Housing debt, budget deficit make Australia vulnerable to China shock: economist
A former government resources economist warns that rising risky home lending and a persistent budget deficit make Australia's economy vulnerable to a Chinese economic shock next year.
Professor Quentin Grafton from the Australian National University says the nation needs fundamental financial, fiscal and economic reforms to boost stability and productivity before it faces another global shock.
"It's not business as usual as far as I'm concerned - we need to lift our game, otherwise there'll be shocks coming our way and we'll be ill-prepared for them," he told ABC News Online.
Such a shock could emerge from China, where property prices have started falling amid concerns about an oversupply of new housing after several years of rampant apartment development.
While Professor Grafton warns that he is no China expert, he was until 2013 the chief economist of the Federal Government's resources forecaster, and he sees no signs of a long-term iron ore price rebound.
"The trend is downwards, what's generating the trend is a large increase in supply, at least in the context of iron ore quite a sizeable proportion of that from Australia," he said.
"Then the third issue is the potential weakness in China itself in terms of a lot of infrastructure investment and building investment that's taking place - and then the question is will that continue at the same pace, and I think the answer to that is no it won't."
The prices of Australia's key commodity exports have slumped - iron ore is down almost 40 per cent so far this year from $US135 a tonne in January to a five-year low of $US84.30 yesterday.
However, the Australian dollar has stubbornly refused to follow the terms of trade lower, actually rising from 88.65 US cents at the start of January to 93.4 US cents today.
RBA 'between rock and a hard place'
Professor Grafton says the Reserve Bank is "between a rock and a hard place" of wanting a lower exchange rate while not being able to cut interest rates due to surging home prices in Australia's two largest cities.
The RBA's governor Glenn Stevens effectively admitted as much himself in a speech on Wednesday.
He argues that, while labelled as weak by many market economists, Australia's current annual growth rate of 3.1 per cent may be as good as conditions get for undertaking painful reforms.
"There are real fragilities in the Australian economy we need to address, and we need to do the best we can given the circumstances we have in September 2014, rather than waiting for the end of 2015 when thing might be not as rosy as they are now," Professor Grafton said.
Those reforms would include restraining the levels of home mortgage debt, addressing the Federal Government's deficit and making a range of productivity enhancing reforms, especially regarding taxation.
Professor Grafton says the budget and taxation changes will take time, but need to start happening in this term of Parliament.
However, he says macroprudential policies to reign in home lending are needed more urgently, with the final report of David Murray's Financial System Inquiry likely to provide some useful options later this year.
"I think things will eventually happen, but I think we should be moving much faster than that," he said.
Potential options include restrictions on the amount of high loan-to-value ratio loans that banks can issue, stricter tests on borrowers' ability to meet repayments in the face of rising interest rates, or a requirement for banks to hold more capital than they do currently to protect against home loan losses - this later option would also raise the cost of loans and/or lower the profit margins of the major banks.
