The Australian economy – Staying afloat in the global storm David Gruen Tuesday, 26 May 2009

Setting the scene: Longer term trends

Real GDP growth Source: ABS Catalogue Number and Treasury.

Unemployment rate Source: ABS Catalogue Number and Treasury.

Employment shares by industry Source: ABS Catalogue Number

Participation rates (Population aged 15 and over) Source: ABS Catalogue Number

Employment shares Source: ABS Catalogue Number

Exports and imports (Values) Source: ABS Catalogue Numbers and

Asia’s share of Australia’s merchandise imports and exports (Values) Note: Asia defined as ASEAN, China, Japan, South Korea, Taiwan and Hong Kong. Source: ABS Catalogue Number

Terms of trade (Ratio of export prices to import prices) Note: From September quarter 1959, quarterly data from ABS National Accounts, Catalogue Number ; prior to September quarter 1959, M W Butlin (1977) ‘A Preliminary Annual Database to ’, RBA Discussion Paper Source: ABS Catalogue Number , Reserve Bank of Australia and Treasury.

Investment, savings and the current account Source: ABS Catalogue Numbers , and Treasury.

Foreign liabilities and assets Source: ABS Catalogue Numbers and Dec-88Jun-91Dec-93Jun-96Dec-98Jun-01Dec-03Jun-06Dec Gross foreign liabilities Gross foreign assets Per cent of GDP Net foreign liabilities Net foreign debt

Household debt and assets Source: ABS Catalogue Number , Reserve Bank of Australia and Treasury.

Global financial crisis

Causes of the global financial crisis Proximate causes in the US:  Long-term public sponsorship of home ownership for groups that could not afford it  Incoherent financial regulation in the mortgage market  ‘Originate to distribute’ model for mortgages – Mortgages bundled up and ‘securitised’ – Given inappropriate AAA credit ratings and sold to final investors  Risk was supposed to be spread to those most able to bear it  In fact, it was spread to those least able to understand it

Causes of the global financial crisis Wider causes:  Global imbalances implied huge flow of funds from developing countries (particularly Asia) to developed countries (particularly US)  Low global interest rates, both structural and monetary policy related, led to strongly rising asset prices

Causes of the global financial crisis Wider causes:  Large banks, mainly in US, UK, and Europe, gradually became more highly leveraged (more loans for each dollar of bank assets). They did this because – repeal of the US Glass-Steagall Act in 1999 allowed commercial banks to run large investment banking businesses –regulatory frameworks encouraged banks to shift loans ‘off balance sheet’ –times were good –it was very profitable: “while the music is playing, you have to get up and dance”

Causes of the global financial crisis –low global interest rates combined with investors continuing expectation of high returns encouraged a ‘search for yield’ –banks thought they had a better understanding of financial risks than ever before, based on sophisticated models of risk and return :the models were sophisticated but, as it turned out, also fatally flawed  Inappropriate incentives in financial markets – too much pay for short-term returns, not enough downside for losses – incentive to take risks which generated good returns most of the time, but with a small probability of disaster

3-month LIBOR over OIS spreads Source: Thomson Reuters – Ecowin Database Jan-0727-Jun-0717-Dec-0707-Jun-0827-Nov-0819-May US$ Euro UK£ A$ Per cent per annum

European Government bond spreads (To 10-year German bunds) Source: Thomson Reuters May-99May-00May-01May-02May-03May-04May-05May-06May-07May-08May GreeceFranceSpainIrelandNetherlandsPortugalItaly Per cent per annum

IMF forecasts of 2009 GDP growth Note: March 2009 forecast is lower bound of IMF estimates. No G7 forecast was provided in the March update, so G3 forecast is used. Source: IMF. G7World

US – Housing indicators Housing startsTotal number of homes for sale Source: US Census Bureau and National Association of Realtors.

US House prices Source: S&P/Case-Shiller.

United States – Unemployment rate Source: Bureau of Labor Statistics.

Japan – Industrial production and exports Industrial productionExport volumes Note: Industrial production is seasonally adjusted. Source: Ecowin and Treasury.

China – GDP growth Note: Quarterly figures are Treasury estimates. GDP is on a production basis. Through-the-year data are in original terms. Source: CEIC China database and Treasury.

OECD output gap Note: Estimates of potential output have not been revised and therefore do not incorporate the reduction in supply implied by the downturn. Not all countries had reported their December quarter 2008 GDP at the time of calculation. Source: OECD Dec-70Dec-75Dec-80Dec-85Dec-90Dec-95Dec-00Dec-05Dec Percentage of potential output (f)

Global equity markets Source: Standard and Poor’s, Stoxx Ltd and ASX.

World’s largest banks by credit rating Note: Data refer to bank ratings as at 1 May 2009 and assets as at late 2007 (latest available data). Source: Bloomberg and The Banker.

Banks: Market capitalisation ($US Billions) Market value as at June Quarter 2007 Market value as at 19 May 2009 Source: JPMorgan and Bloomberg L.P. Morgan StanleyCredit SuisseDeutsche BankBarclaysGoldman SachsUBS SantanderRBSJP MorganHSBCCitigroup

Thirty largest banks in the World Note: Thirty largest banks by market capitalisation (excluding Chinese State Owned Entities e.g. ICBC). RBS is included for illustrative purposes, despite no longer being one of the top 30 largest banks globally. Market capitalisation is translated into U.S. dollars using relevant exchange rate as at 13-Feb-09. Source: Reuters (as at 13-Feb-09). HSBC JPMorgan Wells Fargo Santander Credit Suisse Mitsubishi UFJ Goldman Sachs UBS Intesa Sanpaolo Westpac BNP Paribas Commonwealth Bank RBC Banco BradescoBank of America Bank of New York Sumitomo Mitsui Mizuho Financial MorganStanley National Australia Unicredit Toronto-Dominion U.S.Bancorp Credit Agricole Citigroup Societe Generale ANZ Deutsche Bank Barclays RBS MARKET CAPITALISATION (US$m)

Banks’ share prices Source: Bloomberg Jul 0721 Dec 0710 Jun 0829 Nov 0820 May Index (2 Jul 07=100) Jul 0721 Dec 0710 Jun 0829 Nov 0820 May Australia US Japan UK Index (2 Jul 07=100)

House prices Source: S&P/Case-Shiller, Australian Property Monitors and Treasury.

Bulk commodity prices Iron oreThermal coal (Newcastle) Note: Iron ore spot price is CFR for India/China imports. Source: Bloomberg, Global Coal and ABARE.

RBA Cash rate Note: Data to Dec-89 are the 11am call rate. Data from Jan-90 are the target cash rate. Source: Reserve Bank of Australia.

Australian Government fiscal stimulus Source: Treasury.

Real GDP (estimated effect of fiscal stimulus) Source: ABS Catalogue Number and Treasury.

Australian Government Source: Treasury. Payments and receipts Underlying cash balance

Government net debt position for selected countries Note: Data are general government net debt, except for Australia which are Australian Government debt. Data are as at end of calendar year, except for Australia and the UK where data refer to financial years beginning UK data for 2014 refer to financial year Source: IMF, HM Treasury and Treasury.

Private consumption (Nominal) Source: ABS Catalogue Number , US Bureau of Economic Analysis and Office of National Statistics, UK Mar-79Mar-82Mar-85Mar-88Mar-91Mar-94Mar-97Mar-00Mar-03Mar-06Mar Per cent of GDP US UK Australia

The Australian economy – Staying afloat in the global storm David Gruen Tuesday, 26 May 2009