House Prices

Further deceleration in the Australian credit impulse – Feb 2017

The latest RBA credit and lending aggregates for Feb 2017 show that the growth in new credit has continued to decelerate.

Total Private Credit – growth in new credit decelerates further in Feb to -$24b

The growth in new credit at the aggregate level (total private sector) began to decelerate sharply from April 2016. Since then, the annual growth in new credit has gone from +$30b in April 2016 to -$24b as of the latest February 2017 data. This is now approaching the lows reached in mid-2013:-

Source: RBA, The Macroeconomic Project

The main driver of this slowing growth in new credit has been business credit, which has continued to slow since June 2016. The growth in new credit for mortgages started to accelerate in November 2016, but this has not been large enough to offset the deceleration in business credit growth.

Progressively smaller increments in the growth in new credit are likely to result in lower spending and growth. Consider that the annual growth in the stock of total private credit in February 2016 was $161.9b and this annual growth in credit slowed to $137.9b in February 2017 – overall, this is -$24b less annual credit growth in the economy. This equates to approx. -1.4% of nominal GDP.

Given the recent strength in economic growth data (which is so far only the Dec ’16 quarter), the question is whether other sources of spending growth, such as income, are accelerating to offset this deceleration in total private credit growth.

Read more on the Australian Debt and Credit Impulse page of this blog.

Australian credit impulse decelerates further in October 2016

The RBA released its credit and lending aggregates last week which gave me a chance to update the growth in new credit indicators. The growth in new credit is one of two important sources of spending that can provide some insight into the broad direction of growth in spending and house prices in the near term. You can read more about the credit impulse here.

In October 2016, growth in new credit for the private sector continued its much sharper deceleration – the overall trend for growth in new private sector credit remains negative:-

Source: RBA, The Macroeconomic Project

Total private sector growth in new credit peaked back in October 2014 with growth in new credit reaching +$50b. Since then, growth in new credit started to decelerate and this has picked up significant pace since Apr 2016. As of Oct 2016, total private sector growth in new credit is firmly negative at -$20b. To generate growth in spending, credit growth (and/or income) needs to be accelerating.

To be perfectly clear, the overall level of outstanding debt is still growing, but new credit is now growing at a decreasing rate. The longer term chart below of total private growth in new credit in Australia provides some context for where we are in the cycle:-

Source: RBA, The Macroeconomic Project

The main driver behind this recent deceleration is new business credit.

The period of expansion for total private sector credit between May 2013 and Oct 2014 was driven mainly by the acceleration in the growth in new credit for business. For a period of time, the size of the growth in new credit for business was even on par with that of mortgages. This was a strong indication that the economy could expect to see greater stability in employment growth and investment spending (at least to help off-set falls in mining investment spending). Despite drifting off again, there was a period of modest acceleration between Jun 2015 and Jun 2016.

Since Jun 2016, the growth in new credit for business has started decelerating at a much faster pace. As of Oct 2016, the growth in new credit for business is also firmly negative at -$13b. The previous cycle low was -$33b in May 2013, and while we are still a way off this, the negative slope of the curve is what is important:-

Source: RBA, The Macroeconomic Project

The size of the business credit impulse is now smaller than that of mortgages and other personal credit.

This deceleration is not consistent with higher growth expectations for the economy, especially against a backdrop of already low income growth. The peak in this most recent cycle of new credit growth for business also highlights how much weaker this ‘expansion’ (2014-2016) has been compared to the period prior to, and immediately after the GFC. For the moment, we are seeing a much weaker labour market and continued lackluster business investment. Without accelerating business credit, we are likely to see this continue.

There was a small, positive shift in the growth in new credit for mortgages in Oct. Although still negative, the growth in new credit for mortgages accelerated slightly from -$8.3b in Sept to -$6.9b in Oct – the first positive move since mid-2015. Looking at the split between the owner occupier and the investor credit impulse is problematic due to data cycling over large series breaks from 2015. For example, the largest adjustment in loan classification from investor to owner occupier mortgages occurred in Oct 2015 when $17b in mortgage loans were reclassified.

The slope of the overall mortgage credit impulse curve has been negative since Jun 2015, with growth in new mortgage credit decelerating from +$30b to now -$6.9b in Oct 2016. This means that new credit is now growing at a more constant pace, suggesting that price growth is also not likely to accelerate.

Source: RBA, The Macroeconomic Project

The question is, how has this manifested in house price growth at a National level?

Using the latest ABS data (to June 2016), growth in residential property prices has slowed in the last year (to June 2016) compared to the year prior (to June 2015). This is very much in line with what the credit impulse would suggest has happened.

Source: ABS

The slow down in price growth is evident in both established houses as well as attached dwellings and, in both cases, growth has slowed quite significantly. Again this is very much in line with the steep, negative slope of the credit impulse during that time.

The same data, over time, also clearly correlates with the slope of the mortgage credit impulse curve.

Source: ABS

The performance of the housing market in Australia has been very uneven and state performance varies widely, but on aggregate, the deceleration in credit growth suggested that overall residential price growth would also slow. Until there is a more sustained acceleration in the credit impulse for mortgages, we can expect house price growth, on aggregate, to remain low/neutral.

Credit impulse in Australia turns negative in September 2016

An update on the credit impulse and debt levels in Australia has been posted on the Australian debt and the credit impulse page on this blog. You can read the latest results in more detail, as well as an explanation on measuring the credit impulse on that page.

The growth in new credit for the total private sector has been decelerating since April 2016 and the level of deceleration has been gathering pace over the last five months. In Sept 16, the growth in new credit for the total private sector became firmly negative for the first time since Sept 2013. This is a particularly negative change in the trend.

Source: RBA, The Macroeconomic Project

The level of deceleration in the credit impulse for total private debt, especially over the last three months, has been driven by the deceleration in the growth in new credit for business and, to a lesser degree, the growth in new credit for mortgages. Since Jun 2015, there was at least a slightly accelerating rate of growth in new credit for business (but still low in comparison to other expansions), which was supportive of growth in aggregate demand and broadly supportive of at least more stable employment growth.

The growth in new credit across all sectors (business, mortgages and other personal) is now negative. That means that while total private debt is still growing, growth is no longer accelerating. To generate spending growth or asset price growth, credit growth (and/or income) needs to accelerate.

The annual growth in total private credit as of Sept 2015 was $153.5b. As of Sept 2016, the annual growth in total private credit has slowed to $138.9b – which is $14b lower. The question is whether other sources of spending, such as income or a lower saving rate, are accelerating to offset the deceleration in credit growth.

Indicators of National Income are only available to Jun 2016 at this point – and it’s been mainly in the 3 months since Jun 16 that we’ve started to see growth in new credit start to decelerate at a faster pace.

Source: ABS

From Sept 2015 to Mar 2016, the quarterly growth in Real Net National Disposable Income was accelerating – this has likely been helping to off-set decelerating total private credit growth during that time. Growth in Real Net National Disposable Income has slowed in the latest quarter (Jun 2016), so it will be important to see if this trend continues or not. If National Income continues to slow while credit growth also decelerates, then it’s not likely that we will see growth in aggregate demand accelerating. Growth will be more likely to slow down in the near term and we are more likely to see weaker growth in employment aggregates.

Growth in new credit decelerates – March 2016

The update to the Australian Debt & the Credit Impulse page has now been posted – you can read the results in more detail including background on the credit impulse measure on that page.

The latest data shows that for the total private sector, growth in new credit is decelerating.

The annual growth in new credit has slowed from $27.2b in February to $23.3b in March 2016. This has been predominantly driven by the deceleration in new mortgage plus other personal credit growth.

Source: RBA, The Macroeconomic Project

The performance of the components making up total private credit are mixed.

Business – The growth in new credit for business has accelerated slightly from $14.7b in Feb to $16.6b in Mar. Despite a few up and down periods, the overall trend since June 2015 has been accelerating credit growth. But it hasn’t been a very steep curve and this point matters. Since June 2015, the growth in new credit has accelerated from $7.4b to $16.6b over the ten (10) month period. Compare this to the first ten (10) months from the May 13 bottom where the growth in new credit for business accelerated from -$33.6b to -$1.8b in ten (10) months – a much bigger move and a clearly steeper curve. The implication is the steeper the curve, the higher the growth in new credit which means more growth in spending by business. There was a clear pickup throughout the economy during that time, especially evident in the turnaround in the labour market as business increased hiring. For the moment, the slower acceleration means more of a steady course in activity, rather than implying stronger growth in the near term.

The pick-up in credit acceleration for business in the latest month, and if it continues to improve, may be a better sign for labour market conditions in the near future.

Mortgage plus Other Personal – Unfortunately, the slightly more positive acceleration in new credit for business has been more than offset by the deceleration in the growth of new mortgage plus other personal credit. The chart above includes ‘other personal’ to provide a more consistent trend given the large adjustments made in both data sets. This measure has decelerated from +$12.3b in Feb to +$6.6b in March. Both mortgage and other personal contributed to that deceleration. Growth in new credit for mortgages decelerated from +$27.6b in Feb to $23.4b in Mar (-$3.9b). Other personal also decelerated from -$15.3b in Feb to -$17b in Mar. The deceleration in new mortgage credit continues to imply lower growth in house prices in the future. There has also been a loose relationship with retail sales and mortgage growth throughout these last few years of higher house price growth, so the deceleration is likely to affect spending in these areas as well.

You can read more details here.

Cracks in the foundations of housing finance

The latest raft of housing finance data was released for the month of October last week. On aggregate, growth in housing finance is still strong, which means likely continued growth in house prices in Australia over the next 6-9 months. While the total value of dwellings finance again reached a new all-time high of $23.8b in October, that growth is not broad-based. Growth in housing finance continues to be driven by investor activity, mainly in NSW and VIC, while at the same time, owner occupier activity continues to slow – a trend that is now well in place. An increasing number of questions are being asked about the sustainability of and the risks posed by this level of growth, especially in investor activity. Over the last few weeks, there have been important messages of a shift in the risk profile of our regulators which would impact the growth of housing finance, especially for investment purposes. These include the Murray Inquiry recommendations, APRA increasing its surveillance of mortgage lending practices and the recent announcement that ASIC will investigate the growth in interest only mortgages.

Over the last 12 months, house prices in Australia have grown by over 9% – just below the high rates achieved during the First Home Owner Grant fuelled growth after the GFC. This news is usually trumpeted by all those representing a more bullish view of the role of housing in the economy. How can rising house prices be anything but good for the economy? But consider that the continued growth in house prices relies on the continued growth in housing finance and debt. This recent increase in house prices has been the result of accelerating growth in leverage – real mortgage debt as a % of GDP in Australia is now just 0.9% pts shy of its all-time high of 84.6% reached in December 2010. Debt per-se is not a bad thing – it helps to support investment and productive activity in the economy. While the growth of housing debt is not new in Australia, there is an increasing risk associated with this debt emerging in the broader environment.

All data quoted excludes refinancing of established dwellings.

Another record month for housing finance in October

This latest month of data shows that the value of total housing finance reached an all-time of $23.8b in October 2014. This was +0.4% higher than the previous month and is now 13% higher than the value reached at the previous all-time high in June 2007. On an annual basis, all dwellings finance is growing at +18%.

Source: ABS

The total value of the flow of new housing finance is an important driver of house price growth. We can also measure this another way by the growth in new credit based on the “change of the change” of the stock of outstanding credit. This shows that growth in new credit for mortgages continues to accelerate at a total level.

Source: RBA, The Macroeconomic Project

This trend in housing finance and house price growth has broadly been in place since the start of the latest round of interest rate cuts commenced in late 2011. Since then, expansionary monetary policy has been aided by accommodative global financial conditions i.e. QE. This has resulted in lower funding costs for the banks on global markets which have filtered through to the lending market. This has helped to generate greater price competition in the mortgage market with some banks offering fixed rate mortgages at below 5%. The current benchmark standard variable rate is 5.95% (RBA F05 Benchmark lending rates, Nov 2014). But interest rates haven’t been the only thing to drive this growth – taxation policy, the introduction of leverage into SMSF’s and foreign ownership rules have all contributed to the ongoing growth of housing finance, debt and house prices by finding the next marginal buyer of property.

Owner occupier lending is slowing down

Underlying these totals, the story is a little different. One important point from this latest data is that growth of housing finance for owner occupiers is no longer growing as fast – slowing over the last eight (8) months from +15% to now just over 10% growth on an annual basis – which is still high, but well below that of the total market.

Source: ABS

The biggest segment of owner occupier housing finance is for the purchase of established dwellings. This group has historically been the largest segment of lending overall and also a broader indicator of the state of household confidence and spending. The contribution to annual growth from owner occupiers buying established dwellings has shrunk considerably in the latest quarter versus the annual result. The contribution from owner occupiers borrowing for the purchase of new dwellings remains limited. The impetus for growth in housing finance is clearly coming from investors.

Source: ABS

Despite the growth in lending at a total level, owner occupier activity hasn’t grown to the same degree. The value of owner occupier housing finance is still well below the peak achieved during the super charged First Home Owners Grant (FHOG) during the GFC and the current monthly total is -7.5% below the all-time high achieved in Sept 2009.

Importantly though, the growth in owner occupier activity experienced from late 2011 until the end of 2013 has slowed down.

Source: ABS

The currently monthly value of owner occupier finance is only -1.9% below the recent peak in Nov 2013, so there has been no decline of any significant nature.

The slow-down is also reflected in the number of owner occupiers taking our housing finance commitments – this is probably the most accurate characterisation of the situation – the number remains at a high level, but without growth.

Source: ABS

Annually, the number of owner occupier commitments has grown by +6%, but that has now slowed to just 1% growth in the latest quarter to Oct (versus the same qtr. year ago). So virtually no growth in the number of commitments at a National level – but no decline either.

Digging deeper into the state data reveals that:

  • While NSW accounts for the largest % point contribution to annual growth in owner occupier housing finance, that contribution has dropped considerably in the latest quarter – this might be no surprise given the level of investor activity subsequently pricing owner occupiers out of the market
  • Owner occupier finance in WA has made a slightly negative contribution to growth in the latest quarter
  • QLD and VIC are making up the larger contribution to growth in the latest quarter

Source: ABS

In NSW, the slow-down in growth has been driven by owner occupiers buying established dwellings (ex refi’s) and new dwellings. Neither shows a convincing decline in the trend though, so it’s difficult to read too much into this except that growth has slowed.

In WA, the slow-down in the latest quarter is also driven by owner occupiers buying established dwellings – again, the trend is not clearly down either.

Investor activity continues to grow

Investor housing finance has been the main driver of growth in the market – growing at over 28% year on year. All segments of investor activity now accounts for nearly 70% of the growth in housing finance ex refinancing. The annual rate of growth has been sitting around 28% since April 2014.

Source: ABS

While the rate of growth has remained at the 28% level, the monthly value of housing investment finance activity continues to reach new highs – over $12b in the latest month. This is driving the broader growth in housing finance.

Source: ABS

There have been some signs of slowing growth in recent months, but the market just continues onto new highs.

Even at a state level, growth is strong. Looking at the latest quarter versus annual growth in investment housing finance, it’s clear that some of the growth rates have come off the boil, but they are still very high overall. The states that are making the largest contribution to overall growth in the value of investment housing finance are NSW, VIC, QLD and to a smaller degree, WA.

Source: ABS

The level of investment housing finance in states such as NSW, VIC, QLD and TAS are at their near term highs (in the period since interest rates were cut in Nov 2011). In QLD, WA & TAS growth in investment housing finance has accelerated in the latest quarter versus the last year.

This increase in investor activity has created a shift in the market. Housing investors now account for a much larger share of housing finance – this is the first time in the data series that investment housing finance has exceeded the value of owner occupier commitments.

Source: ABS

An increasing proportion of investors in the market creates some risk. Financing for investment properties is based on the use of interest only mortgages in order to take advantage of the tax benefits of negative gearing. This means that investors pay only the interest component for a fixed period. At the end of that period, loans either revert to principle + interest loans (P&I), are refinanced to extend the interest only period (assuming it can be) or the loan is paid off (by selling the property).

Most property investors in Australia make a net rental income loss – the total net income losses in 2012/13 financial year was -$8b (Source: ATO). In other words, the annual rental income of investment properties does not cover the interest payment plus other expenses. Whilst negative gearing is used as a tax minimisation strategy, housing investors are making one big bet on increasing house prices. Given the high rate of growth in investor housing, the sentiment seems to be one of “prices always go up”. Housing investors have moved to this level of ‘Ponzi’ financing, relying solely on capital gain for payback.

This situation has been in place for a long time now with a growing number of investors making losses in order to reduce their taxable income. This increasing loss has been the result of higher property prices together with much slower growth in rental prices/income. The reductions in interest rates has helped to cushion some of this, but even at these low rates, interest expense is still approx. half of the expense incurred by a property investor.

Source: Egan & Soos, Bubble Economics – Australian Land Speculation 1830 – 2013

According to latest ATO stats, an estimated 1.9m taxpayers claimed the total -$8b loss in 2012/13, up from an estimated 1.6m investors in 2008/09.

Given the growth in investment housing finance, interest only loans are growing as a proportion of total lending – reaching over 42% of new housing loans approved in Sept qtr. 2014 (by total value all ADI’s).

Source: APRA

Slightly more concerning is that there also appears to be a growing number of owner occupiers using interest only loans. This next chart shows the difference in %pts between the share of investors and the share of interest only loans. That gap is widening. In the Sept 2014 quarter, investors represented 37.5% of all new housing loan approvals and yet interest only loans represented 42.5% of all new housing loan approvals – a gap of -5.1% pts. A difference of zero would imply that investors are taking out interest only loans – but the current situation shows that, at the very least, investors plus non-investors i.e. owner occupiers, are also taking out interest only loans.

Source: APRA, The Macroeconomic Project

This is riskier for an owner occupier given they cannot claim the interest expense as a part of a loss to reduce taxable income. If an owner occupier can’t afford the repayments of a standard P&I loan now, then they are betting 1) their income will be larger at the end of the interest only period (to manage a higher monthly repayment if it reverts back to P&I) or, more likely, 2) house prices will continue to appreciate such that at the end of the interest only period, the owner occupier will be able to pay off the loan by selling the property. Under the condition that house prices rise, the owner occupier could refinance (the capital appreciation providing the ‘equity’) – but it will likely be a more expensive loan in the longer run.

Emerging risks in the system

Concerns have been growing about the level of growth in housing lending that is fuelling higher house prices, especially in investor related activity. There are several emerging risks in the broader economic environment:-

Signalling that the US will raise interest rates in 2015. Importantly, the current growth in Australian housing has been off the back of historically low rates, lower funding costs for the banks and generally high levels of global liquidity. An increase in US rates would be the first moves in tightening of global liquidity (until such time that the ECB actually does implement some form of QE). This would likely increase bank funding costs in Australia with those costs most likely passed onto the consumer/borrower. Tighter liquidity conditions are likely to slow the level of house price appreciation in Australia. The likelihood of rates rising can be debated at length, but at the very least, the liquidity provided by QE is no longer growing.

Slowing growth in Australia. This brings into question whether rates will really rise in Australia in the short term. According to the RBA current interest rate settings are right for the current environment. But a slowing economy is likely to impact growth in housing finance regardless. We are possibly seeing some of that effect reflected in the slowing of owner occupier activity as ‘affordability’ starts to limit the level of debt growth in combination with slowing income and wages growth.

These broader economic risks, together with the current level of activity in our housing market, seem to be feeding into a heightened level of regulatory attention. Whether this leads to action on the part of our regulators is another story. Several areas are in focus:-

An increase in lending concentration risk. This was highlighted by the recent Murray Inquiry as well as in the recent round of APRA banks stress tests. Australian banks have continued to build greater concentration in and exposure to the housing market in their loan portfolios, with mortgages increasing from 55% to 65% of lending over the last 10 years (Source: APRA). Mortgages are seen as lower risk, hence attract a lower risk weight in the calculation of capital requirements. The increase in concentration of mortgages over the last ten years has had the effect of actually reducing the amount of capital banks are required to hold – and actually, the improvement in capital ratios is a result of the increasing shift into mortgages rather than any deleveraging. But in effect, the combination of greater concentration in housing loans and the reduced requirement for capital has created some risk in the system.

“Given housing loans have become such a high concentration on the systems balance sheet and require, particularly for the more sophisticated banks, very limited levels of capital, assessing losses within the housing book are critical to judging the adequacy of capital of Australia’s banks” Wayne Byres, Chairman APRA, Lessons from APRA’s 2014 Tress Test on Australia’s Largest Banks, 7th November 2014

At this stage APRA has no plans to increase capital ratios for banks, but it was a key recommendation in the recent Murray Inquiry report – “Because of their (banks) reliance on off-shore funding markets, the highly concentrated nature of our banking sector and the similarity of business model of most Australian banks.” Banks are essentially all in the same trade with little diversification of lending risk.

ASIC investigation into the use of “interest only” loans. See the full announcement here. The growing proportion of interest only loans has raised concerns regarding the appropriateness of this higher risk lending. Under the current low rates scenario, interest only loans enable borrowers to maximise the amount they can borrow, especially for investment purposes. This increases the amount of leverage and risk. The concern raised by ASIC relates the whether these loans are appropriate in all circumstances.

‘While house prices have been experiencing growth in many parts of Australia, it remains critical that lenders are not putting consumers into unsuitable loans that could see them end up with unsustainable levels of debt”, ASIC Deputy Chairman Peter Kell, Media Release, 9th December 2014

Increased surveillance of lending practices by APRA. This is in response to what it calls emerging pressures in the housing market”. In a statement released last week, APRA confirmed that while it would not increase capital requirements or introduce macro-prudential limits at this stage, it will step up its surveillance of “specific areas of concern”:-

  • higher risk mortgage lending — for example, high loan-to-income loans, high loan-to-valuation (LVR) loans, interest-only loans to owner occupiers, and loans with very long terms;
  • strong growth in lending to property investors — portfolio growth materially above a threshold of 10 per cent will be an important risk indicator for APRA supervisors in considering the need for further action;
  • loan affordability tests for new borrowers — in APRA’s view, these should incorporate an interest rate buffer of at least 2 per cent above the loan product rate, and a floor lending rate of at least 7 per cent, when assessing borrowers’ ability to service their loans. Good practice would be to maintain a buffer and floor rate comfortably above these levels.

(Source: APRA 9th Dec 2014)

Implicit in all of the increased regulatory focus of late is the question ‘what if housing doesn’t always go up?’ This is quite a departure from what is ingrained in our culture – that real estate values only ever go up. But the combination of the threat of tighter global liquidity together with slowing growth in Australia now raises this very possibility. Strengthening the regulatory framework is undoubtedly an important step to take, but its effect will be to slow down the housing market in order to reduce any further risk. Measures to strengthen the financial system and to limit the growth of riskier lending will in effect take the momentum out of the fastest growing part of the market. This action itself could pose a threat to those exposed to the real estate market that are highly leveraged and are relying solely on house price gains.

However, as very highly leveraged institutions at the centre of the financial system, investing in risky assets and offering depositors a capital guaranteed investment, we need confidence that banks can withstand periods of reasonable stress without jeopardising the interests of the broader community (except perhaps for their own shareholders). But what degree of confidence do we want?” Wayne Byres, Chairman APRA, Opening statement to the House of Representatives Standing Committee on Economics 28 Nov 2014

Growth in New Credit Continues to Accelerate in June 2014

Growth in new private sector credit has been accelerating for a year now. The largest component, housing, has gained most of the attention. But the more hidden star of the show has been the acceleration in growth of new credit for business. It’s an important point to focus on because it should be positive news regarding the Australian economy. Credit growth for business should lead to increased capital investment and all the benefits that come along with that – income, employment and economic growth. Yet private sector capex growth has not been a strong performer over the last few quarters, mostly due to the slowdown in growth of mining capex. The main question of this post, is whether this acceleration in the growth in new credit for business has, or will, likely end up driving growth in business investment – especially non-mining investment. Given the forward estimates for total capex (ex housing) in the 2014/15 financial year are still well below current levels, the answer is probably not to the degree needed at this stage.

The other important highlight in the June data is the reversal in the size of new credit growth between investor and owner occupier mortgages. The change was surprisingly large and, if it continues, highlights a potential shift in sentiment in the housing market. The overall continued acceleration of growth in new mortgage credit is likely to feed into ongoing house price growth.

Some clarification is required first. On this blog, I maintain a ‘credit impulse’ page which looks at the growth in new credit as a % of GDP. Growth in credit/debt is one of the major themes driving the Australian economy, along with mining and housing, so the tracking of the credit impulse is a useful indicator of activity in the economy. The data for this post and the credit impulse calculations are sourced from the same data – the stock of outstanding credit (RBA D02). As GDP is released quarterly, the credit impulse tracker is only updated at that time. In between these times, the ‘growth in new credit’ is used to gauge activity in the economy. The growth in new credit looks at second order changes or acceleration in credit growth in dollar terms. Read more here.

There are two significant highlights in the release of the June data by the RBA.

The first is the continued acceleration of growth in new credit for the business component of total private sector credit.

Chart 1

Source: RBA

The growth in new credit for business is now, for the first time in well over 18 months, one of the larger contributors to the overall growth in new private sector credit.

The growth in new credit for business could be an early indication that business is now willing to take on new debt to invest and/or expand. This is generally good news for economic growth. But it’s important to consider what this growth in new credit is being used for and which sectors are driving the growth in new credit in order to ascertain its potential impact on the economy.

As an aside, I generally place greater value on growth in business debt leading to productive capital investment than growth in debt for housing. Growth in new credit for housing does not tend to have the same impact on the economy where the majority of that credit growth is used to just transfer existing assets within the private sector for higher and higher prices. This type of credit growth potentially takes away from more productive forms of investment usually undertaken by business.

The stock of total outstanding credit for business is now only 2% below the peak reached pre-GFC in November 2008. The growth over the last 12 months (especially) is evident, as is the large increase in June 2014.

Chart 2

Source: RBA

The important assumption above is that this credit growth will lead to some form of productive business investment and/or expansion. This is usually part of the transmission mechanism that central banks rely upon when implementing a lower interest rate policy. But, despite the acceleration in growth in new credit for business over the last year, private capital expenditure growth has been poor of late.

Looking at the Mar ’14 GDP results, Private Gross Fixed Capital Formation (GFCF) made a -0.09% pt contribution to annual GDP growth of +3.53%. Breaking Private GFCF down into its component parts reveals the split between a negative contribution from Total Business Investment and a positive contribution from Dwellings & Ownership Transfer costs. This is consistent with the larger contribution from mortgage credit growth than business credit growth in the year leading up to the March quarter.

Chart 3

Source: ABS

The dwellings component is made up of ‘new & used dwellings’ most of which is new dwelling construction but also includes new additions and/or alterations to existing private dwellings. ‘Ownership transfer’ costs relate to all ownership transfer costs, not just for dwellings.

The main drivers of the negative contribution for Total Business Investment was non-dwelling construction and machinery & equipment, together contributing -0.67%pts to the decline in the Total Business Investment component. The Total Business Investment component has made a negative contribution to overall GDP growth for the last three (3) quarters and at a similar rate.

So will this current acceleration in the growth in new credit for business likely feed into growth in business investment? First consider which sectors have been driving this growth in new credit for business.

The RBA series – Bank Lending to Business – Total Credit Outstanding by Size & Sector (D7.3) provides some insight as to which sectors have been driving this growth in new credit for business over the last year. Note that the most recent data is only up until March 2014.

Over the last year, the single largest contributor to the growth in new credit for business was from the Finance & Insurance sector.

Chart 4

Source: RBA

Looking at the trend in the growth of new credit for business by major sector provides a further layer of insight. I’ve split the major sectors into two charts given the relative size of the dollar growth in new credit:-

A) The two largest sectors by share of total credit outstanding are Other (48%) and the Finance & Insurance sector (16%).

Chart 5

Source: RBA

The annual growth in new credit for Finance & Insurance has accelerated to $16b as of Mar 2014 – with the trend over the last 3 quarters to Mar ’14 clearly positive. Despite being the larger share of total bank lending to business outstanding, the growth in new credit for ‘Other’ remains negative and the upward trend no longer in place. Both are well below their recent highs which will likely have implications for the relative impact in the economy.

The question that this raises though, is to what degree will bank lending to the Finance & Insurance sector will lead to growth in capital investment? Finance and Insurance are service based industries, so large capital projects for these firms are likely to be IT or real estate based. According to the latest ABS capex survey (in current dollars), actual annual capex expenditure in the Finance & Insurance sector declined by 6.3% and the sector only accounts for a small proportion of the value of capex in the survey. More likely, this growth in new credit could find its way into the economy through these firms carrying out their core business of providing funding. Whether this ends up funding further housing speculation or more productive business investment remains to be seen.

B) The other major sectors of Agriculture, Mining, Manufacturing, Construction and Wholesale, Retail and Transport account for 36% of total outstanding credit of bank lending to business.

The size of the growth in new credit among these sectors is clearly much smaller than Finance & Insurance (again will have implications for the level of impact in the economy), but the important point to note is the recent acceleration of growth in new credit across most sectors. The direction is important, but the relative size of the growth is still small (which is why the credit impulse is so useful, as it expresses this growth as a % of GDP).

Chart 6

Source: RBA

The important point from this is to see whether this growth in new credit starts to show up in capex in these sectors. Given the continued acceleration of growth in new credit for the business sector (highlighted in chart 1, RBA D.02) between March and June 2014, there may be some upside surprise in private GFCF in the next few quarters GDP.

Looking at the Expected Capex survey from the ABS for March 2014, the small improvements in expected capital expenditure for manufacturing and ‘other selected industries’ are overshadowed by the sheer scale of the slow-down in mining.

Chart 7 – Total Capital Expenditure – actual and expected

Source: ABS 5625 – this survey isn’t a comprehensive over view of capex across all industry sectors – the ‘other selected industries’ does not include agriculture, forestry and fishing, education, and health and community services industries and capital expenditure on dwellings by households.

Firstly, looking at the remainder of the 2013/14 year above. Note that estimate 6 comprises actuals to March and estimates for the June qtr of the 13/14 financial year.

Total capital expenditure at estimate 6 represented a -2.5% decline on the previous estimate 5 at Dec 2013. The largest component of that decline was mining $-7,294m. At the same time manufacturing capex increased by 6.2% or $558m and ‘other selected industries also grew by 4.4% or $2,461m – was this growth driven by the recent growth in new credit? But the growth in capex in both these sectors was clearly overshadowed by the slow-down in mining. The upshot is that significant capex increases (and presumably credit) would be required by industries ex-mining in order to ‘re-balance’ growth as mining capex slows.

Looking further out to 2014/15, estimate 2 for total capital expenditure is set to decline by 15% from where estimate 6 currently stands. The biggest contributor to that decline is mining at -16% or -$15,418m. There is no evidence here to suggest that other sectors will be picking up the slack. For example, capital expenditure in manufacturing at estimate 2 for 2014/15 year is 29% or -$2,788m below where estimate 6 currently sits for the 2013/14 financial year. Other selected industries is similar, sitting at -13% or -$7,581m for the 2014/15 financial year.

The next capex survey for the June 2014 qtr is due for release by the ABS on 28th August 2014 (ABS 5625 Private New Capital Expenditure and Expected Expenditure) and this may shed some more light on whether this recent acceleration in credit growth between March and June has fed into incremental capital expenditure for the remainder of 2013/14 financial year.

Another more up to date indicator of potential capital expenditure is the import of capital goods (ABS 5368.08 – I’ve used trend data here in order to provide a guide on direction). The import of capital goods has declined by 5.5% year on year at June 2014 compared to an increase of 7.9% on the import of consumption goods. The month on month growth in import of capital goods suggests only a slight improvement via a slower rate of decline in the three months leading up to June 2014. In fact, the import of intermediate goods highlights that ‘other parts for capital goods’ has grown annually at over 6%, but the recent month on month data points to decline over the last five months.

The second highlight of the RBA June data was the dramatic shift in the size of the growth in new credit from investor to owner occupier mortgages.

Growth in new credit for housing investor mortgages has been the largest component of growth in total new private credit over the last year, despite the size of outstanding credit being half that for owner occupier activity. But in June, this trend reversed sharply, with growth in new credit for owner occupier mortgages increasing sharply;-

Chart 8

Source: RBA

Given that this has happened in one month, it’s unclear as to whether this is the start of a new trend. But if it is, it marks the start of a change in sentiment. Investor activity has been the key driver behind growth in housing debt and therefore house prices during this current interest rate easing cycle. It appears that owner occupiers were much slower to take advantage of lower interest rates to increase their debt load. Recently, several of the bigger banks have suggested that owner occupiers have used this opportunity to pay down mortgage debt at a faster rate. Full article here (source: SMH 27 July 2014). The data I use here is the stock of outstanding credit (the difference between monthly totals represents the addition of new debt to existing debt, less all debt that is paid down in the period), so a sudden increase in new credit growth could indicate that 1) owner occupier mortgages are now growing faster than households are paying down incremental mortgage debt or 2) that owner occupier households have slowed their faster rate of mortgage pay-down for some reason.

The growth in new credit for owner occupier mortgages only turned positive in May 2014, so the large increase in the June data is surprising. I will delve further into this issue in another post looking at the growth in housing finance and house prices in Australia.

It’s worthwhile pointing out that the growth in new credit for all mortgages is now higher than the pre GFC peak. This was not the case for growth in new business credit.

Chart 9

Source: RBA

Given the data shows the second order change, it means mortgage credit growth continues to accelerate in Australia. This ongoing acceleration suggests that house prices will, on aggregate, also continue to rise in the near term.





The credit impulse strengthens in March 2014

Credit data released by the RBA shows growth in Total Private Credit accelerating, as at March 2014.

This should be a positive sign for the economy – changes in spending in the economy depend on changes in income and changes in net new lending (source: The components of this acceleration are also important indicators of where the economy may be headed and this is what I want to focus on in this post.

The main contributor to the acceleration in new credit continues to be investment housing credit. No surprise and no change. But the real news in this data is the ongoing turnaround in business credit. Whilst the size of the business credit impulse is still very small relative to the other credit components, it is now in positive territory. I’m far more enthusiastic about the improvement in the business credit impulse than the ongoing acceleration in housing credit growth. Schumpeter argues that there is a link between accelerating debt and accelerating incomes – if that debt has been used to fund entrepreneurial activity. In theory, that’s an investment in building the productive capacity of the economy, which is positive for growth in income and in employment. Certainly a part of the RBA’s intention with lowering interest rates has been to ‘rebalance’ investment towards the non-mining sectors. But business investment has been slow to respond and new credit for investment hasn’t grown on a large enough scale yet.

On the other hand, the change in monetary policy seemed to impact the speculative aspect of housing finance almost immediately. The majority of outstanding debt in Australia is related to housing and continued increases in house prices relies on accelerating housing lending/debt. Unfortunately, a large share of growth in new credit, and growth in household debt, continues to goes towards the transfer of ownership of houses in Australia.

Why is the credit impulse important?

The data released by the RBA is the stock of all outstanding credit which takes into account existing debt, new debt and debt paid down. More important than the growth in credit is the growth in new credit that is issued. Starting with a basic premise that borrowing equals spending, its new credit issued in an economy that partly drives new spending in the economy. The other source of new spending in the economy is growth in income – not covered in this post. Consider a simple example – if you borrow $10 each month for six months, total credit grows by $10 each month, but after month one, growth in new credit equals $0 or, in other words, there is constant growth in credit and therefore you only spend $10 each month. But if you borrow $10, then $15, then $25, then $40 and finally $60, then there is growth in credit and growth in new credit of $5, $10, $15 and $20. As a result, spending grows each month. So the importance of tracking the credit impulse is that it is one of two important sources of spending that will impact output and/or asset prices.

I first came across the credit impulse through the work of Professor Steve Keen in his quest is to build a more robust and accurate representation of the role of debt and money creation by financial intermediaries in the economy. In working through the impact of growth in new credit on aggregate demand, Professor Keen’s latest work suggests the impact of the credit impulse is also influenced by the velocity of money. His latest thinking:-

“[This formula corrects] a rule of thumb proposition that I have previously asserted, that aggregate demand is the sum of income plus the change in debt (Keen 2014; see also Krugman 2013b). The correct proposition is that, in a world in which the banking sector endogenously creates new money by creating new loans, aggregate demand in a given period is the sum of aggregate demand at the beginning of that period, plus the change in debt over the period multiplied by the velocity of money.”


I have not gone into the velocity of money detail for this post. Whilst I have quite simply represented the growth in new credit, it’s a useful view of credit nonetheless.

To what degree does the growth in new credit drive growth in output versus growth in net change in the value of assets? I think this is a fairly fundamental question that faces our economy and it comes down to the source of the growth in new credit.

Total Private Credit

The usual way to present the credit impulse is as a % of GDP so that we can relate the size of the growth in new credit to the size of the economy. But given that March quarter GDP will not be released for another month, I’m opting to present this data instead in its dollar amount in order to understand the general direction of the growth in new credit. All the credit components – housing, business and personal are all expressed in dollars in this post, which will serve as the basis for comparison.

My proxy for the credit impulse – the growth in new credit – bottomed back in the June quarter 2013. Despite being in negative territory, the slope of the curve has been positive, meaning that the decline is getting smaller. Even a negative credit impulse with a positive sloping curve will have a positive impact.

The dollar growth in new credit for total private credit is approaching its two previous post-GFC highs, but is still well down on growth in the years leading up to the GFC:-

Source: RBA, The Macroeconomic Project

This gives you a sense of the relative size of the current growth and its potential impact on the economy. But for the impulse to become a larger proportion of GDP, it needs to grow faster than GDP (we’ll know this when GDP data is released). The current size of the growth in new credit at Mar 2014 is $26.6b, up from $17.7b in Feb 2014.

The question now becomes which of the main areas of total private credit have been driving growth in new credit?

The four components that make up total private credit (each with their share of total outstanding credit) are – owner occupier housing (40%), investor housing (20%), other personal (6%) and business (33%). Below is the growth in new credit across these four (4) components and total private credit over the last twelve months:-

Source: RBA, The Macroeconomic Project

There have been some large shifts in momentum over the last twelve months and a more positive shift in direction in the first quarter of 2014. The obvious one is the improvement in business credit – this has clearly had the greatest impact on the growth in new total private credit. But the actual dollar size of growth in new credit for business is still small relative to the other components (at Mar ’14). Growth in new investor mortgage credit is the largest of all components, which has also accelerated in the first quarter. Growth in new credit for owner occupier mortgage and personal credit are on par, but are, respectively, flat and decelerating.

Housing Credit – owner occupier and investor housing currently 60% of total private credit

Investor housing credit currently makes up the largest proportion of the growth in new credit. In March 2014, growth in new credit was $12b, up from $10.3b in Feb 2014, despite only currently representing 20% of outstanding total private credit. So approximately half of the current growth in new credit in the economy is for investor housing finance.

The growth in new credit for investor housing is close to reaching its second highest point of the last ten years.

Source: RBA, The Macroeconomic Project

This is only one part of mortgage credit. More broadly, the growth in new mortgage credit was $18.5b in March 2014, up from $16.9b in Feb 2014. This includes the change in new owner occupier housing credit of $6.6b in mar 2014, which was unchanged from $6.6b growth in Feb 2014. This signals a slowing in growth momentum for owner-occupier activity.

The slope of the curves look quite different between owner occupiers and investors – steep for investors and less steep for owner occupiers. The steeper curve suggests faster/larger growth in new credit for investor housing and this is consistent with what we have seen in other housing finance data.

Growth in new credit for owner occupiers has been somewhat more subdued and at March 2014, is about half that of growth in new credit for investor housing finance. Although the slope of the curve started to steepen in late 2013, the latest data suggests that the momentum is starting to slow.

Source: RBA, The Macroeconomic Project

The overall growth in total new mortgage credit remains strong and is obviously driven by investor activity.

So what can we expect as a result? Intuitively, you would expect accelerating housing credit growth to show up in asset values. As long as we have accelerating debt, it’s likely that we will continue to see house prices grow. Below is the mortgage credit impulse plotted with the annual growth in the residential property price index until Dec 2013. There is a reasonably strong correlation between the two (0.68).

Source: ABS, RBA, The Macroeconomic Project

Some of the accelerating growth in housing credit will show up in GDP, but to a smaller degree, in Private Fixed Capital Formation. This part of GDP captures the value of the creation of new assets only – new dwellings and new alterations and/or additions will add to GDP in that quarter. This currently accounts for just under 5% of GDP at Dec ’13. According to the latest housing finance data, purchase and construction of new dwellings has accounted for only 12% of total housing finance over the last year (ex-refinancing). Many of the current First Home Owners grants have focused on the purchase of new dwellings as it’s the creation of new assets that is likely to stimulate the economy more because jobs and income are created through new projects, rather than through transferring ownership of existing dwellings.

The transfer of ownership costs (legal etc.) are recorded as a part of GDP under Private GFCF- ownership transfer costs, but includes all ownership transfer costs, not just those on dwellings. This accounts for approx. 1.4% of GDP at Dec ’13.

Overall, the majority of total private debt relates to housing – debt which continues to accumulate, for what is essentially an unproductive asset. The downside to this is that this debt for the most part does not contribute to growing the future earning capacity of the economy, employing people, innovating or generating productivity gains.

Business Credit – 33% of Total Private Credit

The growth in new credit for business was the bright spot in this report. For the first time since the RBA lowered interest rates in late 2011, the growth in new credit for business has reached positive territory. Business investment is the single area most likely to generate income growth, employment, innovation and productivity gains for an economy.

Source: RBA, The Macroeconomic Project

The growth in new credit for business started to turn positive from mid-2013, but growth accelerated recently. In five months, growth in new credit for business has turned from a large negative to positive growth: Jan ’14 -$11.7B, Feb ’14 -$5.2B and Mar ’14 +$2.6b. Looking at the relative peaks over the last seven years (chart above), there is still a long way to go though.

Where is the growth in new credit for business likely to show up?

The labour market has been improving over the last several months – indicating at least progress on business expansion. There has been a shift from PT to more FT growth in jobs, although it appears that hours worked has not grown at the same rate. But this isn’t directly where growth in new credit is likely to show up.

This is more likely to show up in business investment. Over the last year, business investment has been slowing down and some forward indicators suggest that this will continue. One of the key objectives of the RBA in its easing stance has been to influence business investment and specifically to ‘rebalance’ investment towards non-resource sectors in light of the coming slow-down in mining investment. Recall that the first interest rate cut happened all the way back in Nov 2011.

Business investment and capex are measured in several ways. One way, is via the private new capital expenditure and expected expenditure survey (ABS 5625). This is not the equivalent of, or a complete view of the business investment component from GDP, but provides detail of expected capex expenditure, especially with regard to mining and manufacturing. You can read the full details of the inclusions and exclusions on the ABS website, but ‘all other selected industries’ excludes capital expenditure by all private businesses including units classified to agriculture, forestry and fishing, education, and health and community services industries and capital expenditure on dwellings by households.

The slow-down in mining capex is evident in the actual private capital expenditure data (ABS 5625):

Source: ABS 5625

I’ve opted for quarterly growth in this chart because I think it highlights the change in capex perfectly – “consistently slowing”:-

  • Mining capex growth has slowed since Sept 2011 and started to record quarterly declines from Dec 2012. At Dec 13, growth was -0.6% versus Sept qtr. 2013, a far cry from the high growth recorded in the mid-2000 and during 2010/early 2011. But this not the “mining capex cliff”.
  • Manufacturing capex growth peaked in Jun 2011 at 5.2% quarterly growth and since Mar 2012 has been in decline. Over the last year, the quarterly declines have become smaller, but capex spending continues to shrink – it’s not a drop off a cliff, but it’s a consistently lower value. At Dec 13, capex was -1.7% versus the prior quarter.
  • “All other selected industries” capex has been declining quarter on quarter since Jun 2011. There were two brief quarters of small growth in Jun and Sept 2013, but Dec was back to decline of -0.6% versus the prior quarter. As mentioned though, this is a not a complete representation of all other industries. See note above.

If you really want to know what the coming mining capex cliff will start to look like, then look no further. From the same ABS catalogue (5625):-

Source: ABS 5625

I’m referring to the 2013-2014 labelled graph above. The December ’13 quarter is marked ‘5’, which is half way through the 2013/14 financial year. Estimate 5 is made up of actual capital expenditure for the Sept and Dec ’13 quarters (as at the end of the Dec 13 quarter), plus the short term estimate for the Mar and Jun ’14 quarters. At this time, total capex for 2013/14 financial year is estimated to be $167,066m.

At the end of Dec ’13 quarter the first longer term estimate of capital expenditure is provided (E2) for the next financial year. This is the estimate marked ‘1’ for 2014- 2015 – and this is the estimate that has many spooked. Total capital expenditure is estimated at $124,880m, which is -17.4% lower than for the same period of 2013/14. The main reason for this lower estimate was a decrease in mining capex of -25.2%.

As mentioned, these estimates won’t add up to the investment data shown in the National Accounts – it’s a smaller view of what you would see in the GDP figures, but more detailed with regard to an ‘expectations’ view. The full explanation can be found on the ABS website.

So, looking at the more complete view of business investment from the latest GDP figures at Dec 2013 – this is what the quarterly growth in Private Gross Fixed Capital Formation (PGFC) for total private business investment looks like in the National accounts (ABS 5206.002):-

Source: ABS 5206.002

This includes all private business investments in non-dwelling construction, new machinery & equipment, cultivated biological resources and intellectual property. This represents approx. 17.1% of GDP at Dec ’13. I have excluded private fixed capital formation for new dwellings, new alterations to dwellings and ownership transfer costs – as this relates to mortgage activity.

Growth in total private business investment has been slowing since June 2011 and turned negative in the Sept 2013 quarter and the quarterly decline accelerated in Dec ’13. Given this consistent decline, it’s difficult to see that, based on the small size of the growth in new credit for business, that there will be a large turnaround in business investment at this stage.

Other data sources, such as the 2014 quarter one NAB Business Conditions report highlights a pickup in capex intentions in the coming twelve months, but at the same time points to ‘patchy’ investment intentions across the non-resources sectors.

Source: NAB

The latest NAB Business Conditions report for May 2014 (further out than the credit data I have presented here), suggests further gains in capex spending, but not enough to counter the falls in mining investment:-

Source: NAB

Given the size of the growth in new credit for business, I wouldn’t expect to see large improvements in business investment, but would at least expect a slowing of the decline for the March 2014 quarter GDP. There doesn’t yet appear to be high enough non-resources investment growth to counter the end of the mining investment phase.

Personal Credit – 6% of Total Private Credit

Over the first quarter of 2014, growth in new credit for total personal credit has been decelerating. Growth in new credit for personal lending reached a high of $11.6b in Oct 2013 and that growth has virtually halved since then to $5.4b at Mar 2014.

Source: RBA, The Macroeconomic Project

Total personal credit represents activity conducted with a bank on a non-business basis (excluding housing). This includes all manner of personal spending, so there isn’t one good place where you would expect this growth in new credit to impact output. It would likely be a combination of retail sales, new car sales and/or other discretionary spending etc.

Either way, growth in new credit for personal may be pointing to a slow-down in growth of the more discretionary spending categories (this is most likely where you’d find personal credit used).

Has this started showing up in Q1 retail sales? The month on month growth in retail sales has been slowing (sales remain high though), and whilst it does look like there is a correlation between the two measures, the correlation isn’t strong at all (0.23).

There was a stronger relationship between the actual personal credit impulse (as a % GDP) and the annual change in the Household Final Consumption Expenditure (HFCE) component of GDP (0.46) – at Dec ’13. The HFCE component of GDP is the single biggest part of GDP approx. 50%, so clearly spending that shows up here is ‘funded’ by a combination income as well as change in new credit.

Source: ABS, RBA, The Macroeconomic Project

It’s still not an ideal relationship/proxy, but does at least provide a very general view.

One thing to bear in mind is that a slowing in new personal credit growth could also reflect the current improved labour market conditions. It’s possible that income growth via increased labour market activity may counter any slowing in the growth of new personal credit. Using trend numbers for the first four months of this year we’ve seen +50k FT jobs (the first 4mths of 2013 was -11k FT jobs) and +22k PT jobs (the first 4mths of 2013 was +61k PT jobs) added. Unemployment has ‘only’ grown by 6.8K in the first 4mths of this year (versus 26.7k for the same time last year). This may have an impact on consumer discretionary spending, possibly cancelling out any slow-down in growth of new credit in personal spending for now.

Overall, the majority of the growth in new credit is going into housing – via investor activity. But it’s worth noting that growth in new credit for owner occupier housing appears to be slowing. For the moment, this is still likely to result in continued house price appreciation. Whilst business investment and expected capex, so far, looks like it will fall short of countering the drop in mining investment, the growth in new credit for business is an encouraging sign. But this needs to continue to accelerate in order to fuel business investment in new, productive activity in the economy. Business will likely expand investment if there is a strong growth business case. The continued high level of the Australian dollar, any potential impact of a slow-down in China and changes to fiscal policy are going to weigh on these business investment decisions.