of the Melbourne School of government spoke of some highly relevant matters of governance.

Henry's comment was on 'Monetary policy and macroprudential policy', a matter that will not be new to readers of this blog. However, the thrill of the occasion produced a new thought, or at least a new way of looking at a favourite subject, which is why one should attend and speak even at soires where everyone are either old friends or (ahem) enemies.

'In the 1990s, during the so-called "Great Moderation", monetary policy seemed under control, with inflation targets widely believed to be an excellent guide to monetary policy. Yet asset inflation was out of control and this led directly to the Global Financial Crisis. Obviously not all was under control in the monetary garden, and now we know we need macroprudential policy, even 'counter-cyclical macroprudential policy' to quell the weeds of excess asset inflation (='bubbles')'.

This led to my advocacy of taxes on capital inflow and 'dynamic asset ratio' policy' (='counter-cyclical prudential policy') to help bring the exchange rate to heel and to contain house prices. Naturally I mentioned negative grearing as an important cause of house price inflation and, in a burst of generosity, pointed out that reform of negative gearing would do much to fix house price inflation, a matter for which Gov'nor Glenn was carrying the can. He risked a wry smile at that point, though he had earlier dismissed tax on the exchange rate with 'we need capital which means we are stuck with a high exchange rate'.  Henry did not bother to point out that we need less capital than we've been getting as that seemed an obvious counterpoint.

Other matters.

Do not miss the latest Raff Report. The Raff explains why he is not yet wading into mining stocks.

And Henry has posted another new painting, of a large open cut iron ore mine in the Pilbara.

Saturday Sanity Break, 20 September 2014
Date: Saturday, September 20, 2014
Author: Henry Thornton

We are in bubble territory, gentle readers, with shares generally and housing in 'parts' of Sydney and Melbourne, and possibly Brisbane. Gor blimy, comrades, what is the RBA doing? Urging prices to fall, seems to be the game plan, because Gov'nor Glenn equates modern macroprudential policies with 1970s 'direct action', with bank managers lending only to cronies and investors of long standing with 'their' bank. Gov'nor Glenn's inaction left the Aussie dollar too high for the health of our economy for too long, contributing to the depressed state of many trade-exposed industries, some parts of which will never recover once the $A plunges.  As it will surely do just as soon as international investors figure out our supposed 'miracle economy' is normally fallible.

As gov'nor Glenn surely understands, the market will eventually deal with gross disequilibrium, eventually.  Until the discrepency between reality and bubble behaviour become too disjoint.  Then the crash will inflict pain on everyone.  Correction, gentle readers, everyone but speculators who bail out in time and RBA staffers who benefit from massive fully protected pension plans.

So there you have it, comrades.  Henry is especially irritated today because he was denied access to an article in the On-line AFR.  Indeed, he could not find a page from which login could be attempted, and after pressing buttons for the help desk he was told by a robot to call again on Monday, between the hours of 9 to 5.  Silly buggers. The Economist never locks a fully paid-up subscriber out. Hi-tech, perhaps, or concern for the customer.

Anyway, to come to the news, uncertainty stalks international markets and politics.  Tony Abbott is consolidating his status as a great new global war-leader, George Brandis is prosecuting the home-grown baddies, having (thank goodness) saved someone from a beheading in George Street, and President Obama is still dithering about just how far to go in smashing the international baddies. The French, however, have been happy to tell the world of their contribution to baddie-destruction and a small number of Muzzies have demonstrated against the firm decisive actions of Tony and George. Ebola is decimating Africans and there is an ever-present risk that an infected person will slip through at immigration net and infect a major city in the West.

Happier news is that Scotland has voted to stay with Great Britain, which will surely be a great comfort for sensible Scotspersons as global chaos and madness rises.

As previously reported, various gurus have warned that asset inflation is due to turn into asset deflation, and any readers who are reaching the end of their time as asset accumulators should consider a defensive investmentposture.


We find ourselves at the business end of the footy season.  Overnight, the Swans hammered the Kangaroos, showing they are in a class ahead of any other team but possibly the Hawkes. As Buddy Franklin blitzed the Kangas, helped by Kurt Tippett and Adam Goodes, one could but admire the brilliance of whomever plotted the acquisition of the so-called 'Bondi-billionaires', Buddy and Kurt.  There is a theoretical chance that Port Adelaide will beat Hawthorn today, and if so it will represent the triumph of what Andrew Faulkner called 'chaotic beauty' of Port's playing style.

Do not miss Andrew's description of Port's 'freakish goal-kicking', as invented by Gavin Wanganeen. 'All the great clubs draw on their past, and 10 years ago almost to the week a Power champion won a preliminary final with a freakish goal in the dying seconds.

With the scores locked and the Saints marching home hard, Gavin Wanganeen kicked perhaps the greatest goal of his illustrious career.

Pouncing on a ball that was free for a fraction of a second, Wanganeen ran obliquely towards the right forward pocket, before striking the ball at a slight angle across his boot.

It was a drop punt, but not as we know it.

The 45m kick arced left-right to sail through the goals — that is, it curved the opposite way to a ­normal kick.

It seemed to defy physics, convention and bald logic. It did not compute.

It did, however, win the game. And arguably the premiership, for the next week Power hoisted their first AFL premiership cup to the heavens.

“It was a drop punt with a bit of reverse swing,” Wanganeen said when asked about that goal by The Weekend Australian this week. “It was deliberate.”

A far less happy scenario confronts Essendon, as told by Patrick Smith under the headline of 'For local hero James Hird, there’s no way out of this firestorm'.

Henry wonders if it will be more than Hird's future that is in deep strife.  Essendon faces massive legal bills, having lost totally in court, and many of its best players are likely to cop at least a year's suspension and/or go to another club.

The bombers were Henry's team as a kid and it would be awful to see this great club crashed and on fire.

Image of the week

Courtesy The Oz

A parable
Date: Thursday, September 18, 2014
Author: Gary Scarrabelotti

… to them that are without, all things are done in parables: that seeing they may see, and not perceive; and hearing they may hear and not understand.” (Mark 4, 11-12)

Being cranky and disputatious is not a good look. Even seeming to be at odds with people wiser and more experienced than oneself, and with those responsible for making high order decisions that will never come one’s way to make, is really quite unattractive.

In this moment of great gravity, when war-and-peace calls are being made (yet again) by our political leaders – and winning the public endorsement of so many of our great and good – it ill behoves a mere bloggist to cast doubt upon some of the key assumptions that underlie Australia’s readiness to enter into another war in Iraq.

Three of those assumptions – not the only ones, but important ones – relate to the nature of Islam, to our social experiment with multiculturalism and to whether the former has a role to play in the latter without derailing the great project.

Now, if I was travelling in India,out of respect to the local culture, I would not wantonly run down a sacred cow, or even utter an unkind word against one, though the dumb holy beast should wander in my way. So, in the same spirit, I will never let a sceptical or irreverent word fly from my lips against any of our own great Aussie sacred cows should one, or a whole herd of them, lumber across my path.

That having been said, I think it would be wholly inhuman to remain silent and to suppress even the twinkle in one’s eye.

So I will content myself with a parable – this one drawn from real life – and one I have told before; but, like all good parables, it bears retelling.

The scene was a winding narrow street in Xauen in Spanish Morocco, during the Rif Wars.  The year is 1925 and a unit of the Spanish colonial army was preparing to evacuate the town. As he waited for his men to complete their appointed tasks, the senior Spanish officer on the spot fell into conversation with an elderly Moslem gentlemen.

The old fellow went onto the attack.  He upbraided the immaculately turned out officer for going to war with the Riffians and then abandoning the local people. The Spaniard – a man of slight build and almost inhuman fearlessness - returned fire, but in the form of a lecture on the benefits western civilisation.  In response, the canny Moroccan gent made reply:

You don’t understand. Don’t blame the natives for everything that goes wrong. You look at the Moors, but all you can see is their robes. You don’t know the inner reasons of our behaviour: you will never know them. When the Mujahiddin [holy warriors] come – that’s the reason you can’t understand: every good Moslem must help the Mujahiddin always. There isn’t a village that does not succour or shelter them, directly or indirectly, some with arms, others with gifts, the most timid ones with their silence. This is the Mujahiddin’s right of asylum.”

(Brian Crozier, Franco: A Biographical History; London, Eyre &Spottiswoode, 1967; p. 81.)

Enough said.

*Gary Scarrabelotti is Managing Director of the Canberra-based consulting firm Aequum: Political & Business Strategies.

It this the big correction?
Date: Wednesday, September 17, 2014
Author: Henry Thornton

Just about everyone Henry knows expects a big correction in global equity markets. Of course, no-one wants to bail out (or go short) a year or two early, and miss all the luverly upside that they would otherwise gain. Equally, staying fully invested will be very painful if reduction of one's equity investments is left too late and it takes a few weeks or even days to decide to reduce's one's equity holdings. It is the time in the semi-regular waxing and waning that greed and fear contend so obviously.

And it is not just the global scene that one needs to take a view on.  The American economy now seems to be picking up some momentum.  Australia's may be losing momentum. China's economy looks like it has hit some heavy weather and the price of coal and iron ore has been falling and may fall further.  As previously noted, even Mrs Thornton has recommended moving money from Australian equities to American equities, and did this before the latest drop in the Australian dollar.

At the weekend Henry chimed in on the implications the further fall in the Aussie dollar that now seems - finally - to be underway. Henry's favourite fund manager has taken some of Henry's bank exposure off the table, for reasons explained last Saturday (see blog immediately below.). With previous reduction of equity exposure and reallocation offshore the Thornton portfolio is considerable more defensive than it was, but we shall be watching the news with more than the usual degree of interest.

The Australian seems to be still relatively optimistic about the Australian economy and markets, but has been feeding us a steady diet of gloomy geopolitical news. Australia's contribution to decimating the baddies of ISIS will almost certainly bring the geopolitical nastiness closer to home, and the liklihood of the next phase of baddie destruction, or losses of the goodies' troops and kit, is likely to produce further downward pressure on equity markets.

It is also looking as if the Fed may be seeing the same economic news as the Thornton family and may be opreparing to raise interest rates faster than so far expected.  Janet Yellen, previously seem as a dove, is looking sterner every time she talks. The reality of having the final say usually brings out the best in the best people. 'US rate hikes could cause chaos' screamed the AFR yesterday. But the risks of raising rates too little too late - as so often has been the case - are greater, in Henry's view.

Claudio Borio of the Bank for International Settlements, with Henry one of the most consistent worriers about asset inflation, features in another worrying AFR headline - 'markets have pre-GFC feel'. He reportedly points out that low volatility of markets - often seen as an indicator of market confidence - is in fact currently indicating "Muted uncertainty". 'The last time markets were so uncertain about the macroeconomic outlook was in 2007 - just before one of the largest forecasting errors the economics profession has ever made'.

In particular, the years of "unusually accomodative" monetary policy has convinced investors that low interest rates will continue or be raised only gradually, implying the music of rising share prices can continue.

Then there is the 'storm alert for investors', also reported by the AFR, this time by one James Aitken, who is especially concerned about the Chinese banking system.

Is this the big correction? All Henry can say about this is that nothing goes up forever, and loose money has always produced tears. Except for the chronically timid, we have all had a great run from financial markets. If you have not taken some risk off the table, it may well be the time to do so, gentle readers. Especially if you are close to the time you will rely on a pension generated by your accumulated nest eggs.

And then there are housing prices to be worried about.

The RBA minutes express concerns, but Treasurer Smikin' Joe Hockey says bubble talk is lazy thinking.  Henry does not think Australian house prices are in bubble territory either, but they sure are in a space that is making it harder and harder for our young people to get set, just as it is already very hard to get a job.

And Joe, we agree there is more demand than supply, but that would change if negative gearing was reformed so it no longer was the most regressive one way bet going.

Saturday Sanity Break, 13 September 2014
Date: Saturday, September 13, 2014
Author: Henry Thornton

The price of iron ore continues to fall, and high cost producers are already in trouble.  Also in strife are suppliers to the mining industry and just about every other business in Australia whose costs blew out during the long, massive mining boom. Plus all those Australians who surfed the powerful wave of the mining boom to far higher incomes, now that the boom is receding.

The Aussie dollar is also showing signs of falling, as logically it should.  Falling commodity prices have finally made their mark, as have suggestions that US interest rates may begin to rise far sooner than hitherto expected.  As this happens, Australia will no longer be seen as a relatively high return-low risk place to park capital, some of which is adding to Australia's house inflation, giving the RBA a distinct headache. A canny investor yesterday pointed out that Australia's banks still rely heavily on overseas borrowing, and a severe fall in the Aussie dollar would make this borrowing far more expensive, likely to do serious damage to the value of bank shares and 'hybrid' securities. The RBA will be pleased, as finally (through no effort of theirs) the dollar sinks.

Forewarned is forearmed, gentle readers. More here. 

Meanwhile, the mad terrorists of ISIS have been tasting a little of their own medicine. Henry is pleased to see that ten Arab nations are joining the coalition of the willing to help behead ISIS, with airpower carrying out its historic vision to 'Kill bad guys and wreck their stuff'. This is widely charactised as a war, and even distant Australia is on a war footing as threat level is raised to 'high'.

Henry's sadly passed foreign correspondant, Sir Wellington Boote, left a large cache of great good sense on the jihad business. His final column, posted in January 2011, was headed 'Get serious about Fundamentalist Islam' . Sir Wellington's proposal was to cut off all transactions with Muslim society, as the West is progressively doing to Russia, it might be noted, in order to encourage sensible Muslins to deal the the problem of fundamentalist fanatics and corrupt leaders.

He conceded: 'This all sounds very harsh, I know. But until we stop pandering to them and pretending to respect them and agreeing to whatever they want us to agree to (except Israel and few other important matters) they will never even try and face their issues of backwardness and wallowing in delusions. We cannot do anything about their backwardness and delusions ... only they can take effective action on these fronts. At the moment, due to our pandering to them, they are disinclined to do anything that remotely involves looking at themselves and their situations with any degree of honesty and accuracy. It is time we forced the issue by closing ourselves off to them and forcing a very major crisis onto them'.


The North Melbourne Kangaroos held on to win a thrilling final against Geelong last night.  Henry saw only the final three minutes of what was a stirring game which the underdogs won in thrilling style.  The Kangas have taken to role of possible fairy-tale premiers from hapless Richmond, belted badly by Port Adelaide last sunday.

The Wallabies. thrashed by the All Blacks a few weeks ago began the long process of returning from the abyss by beating the Springboks by one point last week. Now they face the Argentinians, possibly the world's second-most brutal team in the world.

Yesterday Lleyton Hewitt and Nick Kyrgios both won Davis Cup singles rubbers against players from Uzbekistan. Should they win one of three more games this weekend we shall return to 'elite levels' in 2015. Kyrgios of course has earned the title of latest real good thing and we wish him well, and look forward to Australian tennis once more ascending the elite mountain.

Extreme sports

If one of your much loved offspring says he is going snow-boarding, watch this and try to persuade him not to get too hooked.

Image of the week

Courtesy The Oz

Business council gets it
Date: Thursday, September 11, 2014
Author: Henry Thornton

Just a quick note today, gentle readers. New BCA Chief Catherine Livingstone has marked new standards of business savvy about policy matters in an interview with the AFR.

Themes include: Reform is urgent; big business demands simpler taxes for jobs; urgent need to deal with Australia's declining competitiveness; 'huge urgency' for the Prime minister to provide a vision for Australia's future, including policies for innovation; etc, etc.

The lead AFR article is available here (if you can figure out how to login), but today's editorial is also vital, as are various recent articles, some of which are referred to here.

Global house prices looking frothy
Date: Wednesday, September 10, 2014
Author: Henry Thornton

Sensible central banks have accepted, following the lead of New Zealand, Canada (and therefore the Grand Old Lady of Threadneedle Street) and the US Fed, that monetary policy is to be used for maintaining overall economic stability and low goods and services inflation. Attempting to control house prices depends on what is called 'macroprudential policy', which some people of limited vision have lampooned as the revival of direct controls on the banks.

With global house prices, including Australia's, looking frothy, this is more than an academic matter. We do not know the RBA's attitude to this matter, except the Governor seems to think monetary (interest rate) policy will do the task, while the Deputy-governor is more likely (given his academic writing) to be sympathetic. (If pressed I can find evidence to support these statements)

But first to the facts, provided by The Economist. 'In June', says the venerable mag, 'the IMF called on policymakers to do more to curb housing prices around the world, pointing out that valuations looked high in many countries (see article, and note in particular the degree of Australian froth). In May the European Central Bank singled out sky-high prices in Belgium, Finland and France; in July Moody’s, a ratings agency, said that Britain showed signs of a new property bubble. The trend is all the more remarkable given that many of those economies have not fully recovered from the financial crisis and are growing feebly if at all'.

The classic Greenspan/Bernanke approach was to say 'We cannot tell if it is a bubble, so all we can do is wait for the crash and clean up afterwards' (and after the two last share crashes this involved near zero interest rates that set up the next share boom.)

Now a more sensible approach is being used. The Economist quotes an expert: “You cannot know you’re in a bubble, but you can know that debt has moved too far,” says Urban Backstrom, a former governor of the Riksbank, Sweden’s central bank. However, expectations that borrowing will stay cheap and not enough new homes will be built continue to push prices higher.

Then we come to the critique of those, like the RBA, who have said that their approach is to use higher interest rates than needed for economic stability and low goods and services inflation to 'lean into' asset inflation. (Henry has already confessed that until early 2013 this was his recommended approach also.) The Economist again: 'Central bankers cannot use interest rates to deflate the housing bubbles since, asset values aside, the economies of the countries concerned remain so sickly. Sweden’s attempt to cool the market with an increase in rates in 2010 backfired: unemployment stopped falling and the country headed towards deflation, forcing the Riksbank start reducing rates again in 2011. If anything, monetary policy is likely to provide a further spur to house prices in the euro zone, since the ECB is toying with the idea of buying bonds in an effort to bring borrowing costs down yet further'.

There's more: 'Macroprudential tools, to discipline both banks and borrowers, are a subtler set of instruments. Setting stricter limits on the amount people can borrow relative to the purchase price (the “loan-to-value” ratio, or LTV) or to their household income (loan-to-income ratio) helps to curb buyers’ irrational exuberance; increasing the amount of capital that banks must hold against mortgages checks theirs.

'The Netherlands has applied strict limits of this sort, with striking results. In 2011, with the euro crisis in full swing, the average new mortgage in the Netherlands was 112% of the property’s value, putting Dutch household debt among the highest in Europe. The authorities hastily introduced a host of restrictions: LTV was capped at 106% in 2012 and is due to fall to 100% by 2018; capital requirements for banks were raised immediately. The government is also gradually reducing the tax break for interest payments on mortgages. These changes, along with the economic downturn, were enough to push prices down 20% in three years in real terms (after accounting for inflation, that is)'.

So there you have it gentle readers. To make matters worse, Australia has another 'macroprudential' issue, the excessively high Aussie dollar.  While the economy needed monetary (ie interest rate) stimulus, the RBA could comfort themselves that cutting interest rates would also encourage a lower exchange rate. But now that house prices are getting frothier, 'leaning in' to house inflation is only possible if maintaining overall economic stability and low goods and services inflation requires higher interest rates, and at present this is not obviously the case.

So the RBA needs 'macroprudential policy', in fact two such policies.  The first is to help contain house prices, though the government could help by appropriate reform of rules for negative gearing. The second it to help reduce the overvalued dollar, which requires a tax on capital inflow, and, incidentally, a subsidy if the rate falls too low.

No doubt Messrs Stevens and Lowe discuss this matter over their elegant morning tea at least once a week. Get on with it chaps or you will be battling on three fronts with only one weapon. Not smart, comrades.

More here for masochists. 

The Australian says 'Wildly imbalanced housing market poses danger'.

Stimulating innovation
Date: Monday, September 08, 2014
Author: Tony Peacock, CRC Association

The British public has voted for antibiotic resistance research to be the subject of the 'first' Longitude Prize. The Longitude Prize 2014 is a prize fund of £10 million to tackle one of the biggest issues facing humanity, with the British public voting for antibiotic resistance over the field that also included flight, food, paralysis, water and dementia. The Longitude Prize 2014 commemorates the 300th anniversary of the Longitude Act of 1714, which was eventually awarded in 1765 to John Harrison for his chronometer (as well as sparking many other innovations).
The announcement of the public vote was made live on the BBC by British Prime Minister, David Cameron last month. The award is administered by the innovation charity Nesta, with the prize fund being put up by the UK's Technology Strategy Board. Lord Rees, the English Astronomer Royal, chairs the Longitude Committee, which is still working out final rules for awarding the prize.
What a magnificent way to capture the public's imagination and highlight the importance of innovation. Terry Cutler recommended Australia explore this approach in his 2009 report on the innovation system. To my knowledge, nothing came of that recommendation. But it remains a valid approach: kind of the ultimate in terms of priority setting.

Australia has an interesting history in science prizes. Henry Parkes offered £25,000 in an international competition in 1887 for a microbiological 'fix' to the rabbit plague. Louis Pasteur was one of the 1,500 entrants and sent his nephew to Sydney to try and secure the prize. Even though the rabbit prize was never awarded, you can draw a line from Pasteur's work to Dame Jean McNamara's proposal for myxoma virus to be applied in 1908 through to when it was eventually applied by CSIRO in 1951 (and still knocks off half of the rabbits born in Australia today). You can even argue that Australia's historic science strength in microbiology which persists today dates from the rabbit prize.
You never know where innovations might occur. Pasteur's nephew, Adrien Loir, spent two weeks at the Victoria Brewery, teaching Pasteur’s yeast cultivation techniques. Victorian Bitter continues to be brewed in the same method today.
Science prizes can open up an area to real innovation. John Harrison was a completely self-taught Yorkshireman. Then unknown Charles Lindbergh won the Ortieg Prize in 1927 for the first successful Atlantic air crossing. Lindbergh continued to be an innovator, adding hundreds of miles of range to US fighters in the Pacific War. The Virgin Earth Challenge has named 11 finalists vying for a $25 million prize for whoever can demonstrate a commercially viable design which results in the permanent removal of greenhouse gases.

For a really difficult challenge, I think the Michelson Prize is the best designed. Spinal surgeon, Gary Michelson and his wife Alya have made $75 million available with $25 million for an innovator who can come up with a single-dose, nonsurgical sterilant for male and female cats and dogs.  Recognising the difficulty, Michelson has made up to $50 million available in grants to make progress towards the prize. To date, the charity Found Animals has committed over $14 million in Michelson Grants to more than 30 approved projects worldwide, including to 2012 NSW Scientist of the Year Professor John Aitken at the University of Newcastle.

Perhaps it is worth revisiting Terry Cutler's 2009 recommendation and include an element of public involvement and grant funding? Of course, that option is open to anyone, not just governments.


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