US weekly earnings increase 4.2 percent

According to the US Bureau of Statistics, weekly earnings of the nation’s 110.7 million full-time wage and salary workers were $865 (not seasonally adjusted) in the first quarter of 2017, an increase of 4.2 percent from a year earlier ($830).

From the first quarter of 2016 to the first quarter of 2017, median usual weekly earnings increased 4.2 percent for men who usually worked full time and 2.0 percent for women. In the first quarter of 2017, women who usually worked full time had median weekly earnings of $765, or 80.5 percent of the $950 median for men.

Among the major race and ethnicity groups, median weekly earnings for full-time wage and salary workers were $894 for Whites in the first quarter of 2017, $679 for Blacks or African Americans, $1,019 for Asians, and $649 for workers of Hispanic or Latino ethnicity.

These data are from the Current Population Survey.

NSW Tops The CBA Rankings in April 2017

The latest CBA “State of the States” report puts NSW at the top of the list and WA last.

NSW has retained its top rankings on business investment, retail trade and dwelling starts. NSW is in second spot on unemployment, construction work and economic growth. NSW is in third spot on housing finance and unemployment.

The ACT has lifted to second spot and is now top-ranked on housing finance. The Territory is second on two indicators and third on another three.

Victoria is in third spot, easing in its relative position on business investment and housing finance. Victoria leads on population growth.

There is little to separate other economies and there have been no changes in rankings.

Tasmania holds its position in fourth spot but there is little to separate it from Queensland, Northern Territory and South Australia. Tasmania is now in second spot for unemployment.

Queensland remains in fifth position on the economic performance rankings. Queensland is benefitting from strong export growth which will boost overall growth of Gross State Product (economic growth). Exports are growing at a 43 per cent annual rate.

The Northern Territory remains in sixth position on the economic performance rankings. The Territory is still ranked first on construction work done and unemployment and is now also top-ranked on economic growth. But on forward-looking indicators like population growth, housing finance and home starts, the Territory lags other
economies.

The South Australian economy is in seventh position. South Australia is middle-ranked on business investment and fifth-ranked on dwelling starts.

The economic performance of Western Australia continues to reflect the ending of the mining construction boom. But unemployment has eased over the last three months.

The real reason Scott Morrison is playing down the budget

From The Conversation.

Despite the Treasurer, Scott Morrison, describing the federal budget as “not a centrepiece”, it has always been regarded as just that – the centrepiece of fiscal policy in Australia.

Any changes in federal taxes and expenditure are intended to achieve good outcomes for Australia’s economy, such as low unemployment, price stability and economic growth. In economic terms, government spending should increase and tax receipts fall during downturns in the economy, and the opposite should happen when the economy is booming. This is how the government is able to balance out cycles in spending by the private sector.

Importantly, the budget is made up of more targeted fiscal policies (referred to as “discretionary” by economists) as opposed to automatic processes (referred to as “stabilisers”). The distinction between the two is important.

Automatic processes refer to when government taxes and expenditure generally increase and decrease with the business cycle. They are automatic because these changes in taxes and spending occur without the government having to do anything.

For example, when the economy is growing strongly, employment increases and unemployment falls. This results in unemployment benefit payments to workers, who were previously unemployed, automatically decreasing.

Also, when the economy is expanding, expenditure and incomes for workers and for businesses rise and the amount the government collects in taxes increases. When economic growth slows or becomes negative, the opposite occurs: the amount the government collects in taxes will fall and expenditure on unemployment benefits will rise.

With more targeted fiscal polices, the government takes actions to change spending or taxes. But although the budget is the centrepiece, it is not a very effective means of managing the economy.

The government and parliament have to agree on changes in fiscal policy. The treasurer initiates a change in fiscal policy through the budget in May each year. This must be passed by both houses of federal parliament, which can take many months (some measures have been blocked by the Senate for much longer).

Even after a change in fiscal policy has been approved, it takes time to implement. Suppose, for example, that parliament agrees to increase spending on infrastructure to create “jobs and growth”. It will probably take several months or more to prepare detailed plans for construction projects.

State or territory governments will then ask for bids from private construction companies. Once the winning bidders have been selected, they will usually need time to organise resources, including hiring labour, in order to begin the project.

Only then will significant amounts of spending actually take place. This delay may well push the spending beyond the end of the low point in the economy that the spending was intended to counteract.

Indeed, if the economy has recovered by the time the construction and related jobs come on board then the government spending will mean a shortage of labour in other parts of the economy and few or no new jobs (unless shortages are filled through migration).

Because the budget is a very difficult means of carrying out targeted fiscal policy, it’s become more important as a centrepiece for the government to set out its broad economic strategy – its goals and how to achieve them. But it seems that both major parties are failing even with this goal.

In recent years the view of most economists has been the need to reduce the structural budget deficit and the level of government debt. In 2016-17 net government debt stood at A$326 billion, and was forecast in last year’s budget to increase until at least 2018-19. There is also quite widespread acceptance that our tax system is in need of reform.

There are two glaring omissions from recent federal budgets of both major parties: any plan to significantly reduce the deficit any time soon, and any proposal to embark on meaningful tax reform.

The Rudd and Gillard governments will be remembered for Wayne Swan’s budgets, which consisted of new spending initiatives including the National Disability Insurance Scheme, the National Broadband Network, and the Gonski education funding reforms, but featured no plan to raise revenues to fund them and manage the huge subsequent debts.

Joe Hockey and Tony Abbott’s attempt in the 2014 budget to address government deficit and debt was regarded as a disaster, resulting in the demise of both as leading politicians. Morrison and Prime Minister Malcolm Turnbull are desperate not to make the same mistake, and this severely limits their capacity to do anything meaningful to tackle the deficit and debt issue.

The major problem with successive budgets is that they have not provided a cogent strategy for improving living standards, including addressing inequity for the most disadvantaged Australians, which can only be achieved through economic growth.

Growth entails taking materials, labour and capital to produce goods and services of greater value that people want at prices they are willing to pay. This is best done by the private sector and cannot arise from wasteful government expenditure, accumulating debt or fiddling at the edges with markets, through such things as changes to superannuation or housing finance.

Growth and jobs can only arise from value-adding activities and government policies which facilitate this such as reducing debt, promoting free trade, reducing restrictions on business and labour market reform. This is hard to do and far more difficult than easy options, which explains why we can expect little from the budget to address real reform.

Author: Phil Lewis, Professor of Economics, University of Canberra

More political and policy uncertainties as global economic recovery improves – IMF

The Communiqué of the Thirty-Fifth Meeting of the IMFC says the global economic recovery is gaining momentum, commodity prices have firmed up, and deflation risks are receding. While the outlook is improving, growth is still modest and subject to heightened political and policy uncertainties.

Crisis legacies, high debt levels, weak productivity growth, and demographic trends remain challenging headwinds in advanced economies; while domestic imbalances, sharper-than-expected financial tightening, and negative spillovers from global uncertainty pose challenges for some emerging market and developing countries.

Trade, financial integration, and technological innovation have brought significant benefits, improving living standards, and lifting hundreds of millions out of poverty. However, the prolonged period of low growth has brought to the fore the concerns of those who have been left behind. It is important to ensure that everyone has the opportunity to benefit from global economic integration and technological progress.

We reinforce our commitment to achieve strong, sustainable, balanced, inclusive, and job-rich growth. To this end, we will use all policy tools—monetary and fiscal policies, and structural reforms—both individually and collectively. We reaffirm our commitment to communicate policy stances clearly, avoid inward-looking policies, and preserve global financial stability. We recognize that excessive volatility and disorderly movements in exchange rates can have adverse implications for economic and financial stability. We will refrain from competitive devaluations, and will not target our exchange rates for competitive purposes. We will also work together to reduce excessive global imbalances by pursuing appropriate policies. We are working to strengthen the contribution of trade to our economies. Our priorities include:

Accommodative monetary policy: In economies where inflation is still below target and output gaps remain negative, monetary policy should remain accommodative, consistent with central banks’ mandates, mindful of financial stability risks, and underpinned by credible policy frameworks. Monetary policy by itself cannot achieve sustainable and balanced growth, and hence must be accompanied by other supportive policies. Monetary policy normalization, where warranted, should continue to be well-communicated, also to mitigate potential cross-border spillover effects.

Growth-friendly fiscal policy: Fiscal policy should be used flexibly and be growth-friendly, prioritize high-quality investment, and support reforms that boost productivity, provide opportunities for all, and promote inclusiveness, while enhancing resilience and ensuring that public debt as a share of GDP is on a sustainable path.

Tailored, prioritized, and sequenced structural reforms: We will advance structural reforms to lift growth and productivity and enhance resilience, while assisting those bearing the cost of adjustment. The design, prioritization, and sequencing of reforms should reflect country circumstances; aim to boost investments in infrastructure, human capital development, and innovation; promote competition and market entry; and raise employment rates.

Safeguarding financial stability: We will further strengthen the resilience of the financial sector to continue to support growth and development. This requires sustained efforts to address remaining crisis legacies in some advanced economies and vulnerabilities in some emerging market economies, as well as monitoring potential financial risks associated with prolonged low or negative interest rates and with systemic market liquidity shifts. We stress the importance of timely, full, and consistent implementation of the agreed financial sector reform agenda, as well as finalizing remaining elements of the regulatory framework as soon as possible.

A more inclusive global economy: We will implement policies that promote opportunities for all within our countries, sustainability over time, and cooperation across countries. We will implement domestic policies that develop an adaptable and skilled workforce, assist those adversely affected by technological progress and economic integration, and work together to ensure that future generations are not left to pay for the actions of the current one. Recognizing that every country benefits from cooperation through a collaborative framework that evolves to meet the changing needs of the global economy, we will work to tackle common challenges, support efforts toward the 2030 Sustainable Development Goals (SDGs), and ensure the orderly functioning of the international monetary system (IMS). We will support countries dealing with the consequences of conflicts, refugee and humanitarian crises, or natural disasters. We will work to promote a level playing field in international trade and taxation; tackle the sources and channels of terrorist financing, corruption, and other illicit financial flows; and address correspondent banking relationship withdrawal.

Watch the press conference here.

US CPI rose 2.4 percent over the 12 months ending March 2017

The US Bureau of Labor Statistics says from March 2016 to March 2017, the Consumer Price Index for All Urban Consumers (CPI-U) all items index rose 2.4 percent. This was smaller than the 2.7-percent rise for the year ending February 2017. The index for all items less food and energy rose 2.0 percent over the past year, the smallest 12-month increase since November 2015. The energy index rose 10.9 percent over the year, while the food index increased 0.5 percent.

These data are from the BLS Consumer Price Index program and are not seasonally adjusted.

IMF More Bullish On Global Financial Stability

The IMF Transcript of the release of the April 2017 Global Financial Stability Report suggests that global financial stability has improved in the last six months. They say global growth could strengthen, and deflation risks could continue to fade. This would benefit emerging markets and advanced economies alike, even as interest rates and monetary policies normalize. [DFA Note – more upward pressure on mortgage rates!]

However, the IMF warns that failing to get the policy mix right could reverse market optimism.

As Maury Obstfeld explained yesterday at the release of the World Economic Outlook, economic activity has gained momentum. We have greater confidence in the outlook. Hopes for reflation have risen. Monetary and financial conditions remain highly accommodative. Investor optimism over the new policies under discussion has boosted asset prices.

But failing to get the policy mix right could reverse market optimism. It could also ignite new downside risks to financial stability. In the United States, policies could increase fiscal imbalances and could push up interest rates and global risk premia. A shift toward protectionism globally could drag down trade and growth, triggering capital outflows from emerging markets.

The loss of global cooperation on regulatory reforms could reverse some of the gains that have made financial systems safer. Markets expect these adverse developments will be avoided and policymakers will implement the right mix of policies. In the United States, this means policies that will invigorate corporate investment. In emerging markets, this means addressing domestic and external imbalances to enhance resilience to external shocks. Finally, in Europe, this means that policies will have to strengthen the outlook for banks by tackling the structural causes of weak profitability. That is why the focus of this report is on “Getting the policy mix right”.

Let me now turn to the key policy questions. First, can the corporate sector in the United States support a safe economic expansion? Investment spending has been languishing for over 15 years now. Recently, discussions of corporate tax reform, infrastructure spending, and reductions in regulatory burdens have boosted confidence. This could herald a much‑needed rebound in investment to build for the future.

The good news is that many firms have the capacity for capital expenditures. Increased cash flows from corporate tax reform could bring about increased investment. This would be welcome rather than financial risk taking, such as the acquisition of financial assets and using debt to pay out shareholders. The bad news is that sectors accounting for almost half of U.S. investment—namely, energy, utilities, and real estate—are already highly levered. This means that expanding investment, even with tax relief, could increase already elevated debt levels.

Why is this a problem? A sharp rise in interest rates—for example, owing to increased financial imbalances—could push corporate debt servicing capacity to its weakest level since the crisis. Under such a scenario, corporates with some $4 trillion of assets may find servicing their debt challenging. This is almost a quarter of the assets we capture in our analysis.

In an integrated world, what happens in advanced economies has repercussions for emerging markets. We all remember the taper tantrum in 2013, when interests rose sharply and emerging markets suffered badly. Is this time different? With the right policy mix, it can be.

Global growth could strengthen, and deflation risks could continue to fade. This would benefit emerging markets and advanced economies alike, even as interest rates and monetary policies normalize. So far, we have been on this good path. But emerging market economies could face trying times. In fact, political and policy uncertainty in advanced economies opens new channels for negative spillovers.

A sudden reversal of market sentiment could reignite capital outflows and hurt growth prospects, as could a global shift toward protectionism. We estimate that debt held by the weakest firms in emerging markets could rise to $230 billion under such a scenario. In turn, banks in some countries would need to rebuild their buffers of capital and provisions. Those are the banks that are already experiencing a decline in asset quality after a long credit boom.

China is a key contributor to global growth but has also notable vulnerabilities. Credit in relation to China’s economy has more than doubled in less than a decade, to over 200 percent. Credit booms this big can be dangerous. The longer booms last and the larger credit grows, the more dangerous they become. The Chinese authorities continue to adjust policies to limit the growth of the banking and shadow banking systems, but more needs to be done to slow credit growth and reduce vulnerabilities. The authorities’ progress and success are essential for global financial stability.

Turning to Europe, policymakers need to make further progress in addressing structural impediments to profitability in the banking system. Significant advances have already been made. European banks hold higher levels of capital, regulations have been strengthened, and supervision has been enhanced. Over the past six months, bank equity prices have risen as yield curves steepened and the economic recovery has firmed.

But this is not the end of the story. As we established in the last GFSR, a cyclical recovery is unlikely to fully resolve the profitability challenge that many banks face. Why is this important? Weak profitability limit the banks’ ability to retain capital, thus constraining their ability to weather shocks and increasing risks to financial stability.

In this GFSR, we examine many European banks, representing $35 trillion of assets. We divide them into three groups: global, European‑focused, and domestic. Domestic banks face the greatest profitability challenges, with almost three quarters of them having very weak returns in 2016. This analysis suggests that the domestic operating environment for banks plays a significant role.

While no single structural factor clearly explains chronic low profitability, overbanking is a common challenge. Overbanking takes many different forms: for example, weak banks with low buffers, too many banks with a regional focus or narrow mandate, or too many branches and low branch efficiency. Measures are being taken to address these concerns, but countries with the biggest challenges need to make more progress. Otherwise, low profitability could impede the recovery or, worse, reignite systemic risks.

Let me sum up. What does it take to get the policy mix right? US policy proposals should aim to increase economic growth but should also avoid creating fiscal imbalances and negative global spillovers. Healthy corporate balance sheets will be essential to facilitate an increase in productive investment. Policymakers should preemptively address areas in which risk‑taking appears excessive.

Emerging market policymakers should address their external and domestic imbalances. That includes improving corporate restructuring mechanisms, monitoring corporate vulnerabilities, and ensuring that banks have healthy buffers. In Europe, more comprehensive efforts are needed to address banking system and bank business model challenges. The authorities should focus on removing system‑wide impediments to profitability. Such measures should include promoting bank consolidation and branch rationalization, reforming bank business models, and addressing nonperforming loans.

At the global level, successful completion of the Regulatory Reform Agenda is vital. It relies on continued multilateral cooperation and coordination. Completing the Reform Agenda, especially the adoption of the Basel III enhancements, will ensure that the global financial system is safe and can continue to promote economic activity and growth.

US Industrial production increased 0.5 percent in March

Industrial production increased 0.5 percent in March after moving up 0.1 percent in February according to the US Federal Reserve.

The increase in March was more than accounted for by a jump of 8.6 percent in the output of utilities—the largest in the history of the index—as the demand for heating returned to seasonal norms after being suppressed by unusually warm weather in February.

Manufacturing output fell 0.4 percent in March, led by a large step-down in the production of motor vehicles and parts; factory output aside from motor vehicles and parts moved down 0.2 percent. The production at mines edged up 0.1 percent. For the first quarter as a whole, industrial production rose at an annual rate of 1.5 percent.

At 104.1 percent of its 2012 average, total industrial production in March was 1.5 percent above its year-earlier level.

Capacity utilization for the industrial sector increased 0.4 percentage point in March to 76.1 percent, a rate that is 3.8 percentage points below its long-run (1972–2016) average.

What Is the Informal Labor Market?

From The St.Louis Fed On The Economy Blog.

Although often associated with developing countries, illicit activities or undocumented workers, the informal labor market is much broader than many would imagine. In fact, people from all walks of life participate in a wide array of legitimate business ventures that are part of the informal economy. So, how big is the U.S.’s informal labor market, and who participates in it?

What Is the Informal Labor Market?

There is no unique definition for informal employment. However, a generally accepted way to define it is by considering individuals (and their employers) who engage in productive activities that are not taxed or registered by the government.1

Though this type of work has always existed—picture the fruit vendor at the farmers’ market who only accepts cash for payment—the expansion of online platforms that facilitate these arrangements has increased their visibility and fueled their popularity.

Measuring the Informal Labor Market

Numerous surveys have surfaced lately in an effort to better understand the fringes of the U.S. labor market. Though methodologies differ (as do the specific questions these surveys attempt to answer), comparing the results helps shine a light on the sometimes elusive nature of the informal labor market.

Survey of Informal Work Participation

For example, the Survey of Informal Work Participation within the Survey of Consumer Expectations revealed that about 20 percent of non-retired adults at least 21 years old in the U.S. generated income informally in 2015.2 The share jumped to 37 percent when including those who were exclusively involved in informal renting and selling activities.

When breaking down the results by the Bureau of Labor Statistics (BLS) employment categories, about 16 percent of workers employed full time participated in informal work. Not surprisingly, the highest incidence of informal work was among those who are employed part time for economic reasons, with at least 30 percent participating in informal work. Also, at least 15 percent of those who are considered not in the labor force by the BLS also participated in informal work.

Enterprising and Informal Work Activities Survey

Another example is the Enterprising and Informal Work Activities (EIWA) survey, which revealed that 36 percent of adults in the U.S. (18 and older) worked informally in the second half of 2015.3 Of these informal workers, 56 percent self-identified as also being formally employed, and 20 percent said they worked multiple jobs (including full-time and part-time positions).

Survey Differences

The difference in methodologies between these two surveys is clear simply from looking at the basic results. Despite pointing in similar directions, the results on the extent of the informal labor market cannot be directly compared to each other. But when we look at the demographic breakdown of contingent and informal workers, the results are quite consistent.

The EIWA survey showed that informal workers were distributed across all income categories. For example:

  • 30 percent of respondents reported having an annual income of $100,000 or greater.
  • 18 percent reported earning less than $25,000.

There were slightly more women than men among informal workers, though the share of women was much larger in lower income categories.

The majority of informal workers were white, non-Hispanic (64 percent), while the share of Hispanic workers tended to be slightly higher than that of African-Americans (16 and 12 percent, respectively). The racial breakdowns were consistent across most income categories, with a higher incidence of informal work among minorities in the lowest income categories.

Finally, most informal workers had at least a college degree (31 percent) or some college (30 percent), but high school graduates were also a sizeable share (26 percent).4

Impact on the Labor Market as a Whole

Capturing the extent of the informal labor market in the U.S. may help improve the measures of employment and labor market slack, as well as better measure the effects that informal employment activities have on the U.S. economy.

Moreover, it would help improve policies to incentivize workers in the informal sector to participate fully in the formal sector and by consequence take advantage of benefits that are in place for formal-sector jobs.

Notes and References

1 Demetra Smith Nightingale and Stephen Wandner provide other definitions of informal employment and associate different types of workers with the formality of their employment arrangements. See Smith Nightingale, Demetra and Wandner, Stephen A. “Informal and Nonstandard Employment in the United States: Implications for Low-Income Working Families.” The Urban Institute, Brief 20, August 2011.

2 See Bracha, Anat and Burke, Mary A. “Who Counts as Employed? Informal Work, Employment Status, and Labor Market Slack.” Federal Reserve Bank of Boston Working Paper No. 16-29, December 2016.

3 See Robles, Barbara and McGee, Marysol. “Exploring Online and Offline Informal Work: Findings from the Enterprising and Informal Work Activities (EIWA) Survey.” Finance and Economics Discussion Series 2016-089. Washington: Board of Governors of the Federal Reserve System, October 2016.

4 Appendix D in Robles and McGee (2016) shows these demographic characteristics are consistent across different surveys.

British prime minister calls snap general election

British Prime Minister Theresa May has called a snap general election for 8 June.

She made the announcement in Downing Street after a cabinet meeting.

With a Commons working majority of just 17, and a healthy opinion poll lead over Labour, senior Tories have suggested Mrs May should go to the country in order to strengthen her parliamentary position.

Such a move would also give a mandate both for her leadership and her negotiating position on Brexit before talks with the European Union start in earnest.

Justifying the decision, Mrs May said: “The country is coming together but Westminster is not.”

She said the government has a right plan for negotiating with European Union.

She said they need unity in Westminster, but instead there is division.

From RTE.

The current 5-year fixed term should run to 2020, and will require a 2/3’s vote in Parliament to progress. This may cause significant heartburn in Labour circles in Britain!

The FT Index fell on the news.

 

 

RBA Minutes And Housing

The RBA released their minutes today. Whilst there is mention of housing, there is not definitive evidence in the minutes to explain the RBA’s recent shift in sentiment as contained in the recent Financial Stability Report.

Indicators of household consumption had been a little weaker than expected in early 2017. The value of retail sales had fallen slightly in February, following average growth in January, and households’ perceptions of their personal finances had declined to below-average levels. Retail price inflation had remained subdued, partly because competition had remained strong across the retail sector. Members noted that utilities prices were expected to put some upward pressure on retail costs, but that retail rents had been flat – or rising very marginally at most – across the major cities.

Conditions in the established housing market had continued to vary significantly by region. Housing price growth had been strongest in detached housing markets in Sydney and Melbourne and some indicators for the established housing markets in these cities had picked up in the preceding couple of months. In contrast, housing market conditions in Perth had remained weak, although there were signs that prices there may be stabilising. Vacancy rates had been increasing, particularly in Perth. Strong growth in the supply of new apartments was continuing to drive a wedge between price growth for apartments and detached houses in Melbourne and Brisbane. Private residential building approvals had rebounded in February; the large pipeline of work to be done was expected to support dwelling investment over the subsequent year or two.

Growth in housing credit to owner-occupiers had moderated slightly over the preceding six months, while growth in housing credit to investors had increased, although investor loan approvals had declined in February. Most of the increase in lending to investors had occurred in New South Wales and Victoria, which was consistent with the pattern of housing market activity. Members observed that the growth of housing credit to investors had initially moderated in response to the announcement by the Australian Prudential Regulation Authority (APRA) of a 10 per cent benchmark for investor credit growth in late 2014. In addition, the share of lending with high loan-to-valuation ratios had fallen. However, growth in investor credit had increased steadily since early 2016, despite the fact that banks had tightened lending standards and, on average, increased the margin between interest rates on investor housing loans and those on loans to owner-occupiers.

Risks related to household debt and the housing market more generally had increased over the preceding six months. However, the nature of those risks differed across the country, according to the varying conditions and activity in local markets. Although credit to the household sector had been growing modestly relative to history, growth had been faster than income growth and the aggregate debt-to-income ratio for households had increased.

Nevertheless, indicators of financial stress in the household sector remained contained. Low interest rates and improved lending standards over recent years had been supporting households’ ability to service debt, and households on average had continued to build repayment buffers. Members noted, however, that some households with home loans appeared to have little or no buffer of excess mortgage repayments and could be vulnerable if household income were lower than expected. This observation emphasised the importance of realistic assessments of household expenses and prudent lending standards for mitigating risks to both financial stability and macroeconomic outcomes.

Members discussed the recent actions taken by APRA and the Australian Securities and Investments Commission to support prudent lending practices. These actions had been focused particularly on interest-only lending, serviceability assessments and responsible lending practices. APRA’s guidance had included limits on the share of interest-only loans in new housing loans and a requirement that banks impose strict limits on new interest-only lending at high loan-to-valuation ratios. Members recognised that the calibration of this guidance was not precise or straightforward. Developments needed to be kept under review and, depending on how the system responds to the various measures, members noted that the Council of Financial Regulators would consider further measures if needed.

Members observed that a number of factors make interest-only loans attractive in the Australian context. In particular, interest-only loans allow investors to take greatest advantage of particular features of the tax system, while the availability of offset accounts provides some owner-occupiers with opportunities to manage liquidity risks that might be associated with irregular income, for example.

Members noted that some banks had curtailed lending to some segments of the housing market, notably the Brisbane apartment market, where the supply of apartments was expected to increase significantly, raising the risks associated with oversupply. Reports of settlement failures had remained isolated. Members also noted the higher interest rates facing most investors, especially those with interest-only loans.

Developments in commercial property markets mirrored the geographic pattern seen in residential property markets. Conditions had been strengthening in Sydney and Melbourne but were weaker elsewhere. Valuations were generally high, however, and posed some risk to leveraged investors if prices were to decline sharply. Members were briefed on APRA’s recent review of commercial property lending. This review revealed some instances of weak underwriting standards and poor monitoring of risk profiles among lenders; several Australian banks had since tightened their lending standards.

Members observed that, in contrast to the growing risks faced by the household sector, vulnerabilities in the non-financial business sector remained low. Outside Western Australia, business failure rates had declined. Profitability had been supported by higher earnings for resource-related firms, following the increase in commodity prices. Gearing ratios and other measures of the strength of businesses’ balance sheets had generally been around their historical averages.

Conditions in housing markets continued to vary considerably across the country. The established markets in Sydney and Melbourne appeared to have strengthened further, but housing prices had continued to fall in Perth. The additional supply of apartments scheduled to come on stream over the subsequent couple of years in the eastern capital cities was expected to put some downward pressure on growth in apartment prices and rents, particularly in Brisbane.

Growth in housing credit continued to outpace growth in household incomes, suggesting that the risks associated with the housing market and household balance sheets had been rising. Recently announced supervisory measures were designed to help mitigate these risks by reinforcing prudent lending standards and ensuring that loan serviceability was appropriate for current conditions. Less reliance on interest-only housing loans was also expected to increase the resilience of household balance sheets. However, it would take some time to assess fully the effects of the recent pricing changes and the increased supervisory attention.