When "unusual" becomes the usual
As a prolonged period of weak economic growth with very low inflation becomes “usual”, there may be a point where all
investment returns adjust lower.
Stephen Roberts, Altair's Chief Economist
Central banks’ challenges since 2008
Two paragraphs from Reserve Bank Governor, Glenn Stevens’ recent speech to the American Australian Association in New
York sum up how unusual economic circumstances have become since the huge disruption caused by the global financial
crisis back in 2008. Those two paragraphs bear repeating as they are a succinct description of the current global
economic challenges facing central banks and everyone else.
Referring to the modest improvement in US economic conditions Stevens continued,
“Unfortunately, that doesn’t mean the legacy of the 2008 crisis is yet behind us. From the vantage point of most central
banks, the world could hardly, in some respects, look more unusual. Policy rates in the major advanced jurisdictions
have been near zero for six years now. In fact, official deposit rates in the euro area and some other European
countries are now negative. As it turns out, the zero lower bound wasn’t actually at zero. Central bank balance sheets
in the three large currency areas have expanded by a total of about US$5.5 trillion since 2007, and the ECB and Bank of
Japan will add, between them, about another US$2.5 trillion over the next couple of years.
That central banks have had to take such extraordinary measures speaks both to the severity of the crisis that these
countries faced and the limited capacity of other policies to support growth. History tells us that recovering from a
financial crisis is an especially long and painful process, and more so if other countries are in the same boat.”
Australia to rely more on itself for growth
Clearly, the RBA still sees a very challenging period ahead for the global economy made more challenging for Australia
because our biggest trading partner China is experiencing slowing economic growth. Australia is being thrown back on its
own domestic spending, by households and businesses, for the time being to sustain economic growth. Even though there
are tentative signs that household spending is improving (strong growth in the case of spending on housing), there is
doubt about whether the improvement will be sustained.
The RBA continues to stress that it will lower interest rates further if the economy needs further assistance. In a
world where comparatively low growth and low inflation looks set to persist for potentially several more years before
recovery from the 2008 financial crisis is complete, it looks increasingly like the Australian economy will need further
rounds of monetary policy assistance from the RBA. We expect the next installment to be delivered on5th May taking the
cash rate down another 25 bps to 2.00%. That is unlikely to be the end of the monetary policy easing story in our view.
Low growth, low inflation and cautious behaviour…
When the unusual, a prolonged period of weak economic growth with very low inflation, becomes usual it means that
households and businesses become more cautious and it becomes increasingly difficult to shake them out of that
behaviour. Savings tend to be high relative to productive investment. Investment returns fall and stay low for a
protracted period. Interest rates are low and falling reflecting these economic circumstances. Investment returns from
equities and property (including residential property), however, are still to adjust. In some cases, returns have
actually risen amid asset allocation shifts as investors move away from low yielding investments.
...leading to lower investment returns
If the global economic conditions described by RBA Governor Stevens persist, as seems likely to us, there may come a
point where all investment returns adjust lower. In a low inflation world with a surplus of investable funds over good
investment opportunities sustainable investment returns (capital growth plus yield) may be only 2 or 3%.
ENDS