Monday, March 31, 2008

Australia's emerging debt crisis

Over the past few years I have repeatedly referred to the effects of rising debt in the Australian economy – most recently here. Australia has been on a huge borrowing binge that follows closely - if not so severely - what has happened in the US and the UK. Our solid, persistent economic growth and our avoidance of recession for 17 years has sharpened the community appetite for risk and led to a situation where we hold too much debt.

It annoys me intensely that the RBA and many economists – some doubtless drawing lucrative financial consultancies from the banks – have been telling us that debt is not too high given the growth in the share-market and in asset values, in terms of the ratio of interest payments to incomes and so on. These explanations work only if incomes continue to rise, if interest rates remain low and if asset markets continue to grow in value at unsustainable rates.

The human and practical dimensions of Australia’s forthcoming debt crises (plural) were well portrayed on Four Corners this evening. If you didn’t see it you should. We need to consider at least partial reregulation of the financial system so that we do not rely mainly on the self-regulation of lending practices by the inept and immoral major banks.

From the blurb for ‘Debtland’:

Mortgages doled out to people on disability support pensions; loans to refugees with no English and no jobs that leave their families with next to nothing to live on; home loans so large they push borrowers below the poverty line…

This isn’t America’s sub-prime meltdown – it’s Australia’s debt debacle, the legacy of a credit binge that’s sent household debt through the roof and lending standards through the floor. Now the hangover is kicking in.

As many as 300,000 Australian households may be at risk of losing their homes. It mightn’t take much – another rate rise or two, a family illness or maybe just the car breaking down – to send people under. And for thousands more who are better off but feeling the pressure, this credit crisis is getting too close to home.

Dianne and her family are frontline casualties. Their home is being repossessed after constant refinancing landed them with two mortgages, one at 10% and another – on terms they didn’t understand - at 20%.

Four Corners meets them as they despairingly pack their belongings and give up the keys. Why did they take out loan after loan? "Because they keep giving them to us," is Dianne’s blunt reply.

It’s not just fringe lenders but also big banks which have pushed unaffordable credit. "We lent to whoever we could and as much money as they wanted," admits a former bank credit salesman.

Four Corners reveals how one major bank dished out unsustainable loans to numerous refugee families in one area. Some had no English and no job. In one such transaction a nine-year-old girl acted as interpreter. Elsewhere a disabled pensioner tells how her welfare cheque and small part time wage were enough for another bank to lend her $200,000. She is now in penury.

These cases exemplify how lending standards have slackened. Not long ago the rule of thumb was that mortgage payments should not exceed 30% of gross household income. Now lenders leave borrowers teetering on the poverty line.

Mortgage stress is compounded by plastic debt. "The banks are just handing out money on credit cards like there’s no tomorrow… It’s quite terrifying to think that the average household… now has three months of their disposable income on a credit card balance," says one analyst.

All the rage now are store-branded cards offering in-house credit with zero to pay for several years – then, typically, punishing interest takes effect. More than 10,000 stores offer these cards and many shoppers have several of them - but behind nearly all of them is one global financial colossus. [General Electric].

Many Australians have gone deep into the red to fund a newfound love affair with the stock market. The amount they have borrowed to buy shares now equals the total they have racked up in credit card debt. And as Four Corners discovers, when the market plunges and a margin call comes, some people are just reaching for the plastic…

Reporter Stephen Long surveys the human wreckage of the household debt crunch and looks at the key players and tactics behind recent aggressive lending. Long’s disturbing report also throws doubt over the data that banks rely on to make crucial lending decisions.

27 comments:

Anonymous said...

and the solution is what, harry? Go back to rationed lending prior to the 80's.

Blame the central bank for keeping rates too low for too long.

The problem isn't now. The leftists at 4 corners should have been running an anti lending program several years ago... not when the RBA normalizes rates.

davidp said...

Hi Harry,

I didn't see the program - but have no doubt people have got themselves into trouble and that individuals at banks have behaved improperly at times.

However, a proper evaluation of this issue would require:

1. An evaluation of the size of both of these things.

2. A specific proposal for reregulation, including specifically how it would deal the problems that are felt to result from the current situation. Until this is spelled out, am very wary.

3. An evaluation of the costs imposed by the regulation including on the infra-marginal borrowers.

There have been longstanding provisions in the TPA for consumer protection of goods (and services?) - an empirical analysis of these could be informative (my feeling is that this is under-researched)

cheers

Anonymous said...

first anon was me

JC


Harry, is there a chance you can allow the name id box or is that too much to ask?

Anonymous said...

You know, it's pretty silly, harry that you want peoplke to id themselves one way or another but we only have the anon ticker thats operative

JC.

harryc said...

jc, I clicked on name/url and I was able to record this. What's your problem?

Joshua Gans said...

Harry, FYI, Stephen King and I proposed back in 2003 a housing lifeline scheme to deal precisely with these sorts of issues.

conrad said...

I'm with JC on that one -- the simple solution would have been to stick interest rates up, and if people want more regulation, then they should try and say what it is and then why people who legitametly can pay for credit can't get it.

In addition, whilst I might have some sympathy for people losing money on personal housing (people need places to live, after all), I'm not exactly sure that I should have too much sympathy for people losing money buying shares. No-one forces people to do this, and it's not exactly like you need to do it for essential lifestyle reasons. If people really were worried about losing money versus betting every cent, they could have got no-loss portfolio's, unemployment insurance etc, all services which the banks would love to sell as much as lend money.

Anonymous said...

JC blames the messenger again because he doesn't like the message. What a joke.

As for the RBA, it's job is to keep inflation down. If it had been raising rates years ago when there was no inflation problem then the likes of JC would have screamed blue murder.

The banks have lent like there's no tomorrow to people who obviously can't afford it because their credit scoring models have told them that borrowers, even the seemingly high risk kind, hardly ever default. But these models use data only from the recent golden period of growth and low rates, so of course there's not much default built in them.

The only way the banks will learn not to lend huge sums to invalid pensioners and the unemployed is for them to experience widespread default on these loans and for them to make big losses, like they did with business loans in the 80s.

Spiros

derrida derider said...

Well, I'm amazed to find myself in 100% agreement with JC on this issue.

And it's not just hindsight - I argued three years ago that if the RBA didn't raise rates then, then it would have to hurt over-extended people much more later on. This has come to pass; the RBA has committed the classic central bank mistake of "too much, much too late".

As for rationing credit by regulation I'm old enough to remember firsthand the problems with that (I especially remember the the smarmy attitude of the bank clerk when presented with my "minimally adequate" deposit - only 25% of equity - for my first home loan. Which bank?).

For one thing, experience shows that if you have an atmosphere of "irrational exuberance" the regulator is as likely to be captured by it as anyone (and similarly if you have irrational fear the regulators will over-regulate when it's no longer useful).

Anonymous said...

JC blames the messenger again because he doesn't like the message. What a joke.

On a personal level I like these rates, Spiros as I’m finding some terrific opportunities in the credit markets.


As for the RBA, it's job is to keep inflation down. If it had been raising rates years ago when there was no inflation problem then the likes of JC would have screamed blue murder.

That’s because their methodology is deficient, Spiros. Interest rate targeting is a shitty system that will lead us to hell.


The banks have lent like there's no tomorrow to people who obviously can't afford it because their credit scoring models have told them that borrowers, even the seemingly high risk kind, hardly ever default.


Banks are ciphers. They are not economic gurus. They have reasonable credit control methods but even these systems cannot help them with 3+ years projections. Are you going to be out of a job in 3 years time? Don’t answer that.




But these models use data only from the recent golden period of growth and low rates, so of course there's not much default built in them.

Ok, so tell me where rates are going to be in 3 years time?

The only way the banks will learn not to lend huge sums to invalid pensioners and the unemployed is for them to experience widespread default on these loans and for them to make big losses, like they did with business loans in the 80s.

Fair enough. That’s why short selling Australian regional banks is an honest profession.



DD:

See, I eventually win everyone over to my side. :-)

Nice to see we agree for a change.


JC

Anonymous said...

"They have reasonable credit control methods but even these systems cannot help them with 3+ years projections.

It's a bit of a worry then that they are providing loans with payback periods of 10, 20 even 30 years.

Spiros

rog said...

Yeah but JC, looks lie the shorters lost (Opes)

helen said...

JC, when you post click on the NAME/URL button and type in name (any name will do)

rog said...

Sorry, that was me (yes it is stoopid)

Anonymous said...

It's a bit of a worry then that they are providing loans with payback periods of 10, 20 even 30 years.

Why?

30 year fixed loans have historically been a common feature of the US mortgage market.

What's wrong with a long term pay back period. You think people ought pay bacj their entire mortgage in a month, Spiros?

6 corners just presented the usual lefty beat up.

Christ, the ABC ought to be simply shut down. Not sold... just shut down and everyone fired with no termination pay. Every single one of those propagandarous bastards

JC

rog said...

I fail to see how "reregulating" will stop people making mistakes, its the ultimate in nannyishness. Most of that 4 corners program is questionable, promoted by the ACTU no doubt (the ABC being the media arm of the unions)

jc said...

Thanks helen.

Just saw it will try next time.

jc said...

Yeah but JC, looks lie the shorters lost (Opes)

Did they. Haven't followed it.

Rog, 90% of trading is capital preservation. Finding the trend is the easy bit.

If you place one or two huge big bets on prepapred to lose mos of your capital. Nothing new in that.

jc said...

One last thing:

The union movement's propaganda arm (The ABC), i bet, failed to mention that foreclosures in Aust. are lower than they were this time last year.

People ought to agitate to close that station down.

Spiros said...

JC, you couldn't defeat the ABC during the Howard Terror. You're not going to defeat them now.

jc said...

Not sure about that, Spiros. I reckon the seeds of their destruction are being sown right now.

The idiots will probably think they now have carte blanche to behave like typical twerps under labor and people may just get sick to death of the bastards. Labor is going to always be in... and then there's web coming.

Anonymous said...

isn't.....

Francis Xavier Holden said...

I only caught a bit of the show on replay tonight at midnight. I always feel sorry for people who get caught up in overborrowing but I can't feel any sympathy for people "sufering" on margin calls.

Generally these margin call people are the same ones who when the market is ramping up sneer at the likes of me who don't take the risk.

Whilst I _feel_ sorry for people who overborrow I don't want to do too much about it except make sure people get fed and a place to live.

Everyone knows you have to give any money borrowed back - so other thana few regulations to protect those with say, intellectual disability, I much prefer the freerer availability of credit.

I like to refer to it as the democratisation of credit. I'm old enough to remember my father not even being able to borrow from the bank simply because he was from the wrong side of town.

Even myself - for my first house loan I had to endure a lecture from the bank manager on long hair and such the first "interview" he gave me. The second interview he gave me a lecture about women who didn't change their name on marriage and how you /he (me) couldn't rely on that sort of person, the third time I was interrogated he raised the min deposit level up.

By the fourth interview (there was no possibility of shopping around elsewhere those days otherwise I would have snotted him and went elsewhere)I was sick of him and had borrowed max cash off my bankcard and some thousands off a friend for a week to boost my bank account up. I finally got the loan.

For years I've wanted to get my clear title and take it around and shove it up his arse but the old prick will be dead and I'll never have anything to do with NAB since.

When I got that first house I also then bought a Toyota Crown completely on bankcard, because the old prick wouldn't give me a car loan.

I can't understand anyone who wants us to go back to those days when the only people who were able to get credit were those who didn't need it or those well connected.

Francis Xavier Holden said...

Oh and as for Dianne and her family - look it was sad - but what kind of nongs were they. They wanted $650K to clear their debts but wouldn't take the $610 bid. From what I could see they had a fully furnished newish two story huge house and at least one late model car - what else did they splurge on?

What happened to squashing in with kids to a two bedroom unrenovated dump with a second hand bomb car and waiting until you'd paid it off to trade up or add an extension or get a new car?

Spiros said...

"What happened to squashing in with kids to a two bedroom unrenovated dump with a second hand bomb car and waiting until you'd paid it off to trade up or add an extension or get a new car?"

In the old days, people aspired to the big house, flash car etc, but they didn't have the money and couldn't borrow it, so they made do with dump and bomb car. They saved up for the big house and the flash car. Maybe they got them later in life, maybe they never did.

Nowadays, they can borrow the money to get these things. Unfortunately, the day of reckoning inevitably arrives - if you don't have the cash to service the loan, you can't pull it out of the air - and they lose it all.

Anonymous said...

Harry Regulation stinks, fullstop.
The other side of banks not lending is that the poor will never have a chance of owning homes. When did people stop becoming resposible for their own actions?

Spiros, mate if only you knew how banks assess credit you would be dangerous. Have you any idea what the default rate on loans are or what loss rates are at? Also do you seriously think credit is going to be as easy to get going forward?

Anyway if markets stay as they are you'll all experience what its like under a credit rationing system and it will be ugly. The only person to blame is Central banks worldwide who in my humble opinion extended too easy credit for too long. Oh wait thats not a market's fault its the regulators fault....

Irene M. said...

Too many people are getting small business financing that are high-risk, high interest out of desperation for funding. When you don't have a solid repayment plan in place, these loans are actually harming your business more than they are helping them.