Thanks to an upgrade from Fitch, Australia is now one of just over a dozen countries with the top credit ratings from all three leading ratings agencies. It’s a happy story for investors – 20 years of GDP growth, low government debt, generous interest rates and booming exports to China. But while Australia may look like Superman in comparison to euro zone weaklings, there’s some kryptonite about.
Fiscal discipline and a freely fluctuating currency have helped insulate Australia from adverse fortune. It is well placed to deal with the current slowing in Chinese and domestic demand.
The central bank cut interest rates earlier this month and – as if to underscore the policy flexibility cited by Fitch on Monday – Canberra warned on Tuesday that it would need to let net government debt rise. The Australian total will rise to only nine per cent of GDP, laughably low by the standards of most other triple-A rated countries. All is not perfect, though. Longer term, life would be much more difficult if commodity prices fell significantly from their current exalted levels.
The country’s terms of trade, a measure of the relative prices of exports and imports, is twice as favourable now as in 2003. More immediately, Australia is vulnerable to swings in global liquidity.
Bond yields above four percent have lured global investors, who have snapped up roughly three-quarters of government debt and driven the Australian dollar up 90 per cent since 2001.
Banks rely on foreign loans for 20 per cent of their lending.
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As a result, roughly a quarter of Australia’s foreign borrowing is of two-year maturities or less. And, almost 60 per cent of all Australian foreign borrowing is from European banks.
Global funds have retreated, sending the Australian dollar down 13 percent in August and September and putting pressure on Australian banks.
The central bank might want to counter the effect of increased funding costs on highly leveraged households – debts in excess of 150 per cent of disposable income – but further rate cuts would probably push the Australian dollar down. That would make life for its banks even tougher.
