Team Australia to the rescue!

Christopher Joye

Coolabah Capital

In the AFR I write that the Commonwealth Treasury’s latest advice to government is to assume growth-destroying lockdowns on a rolling basis across Australia into 2022 prior to the advent of a compelling form of “herd immunity” via vaccinating more than 90 per cent of eligible children and adults. Thereafter, Australia’s borders will open to vaccinated travellers, students and economic migrants, and the community will have to learn to live with COVID-19 circulating amongst us.

Economic growth is expected to be decimated in the third quarter of this year, with the likes of the once-optimistic CBA forecasting that it will contract by an enormous 2.7 per cent. Given the risk of further lockdowns in the fourth quarter, there is every possibility Australia lurches into a double-dip recession with a huge increase in underemployment.

As foreshadowed here, the lockdown in the nation’s largest and most economically powerful state, NSW, will extend into September, exacerbated by the characteristically dithering and indecisive machinations of the NSW government.

It beggars belief that outdoor mask-wearing requirements were belatedly imposed on Thursday, one month after the initial lockdown, and further only apply to the eight local government areas (LGAs) with the highest infection rates. Given the circumstances, what rationalises the aversion to insisting on outdoor mask-wearing across the State? It is really that big an inconvenience?

It also seems completely nonsensical that NSW would allow individuals to move between households via the new “singles bubble”, which will only materially increase mobility and the prospect of transmission.

One day after Gladys Berejiklian’s rival, the telegenic, Princeton-educated NSW opposition leader, Chris Minns, called for the reinstatement of JobKeeper, Prime Minister Scott Morrison delivered with what is effectively an enhanced JobKeeper 2.0.

Morrison and Treasurer Joshua Frydenberg have lifted their weekly disaster payment to NSW individuals who have had their work cut 20 hours or more from $600 to $750, which is the same as the original JobKeeper payment. For those who have had work cut by between 8 and 20 hours, ScoMo and J-Fry boosted their compensation from $375 to $450. Workers on income support also get an extra $200 per week under the Fed’s upgraded program if they have lost more than 8 hours of work.

Finally, the PM and Treasurer have substantially increased their support for NSW businesses that have suffered a 30 per cent or more decline in revenue, lifting the maximum weekly payment from $10,000 to $100,000.

It was a classic Team Australia redux moment. And it has been matched by the banks, which are offering small businesses the ability to defer their loan repayments for up to 3 months, and waiving fees on deposits and merchant terminals for the same period. Banks are also giving home loan borrowers the option of deferring repayments on a month-to-month basis, which is a significant concession.

The Australian Prudential Regulation Authority has stepped up to the plate, in turn granting any banks that offer these generous repayment holidays relief from the harsh capital charges that normally apply to loans that are in arrears.

The missing piece of the Team Australia puzzle remains the Reserve Bank of Australia, which is expected to announce its important support measures on Tuesday.

Care of Governor Phil Lowe’s pre-emptive revelation of a more “flexible” monetary policy framework in July, which can quickly dial stimulus up (or down) depending on the observed data, Martin Place has some powerful options available to it.

With this in mind, Wesptac’s chief economist Bill Evans said on Friday that he expects the RBA to increase the pace of its stimulus program by lifting its purchases of Commonwealth and State government bonds from $5 billion to $6 billion per week.

“With NSW likely to remain in lockdown to the end of September, both NSW (down 7.8 per cent) and national economies (down 2.2 per cent) are set to contract,” Evans warned.

“The RBA board should use its flexible bond purchase program to provide more support for the economy. That could be done by immediately increasing its bond purchase program and deferring its planned taper. Such action would signal the RBA’s confidence in bond purchases and its ongoing commitment to support the economy.”

Evans was echoing the RBA board’s prescient statement at its July meeting that “given the high degree of uncertainty about the economic outlook members agreed that there should be flexibility to increase or reduce weekly bond purchases in the future, as warranted by the state of the economy at the time.”

Additional government bond purchases reduce the cost of State and Federal taxpayers’ interest repayments at a time when extra fiscal stimulus is being called upon. They also put downward pressure on the Aussie dollar, directly helping exporters and import-competing firms.

“If, as we expect, the RBA’s Board is advised of a sharp deterioration in the economic outlook, why not use its newly acquired flexible policy instrument to respond immediately,” Evans asks.

“Immediately lifting the purchase pace from $5 billion a week to $6 billion would send exactly the right message – that the new flexible policy is responding to a significant deterioration in the economic outlook.”

Evans notes that one possible argument against the RBA reacting promptly in response to this economic shock is that it might signal some sort of “panic”. He dismisses this out of hand as a head-in-sand suggestion: the RBA moving to up the ante of its stimulus will only encourage greater confidence that Australia’s key policymakers, including Lowe and his putative successor, Deputy Governor Guy Debelle, are working synergistically together to do everything they can to mitigate this withering blow.

With leading commentators like The Australian Financial Review’s John Kehoe advising that the RBA is “almost certain to delay the planned unwinding” of its stimulus, pretty much all economists now believe the RBA will defer its proposed reduction, or taper, of government bond purchases until its November or February meetings.

Given the spectre of the holiday season erupting over December and January, and the ensuing outbreaks during this period 12 months ago, revisiting policy in February seems to be the most prudent position.

With core inflation this week confirmed to be yet again running materially below the RBA’s target band over the 12 months to the June quarter (despite the immense recovery), the minimal regret policy is undoubtedly one that errs on the side of injecting more, rather than less, stimulus. As Evans and other economists have noted, the downside costs are almost non-existent.

In this context, one of the street’s best interest rate strategists, writing pseudonymously over at his Ricardian Ambivalence blog, highlights that the RBA has several options up its sleeve. More specifically, the RBA owns no Commonwealth and State government bonds with maturities beyond November 2032. Extending its purchases a little further in tenor would instantly resolve the “market capacity” concerns that the likes of NAB have aired if the RBA wants to dial-up its QE.

Ricardian Ambivalence also notes (as others have done) that the RBA continues to materially underweight its purchases of State government bonds, which are supplying almost as much stimulus as the Commonwealth, albeit at materially higher interest rates. Recalibrating the mix of purchases to alleviate debt servicing costs would further eliminate capacity constraints on the RBA’s stimulus.

All banks have aggressively revised-up their expectations for what is called “QE3”, starting in September. The once uber-hawkish CBA, which had pencilled in a hard taper involving just $50 billion of purchases, replaced this during the week with a more realistic $160 billion QE3 forecast. The consensus is now firmly encamped in this vicinity.

While this is surely once-in-a-lifetime adversity that we now face, and politicians and policymakers have unwittingly erred with their decision-making on occasion, there is no doubt that Team Australia is once again reassembling to ensure that the world’s most vibrant multicultural country survives and thrives.

Australia will come out of this pandemic stronger and more cohesive than ever before. The fact is we massively outperformed the rest of the world in 2020 and for much of 2021. And just as our athletes are besting rivals on a per capita basis in Tokyo, our dynamic and innovative economy will do likewise as we rebound over the years ahead.

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Christopher Joye
Portfolio Manager & Chief Investment Officer
Coolabah Capital

Chris co-founded Coolabah in 2011, which today runs $7 billion with a team of 33 executives focussed on generating credit alpha from mispricings across fixed-income markets. In 2019, Chris was selected as one of FE fundinfo’s Top 10 “Alpha...

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