No boom to come: Savings will remain high
The price of money or rate of interest in a market-determined framework is a function of supply and demand which pertains to savings and investment (borrowing). Pre-COVID, the marginal dollar sought to be saved. Little has changed since then. Additional quantitative easing from central banks has largely created excess bank reserves which are simply being reinvested into ‘risk free’ assets (saved).
There is a belief that the excess savings ‘war chest’ accumulated over the course of the pandemic is a huge source of future demand just waiting to be unleashed and creating a consumption boom. This is unlikely, in our view.
Research from the New York Federal Reserve in their monthly Survey of Consumer Expectations highlights that of the gargantuan multi-trillion dollar stimulus programs unleashed in the US during the pandemic, around 25% was directed to essential and discretionary consumption and the rest saved and used to pay down debt. There is a phrase for that. It’s called a damp squib.
New York federal reserve survey of consumer expectations
It is no surprise that the pandemic caused an upward shock to savings rates around the world, fueled by fiscal stimulus. The consensus view is that this war chest is waiting to be unleashed as we move to a vaccinated world. Surveys such as the New York Fed’s remind us that it won’t be that simple.
Anyone living through yet another lockdown is being reminded of the uncertainty created by the pandemic and we expect consumers to conservatively retain an excess buffer. In short, savings rates will probably fall a little further but they’re not going back to pre-COVID levels.
Savings become excess reserves in the banking system until demand for borrowing returns. Quantitative easing only adds fuel to the savings fire as central banks exchange bank bond holdings for reserves.
US banks reserves held at the FED
The RBA’s actions, including the Term Funding Facility (which gave domestic banks access to term funding at 0.1%), have added to the savings glut and explained why short-term inter-bank funding rates have consistently traded below the RBA’s target cash rate of 0.1%.
Australian bank reserves held at the RBA
The 3-month bank bill swap rate has traded below the 0.1% cash rate for some time.
3 month Australian bank bill swap rate
It is likely the Australian 10-year bond revisits the 1% level in the near term, aided by the fact that US 10-year Treasuries follow a similar path. Have we turned structurally bullish on bonds/duration?
No, we don’t suggest that yields are going to 0 in the short term, but we are likely stuck in this up/down range within a lower yield construct. Equally, yields aren’t likely to retest the highs seen in February this year anytime soon. Instead, prepare for more of the choppiness that is likely to mark the 20’s.
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Andrew Canobi is the director of Australia Fixed Income for Franklin Templeton Fixed Income in Melbourne, Australia. Mr. Canobi is responsible for managing fixed income portfolios including macro strategy formulation, credit research, and...