The Conversation – Page 38 – Digital Finance Analytics (DFA) Blog

Sydney needs higher affordable housing targets

The release this week by the Greater Sydney Commission of city-wide draft plans mandating some measure of affordable housing in new developments is a step in the right direction. However, the target of 5-10% on rezoned land is too low to make a serious impact on the city’s affordable housing shortage. It must be more ambitious.

Research highlights the central importance of affordable, stable housing to economic and social wellbeing. Yet, in Sydney, the lack of affordable housing has reached crisis point. Everyone from community housing providers to Commonwealth Treasury secretary John Fraser is pointing out that rising house prices are creating massive social and economic problems.

Housing researchers and academic housing economists across Australia agree that an essential part of the policy mix is to mandate a significant percentage of affordable homes in all new housing developments. This is known as “inclusionary zoning”.

Other global cities such as New York and London have recognised the important role of housing in their economies and have inclusionary zoning policies. Other states in Australia have also set affordable housing targets. These have not had harmful impacts on housing investment.

Fighting to keep windfall profits

Predictably, parts of the property industry are already resisting any level of inclusionary zoning. Some developers claim that affordable housing targets will increase housing costs for the majority. They argue that profits lost on affordable housing will have to be recouped elsewhere.

While we can expect this line of argument from those who profit from the status quo, it is fundamentally wrong for a simple reason. Housing developers will not bear the burden of these targets. Rather, it will be borne by land holders who currently make large windfall gains from selling land for development.

When land has been zoned to enable higher-density development, landholders reap these windfall profits without actually delivering any new housing or infrastructure.

For example, the site of a recently completed development in Sydney’s inner west was first purchased by a property company as industrial land for around A$8.5 million. Following a rezoning to higher-density residential, the site was sold again for A$48.5 million. In this case, the first buyer made a 471% windfall profit without building anything on the site.
The seller of the rezoned site of the Lewisham Estates development made a 471% windfall profit without building a thing. Inner West Council
If a fixed percentage of affordable housing becomes a condition of rezoning such sites, this will only affect the size of the landholder’s windfall gain. Developers will offer lower prices for the land, based on the mandated requirements for affordable housing.

Remember that the uplift in land value results from public policy changes that allow for housing development or higher-density housing. It is not unreasonable, then, that landowner windfalls should be limited to achieve the important public policy outcome of housing affordability.

This is why some property developers do not object to inclusionary zoning. Indeed, some have been part of the push for inclusionary zoning, through their membership of the Committee for Sydney. They recognise that so long as the “playing field” is level for all, mandatory targets for affordable housing can be achieved without making development unprofitable or housing more expensive.

Government is conflicted

The New South Wales government has been reluctant to set significant inclusionary zoning requirements for new developments in several important parts of the city. One possible reason is that the government itself stands to reap revenue from rezoning and/or redevelopment of government-owned land.

It is especially inappropriate that government-owned land should be exploited in this way. In big development schemes where government is the major landowner, such as Central-Eveleigh, the Bays Precinct and Olympic Park, public good should trump Treasury “profits” on land release. Government should not be in the business of extracting its own windfall at the cost of housing affordability.

Inclusionary zoning targets should therefore be much higher for housing developments on government-owned land, especially in major renewal precincts. Not only would developments on such sites still yield a “profit” for the taxpayer, they would deliver a social benefit to the wider community at no real cost and without impacting feasibility.

What targets should be set?

We join those in the housing sector who believe that at least 15% of housing in new private developments should be affordable. On publicly owned land, at least 30% of new housing developments should be affordable.

Of course, the details of land zoning matter. If targets are set, we must ensure the definition of “affordable” actually achieves the goal of reducing housing stress for people on low and moderate incomes while maintaining housing quality.

Substantial inclusionary zoning requirements will not make development more expensive. They will make it harder for land speculators to make large profits while making no contribution to the social and economic future of New South Wales. It is high time the foxes in the henhouse were called to account.

Higher property prices linked to income inequality: study

From The Conversation.

Higher property prices are not only associated with higher income inequality but also with a higher inequality in household spending, our research shows. We examined three decades of data from 1982 to 2012 in Iran, where income inequality is the highest in the Middle East. We found that a 1% increase in housing costs increases income inequality by 0.125%. This is taking into account other important economic, political and social determinants of inequality (such as income per capita, inflation, government spending and the quality of political institutions). We also found that inequality of spending increases by 0.248% when housing costs are 1% higher.

Although our findings are based on data from Iran, this a common theme for much of the developing and developed world. For example, a similar study in Singapore shows a significant correlation between increasing private property prices and increasing income inequality.

Researchers in the UK also argue that increases in housing prices change the distribution of welfare towards home owners, and away from non-homeowners. Another study showed housing is driving a long-term rise in income in seven large developed economies (the United States, Japan, Germany, France, the UK, Italy, and Canada).

Income inequality is among the top challenges for policy makers globally. In a recent survey of 1,767 leaders from academia, business, government and non-profits, The World Economic Forum’s Global Agenda Council found increasing income inequality to be top global concern in 2015.

Income inequality has several harmful consequences for societies. For example, a World Bank study shows that income inequality has a significant negative effect on GDP in the long-run. Inequality has also been identified as one of the main drivers of social unrest in the Arab World, in the recent British vote to leave the European Union and in the US Presidential election.

Why housing costs and inequality are linked

There are a number of reasons why increases in house prices and inaccessibility of housing can lead to increased income inequality.

Property is a very important asset for households that brings many income advantages. Some of these include a return on investment from increases in house prices and the savings households make when they don’t have to pay rent. So unaffordable housing restricts low-income households from accessing these financial benefits.

There are also intergenerational effects of housing on inequality. If affordable housing decreases, wealthy families and lower income families become more segregated. This leads to greater differences in education for the children of poor and rich families. For example, research shows parents can make it more likely for their children to grow up to be high income earning adults through the education and the peers that their children have. Those who have a better quality schooling are more likely to earn more as adults. Because of this research also indicates wealthy parents have an incentive to cluster into neighbourhoods with other wealthy families, to decrease the cost of providing high quality education for their children, and for other social reasons.

If there is less affordable housing it makes it easier for this segregation to occur, increasing inequality. For example, there is a significant gap between the quality of education between northern parts of Tehran (home to Tehran’s most expensive houses) and southern parts of Tehran.

Rising house prices also stop the migration of unskilled labour to more productive regions, this in turn slows down a mixing of people with different incomes in these areas. This mixing can reduce income inequality, as poorer geographic regions experience faster economic growth.

Rising house prices may also lead to a concentration of wealth, this means those who have wealth also have greater returns on it.

In terms of tackling this type of inequality, governments should expand access to affordable housing finance to lower income families. Policymakers also need to redefine capital gains tax on investment properties to reduce the income differences between landlords and tenants.

Finally, taxation that better caters to low income first-time home buyers may allow lower income households access not only to more stable housing, but also to the longer term financial benefits associated with owning their own homes.

Authors: Hassan F. Gholipour, Lecturer in Economics, Swinburne University of Technology; Jeremy Nguyen, Lecturer in Economics, Swinburne University of Technology; Mohammad Reza Farzanegan, Professor of Economics of the Middle East, University of Marburg

Why special tax breaks for seniors should go

From The Conversation.

The federal government could save about A$1 billion a year by winding back three tax breaks for older Australians that are unduly generous and have no sensible policy rationale, according to our new Grattan Institute report.

Many seniors pay less than younger workers on the same income as a result of the Seniors and Pensioners Tax Offset (SAPTO) and a higher Medicare levy income threshold. They also get a higher rebate on their private health insurance than younger workers on the same income.

The tax-free thresholds for seniors and for younger people have diverged over the last 20 years. Seniors do not pay tax until they earn A$32,279 a year, whereas younger households have an effective tax-free threshold of A$20,542.

These outcomes are hard to justify. A retired couple pay about A$4000 a year in tax on earnings of A$70,000 a year from their assets (assuming assets outside of super worth A$1.4 million). Any extra income they draw from a super account is tax free.

By contrast a working couple with both people earning the minimum wage would have the same income of $70,000 a year but pay tax of about A$7000. Unlike the retired couple, they probably don’t own their own home and have little chance of accumulating $1.4 million in assets, or much super savings, or owning their home before they retire.

These age-based tax breaks help to explain why the proportion of seniors paying tax has almost halved in the last 20 years. Those over 65 pay less tax per household in real terms than seniors did 20 years ago, despite their rising incomes and workforce participation rates.

Age-based tax breaks are badly designed to any justifiable purposes such as increasing workforce participation or preserving adequate retirement incomes for poorer Australians. Tapers that withdraw the offsets for those with higher incomes lead to the tax breaks effectively increase marginal tax rates for many people. And of seniors who lodge a tax return, none of the benefits go to the bottom 40%.

Some may argue that the tax breaks are a fair reward for a lifetime of paying tax. But large tax breaks for seniors are in fact a relatively new invention not provided to previous generations.

And the current generation of seniors also receive much more than their predecessors from government spending, particularly on health. Senior households on average receive A$32,000 a year from government more than they contribute in income and sales taxes. In 2004 they only took out about A$22,000 a year. For now, federal budget deficits are funding the difference.

Very little justification was provided for these tax breaks when they were introduced. But they correlate with electoral dynamics shifting decisively in favour of older voters. From 1995 to 2015, the proportion of eligible voters aged 55 and over grew from 27% to 34%. Because younger Australians enrol less, those aged 55 and over are now 38% of enrolled voters.

These tax breaks might have been affordable when they were introduced 15 years ago, and budgets moved into surplus. But the federal government has been running large budget deficits for 8 years in a row. It must make tough saving and spending decisions to avoid handing an unsustainable bill to future generations.
Our report proposes winding back SAPTO and the higher Medicare levy threshold. Self-funded retirees should not qualify for SAPTO. Seniors with enough private income that they do not qualify for a full Age Pension should pay some income tax.

The proposed changes are fair. Seniors would pay either the same or less tax than younger Australians. They would have little effect on the 40% of seniors who receive a full Age Pension. They would mostly affect seniors who are wealthy enough to receive no pension or just a part pension.

These changes would save the federal budget about A$700 million a year. Reducing the private health insurance rebate so that seniors get the same rebate as younger Australians would save another A$250 million.

To put that A$1 billion of budget repair in context, the government’s recent omnibus bill improved the bottom line by A$2 billion a year, and the super package by less than A$1 billion. With deficits running at about A$40 billion a year, there is a long way to go, and reforming age-based tax breaks would help.

Author: John Daley, Chief Executive Officer, Grattan Institute; Brendan Coates, Fellow, Grattan Institute; William Young, Associate, Grattan Institute

Trump’s economic impact slower, smaller than predicted – but still bad: Deloitte

From The Conversation.

The federal deficit will be worse in 2017-18 than predicted in the May budget, despite some easing in the delays imposed by the Senate, Deloitte Access Economics’ budget monitor predicts.

It also says the short-term business implications of a Trump presidency are likely to be smaller and slower than the headlines have suggested but in the longer term there may well be net negatives for the global and Australian economies.

The Deloitte assessment comes as the government starts the final parliamentary fortnight of the year, reasonably confident that it will get its industrial relations bills, which were the triggers for the double dissolution, passed.

In a gloomy outlook for the government’s core challenge of budget repair, Deloitte says: “There are challenges seen on almost every front: under-performance on wages and jobs is forecast to continue, we see shortfalls creeping back in on company tax, super may also fall shy, and GST may do the same.”

On current policy settings, Deloitte forecasts a deficit of A$29.9 billion in 2017-18, which is A$3.8 billion worse than budgeted.

“That says something simple: no, the tide isn’t turning,” Deloitte says.

The government will release its budget update on December 19.

Deloitte applies a reality check to the benefits of the boost in coal prices, which has seen contract prices going to $US200 a tonne and spot prices to more than $US300.

Coal “is dragging Australia out of the income recession we’ve juggled since late 2011. But King Coal also comes with some king-sized caveats.

“First, as many coal companies have been making losses, a switch to earning profits has a slower-than-usual impact on tax payments. Second, many of the factors that sent coal stratospheric are temporary, and most other commodity prices are more in line with budget assumptions.”

So a spike in national income would then ease back, according to the forecast.

It says both wages and jobs are likely to undershoot official forecasts. The tax take from individuals is predicted to fall short of the budget forecasts by A$1.3 billion in 2016-17 and by A$2 billion in 2017-18. In a break with recent trends, a minor shortfall in indirect tax of A$500 million is also forecast in 2017-18.

While the government has made some progress with measures in the Senate “the overall story on spending remains one of the continuing cost of failing to get a backlog of measures through parliament, topped up by a soupcon of new measures”.

Commenting on the Deloitte report, Treasurer Scott Morrison said the government would be adopting a cautious approach to commodity price assumptions in the budget update “and agrees with Deloitte that commodity price impacts are being offset by wages and inflation outcomes”.

“Deloitte also correctly identifies the need for more important savings measures to be passed by the parliament, that are opposed by Labor. This reinforces the position adopted by rating agencies who continue to watch our parliament to see whether they will support the government’s approved pathway to restore the budget to balance,” Morrison said.

Deloitte says that while the election of Trump was bigger news than Brexit, its shorter-term implications are likely to be less than the speculation.

“The US political system has remarkably strong checks and balances, and those checks and balances have increasingly solidified into gridlock over a number of years”, so presidents are rather less powerful than popular opinion believed.

On the other hand, there are Republican majorities in both houses of Congress, and presidential power is at its strongest on foreign policy – suggesting policy change is now more likely in some areas.

“Examples relevant to Australia include trade and climate change policy, and perhaps foreign policy more generally.

“On balance, we would recommend concentrating on the longer-term implications. In brief, we’d say that overall policy changes may well be net negatives for the global and Australian economies – especially trade- related developments and the increased potential geopolitical uncertainties. However, a number of those negatives will be years in the making.”

In Peru for APEC, Prime Minister Malcolm Turnbull continued to extol the virtues of the Trans-Pacific Partnership (TPP), despite it being apparently dead under a Trump administration.

He said Trump had “never said that he’s against free trade. He has criticised a number of agreements on the basis that they’re not good enough deals.

“It may well be that over time the TPP is re-embraced by the United States, by the Congress or indeed by the president, perhaps in the same form it is today, perhaps in a different form.

“The important thing is to maintain the commitment to the arrangements, the free trade, the open markets that are delivering jobs in Australia,” Turnbull said.

Observers are taking the fact the government is preparing to bring on the bills to tighten union governance and to re-establish the Australian Building and Construction Commission in the Senate this fortnight as a sign that it thinks it can get them through. Previously Turnbull has said they would be brought forward “when we believe there is a majority that will support it and on terms that we will accept”.

Asked about this at the weekend Turnbull said that with the Senate “it’s a long game and we work away, we respect every single senator”. On Sunday Employment Minister Michaelia Cash was engaged in negotiations over the legislation.

Author: Michelle Grattan, Professorial Fellow, University of Canberra

If the ‘bond market rout’ continues it could impact home prices

From The Conversation.

For the past three decades the yields on long-term bonds have been on a downward trend. This has dramatically reversed since the election of Donald Trump, with more than a trillion dollars wiped off the global bond market in the past week and a half.

But it’s not just investors that are impacted by this spectacular reversal. The bond market is a backbone of the global financial system, meaning the sell off has implications far and wide, from economic growth through to real estate prices.

What’s happening in bond markets

Bonds are a type of long-term debt – companies and governments sell bonds to investors and these will in turn be bought and sold on the bond markets.

The thing to look at with bonds is the market price, which is reflected in the yield quoted or price paid when a bond is bought and sold. Investors in bonds receive their returns in regular interest payments and the return of principal when the bond matures.

As the price of the bond rises, the yield will drop. With the price of bonds steadily rising during the 30 year bull market, yields have fallen away significantly, bringing down the interest rates around the world.

US 10 Yr Treasury Yield.

Why we pay attention to the bond market

The price of bonds filters through into the rest of the economy. This is because government bonds are considered relatively risk free, and so act as a benchmark for pricing (relatively more risky) securities in all other markets.

A company’s shares, for example, are expected to yield the risk-free rate (what a government bond would yield) plus an additional amount to compensate investors for their riskiness – called the “equity risk premium”. Investment in corporate bonds can be expected to yield the risk-free rate plus a premium for taking on the added default risk.

The US bond market is especially important, as it is the largest and its prices act as a benchmark for interest rates globally. Rising bond yields in the US signal a number of things – higher expected inflation from the touted tax cuts and higher spending, and the need to borrow to fund this expansion. All of this puts further downward pressure on bond prices and upward pressure on interest rates, increasing yields.

Overall, bond prices serve as a “barometer” of what the market is “thinking”. Especially what it thinks will happen in the future, as the relation between long term interest rates and short term interest rates has a mechanical effect on future interest rates.

What this could mean

The sudden increase in bond yields, most notably the 10 Year US Government bond yields, has broad implications for the economy.

Mortgage rates are tied to the 10 year bond yield, for example, meaning borrowers will need to pay more for housing loans. This won’t happen overnight and we will have to wait to see the long-term effect on real estate prices.

But taking in past history, here are a range of possibilities from the end of the bull market.

First, when long-term interest rates are higher than short-term interest rates, the market expects interest rates in the future to be higher. This suggests that this market sell off isn’t an aberration, we can expect higher yields and lower bond prices in the future, and this trend will continue.

Second, long-term bond yields generally reflect an economy’s long-term real growth rate plus a premium for inflation. Inflation measures around the globe have been quite low and central banks have struggled to reach their inflation targets. Rising bond yields could mean the growth starts to tick up.

Third, there will be more uncertainty in global markets until the implications of a Trump presidency are known. Investors will expect a greater return to investment in US government bonds because of this heightened uncertainty. So yields on long-term US Treasuries are likely to stay up and even increase further in the foreseeable future. But even so interest rates are still low by historical standards.

Fourth, new borrowing for housing will be more costly. The risk of rising interest rates on existing mortgages has been mostly shifted elsewhere in the US economy. Let’s hope that the institutions or individuals holding that risk fare better than the institutions which collapsed during the savings and loans crisis in the US in the late 1980s.

Fifth, this is a permanent change in the nature of global interest rates. Rising bond yields could push up interest rates. Australia’s Reserve Bank Governor Phillip Lowe has signalled no further interest rate cuts unless inflation drops well below its current 1.5% level.

Author: Christine Brown, Professor and Head of the Department of Banking and Finance, Monash University

Deutsche Bank turmoil shows risks of weakening bank capital standards

From The Conversation.

Deutsche Bank, a venerable 146-year-old bank whose very name symbolizes the German financial system, has recently found itself in considerable turmoil.

The kicker came in September when the Department of Justice slapped it with a US$14 billion fine for alleged wrongdoing during the financial crisis. But Deutsche Bank was already being buffeted by a string of bad news. Its stock price has slumped over the past year due to a decline in investment banking and dim prospects for its commercial banking business.

This has led to speculation about whether the German government will have to bail it out and, if it doesn’t, whether markets will soon experience another “Lehman moment” – referring to how the collapse of the U.S. investment bank sparked a global financial meltdown in 2008.

As I see it, these concerns obscure the much deeper problem that afflicts the European banking sector and that a bailout alone will do nothing to resolve: a lack of capital.

It also offers a stark warning for U.S. regulators amid talk of changes to banking rules – especially Dodd-Frank – under the new administration. While some changes to the U.S. financial system may be worthwhile, easing capital standards would be a mistake and make another financial crisis much more likely.

Instead, regulators on both sides of the Atlantic need to make sure there’s no question their banks are able to withstand a shock – whether a billion-dollar fine or something much more severe.

Why Deutsche Bank won’t be bailed out

While allowing a bank that has the size and prominence of Deutsche Bank to fail is obviously an event that could have seismic repercussions, bailing it out is not something that would be easy for the German government to do.

There are many reasons for this. One is reputational. Angela Merkel, the German chancellor, has been critical of other governments (especially in Europe) for using taxpayer funds to bail out their banks.

Second, there is little support among German taxpayers for the bailout, so it would also be politically costly.

While it’s interesting to speculate about this, there are other questions that are even more pertinent. First, what is the real problem here? Why is Deutsche Bank in the mess it finds itself in? What can we do to prevent our major financial institutions from being so fragile in the future?

There are many factors responsible for what ails Deutsche Bank. Perhaps none figures more prominently than its capital position during and after the crisis.

Who’s the riskiest of them all?

Among its peer institutions, Deutsche Bank is the riskiest based on its “leverage ratio,” which essentially measures how much equity capital it has as a percentage of total assets.

On June 30, its leverage ratio stood at a shockingly low 2.68 percent, or about half the average for the eight biggest U.S. banks, according to the Federal Deposit Insurance Corporation. That means it had only $2.68 in equity for every $100 in assets.

A low ratio means it has less cushion if there’s a problem. Since banks are required to mark many of their assets to market, an adverse price movement that reduces the value of its assets by just 3 percent would completely wipe out its equity.

We can see that the bank’s low capital is bad from at least two perspectives. One is that a 2.68 percent leverage ratio is less than what Bear Stearns had (2.78 percent) in early 2008 before it collapsed and had to be rescued by the U.S. government via a deal with JPMorgan Chase.

Another is that under the Basel III’s capital rules, banks are required to have a leverage ratio exceeding 3 percent. As an interesting contrast, U.S. bank regulators have adopted a 5 percent minimum leverage ratio for domestic banks. (One caveat is that European regulators [European Banking Authority] gave Deutsche Bank a ratio of 2.96 percent earlier this year,slightly higher than what the FDIC gave it, but still very worrisome.)

The ‘doom spiral’

Extensive academic research has revealed that a lot of bad things can happen when a bank has critically low capital.

One is that its internal culture gets skewed in favor of growth and excessive risk taking. Deals that can make the bank a lot of money if they pan out (but can also cost the taxpayers a lot) become more attractive. The other consequence is that there is “debt overhang” – so much debt that shareholders are unwilling to infuse any more equity into the bank since most of the benefits of the new equity will flow to the depositors and other creditors.

So this creates a sort of “doom spiral”: More equity is needed to rescue the bank, but excessive debt stands in the way. So the government finds itself on the horns of a dilemma, either let the bank fail or infuse taxpayer money to rescue it.

Finally, more highly levered banks also make a bigger contribution to systemic risk, which is the risk that the whole system will fail, as we saw during the financial crisis.

We see some evidence of these forces operating at Deutsche Bank. Reports suggest the bank is unlikely to raise new equity because its stock price is “too low” and trading at about 25 percent of the book value of its equity. That means the market thinks the value of the bank’s equity is worth just 25 cents when the bank’s balance sheet states it as one dollar. Put slightly differently, if Duetsche bank states its shareholders equity on its balance sheet as $100, the market will actually pay only $25 to buy it.

One reason for the low stock price is its dim business prospects, thanks to anemic economic growth in Europe and tighter banking regulations. The other, of course, is the aforementioned debt overhang.

With such low capital, it is also hardly surprising that its U.S. unit failed the Federal Reserve Bank’s stress test in June. The only other major bank that failed was the U.S. unit of Santander. When a bank fails a test, it is not allowed to remit dividends back to its parent company and may face harsher sanctions. In addition there is reputational damage and potential loss of customer trust, which can be very damaging to the stock price.

Moreover, consistent with the predictions of academic research, the International Monetary Fund named the bank as “the most important net contributor to systemic risk.” In other words, by keeping capital that is too low from a prudential regulation standpoint, Deutsche Bank is creating risk, not only for itself but for the whole global financial system.

The real concern

So, the real problem for global financial stability is not whether Deutsche Bank will be bailed out. It is the question of what bank regulators are going to do to get more equity capital into banking.

In this regard, U.S. bank regulators have done considerably better than European (and Japanese) bank regulators. During the financial crisis, the U.S. government took equity stakes in banks, effectively recapitalizing them. When the shareholders of these banks repurchased the government’s stakes, private equity capital replaced taxpayer-provided capital, and the U.S. banking system ended up on a much sounder footing as a result.

By contrast, this did not happen in Europe. In fact, banks in Europe lobbied their bank regulators to water down the Basel III capital rules so as to avoid having to raise billions of euros in new capital. As a result, banking fragility in Europe remains considerably higher than in the U.S.

What should be done going forward? I think the single biggest regulatory imperative in banking is to get banks to have significantly higher capital ratios, both in the U.S. and in Europe, although the problem in Europe is more pressing.

And American taxpayers and bank regulators cannot afford to be smug about American banks being better capitalized than European banks. There may be lobbying of the new administration to water down capital requirements but doing so will be bad for the economy, both here and globally. Hopefully we will not repeat the mistakes made in Europe.

We live in a highly interconnected global financial system. European banking fragility imperils the U.S. and indeed the global financial system. Bailouts generally do not foster future financial stability; higher capital does. That’s where the answer lies.

Author: Anjan V. Thakor, Professor of Finance, Washington University in St Louis

President Trump signals a return to the Wild West days of finance

From The Conversation.

A stream of commentary has set out to explain the electoral success of Donald Trump as a reaction to globalisation and neoliberalism. It points to a thread of populist anti-capitalism running from the President-elect to Bernie Sanders.

To the extent that this is true, however, Trump voters may be in for a surprise. One of the headline reforms of the incoming administration will be the undoing of regulatory responses to the 2008 financial crisis. This is not just inconsistent with pre-election rhetoric, but highly significant for financial markets.

Releasing financial actors from the shackles of regulation may sound appealing for business, but will also increase the risk of another financial crisis. Trump policies are likely to create a more dynamic, but crucially more risk-prone financial system, not only in the US, but globally.

In particular, he has spoken of dismantling the Dodd-Frank Act, which introduced extensive regulation of the financial industry in the wake of the global financial crisis. This is pleasing the markets, but may lead to the same kind of risk-taking that precipitated the 2008 crisis.

Ending state intervention

The President-elect’s newly-established transition website declares: “The Dodd-Frank economy does not work for working people.” Bureaucratic red tape and Washington mandates, according to Trump, have hindered America’s economic recovery. The new administration promises to dismantle Dodd-Frank and replace it with new policies to encourage economic growth and job creation.

Yet, it was exactly this type of deregulation between the 1980s and the middle of the 2000s that was a principal cause of the crisis. This is why the Dodd-Frank Act included provisions that affected virtually every financial market and granted new authority to nearly every federal financial regulation agency in the US.

It was designed to prevent excessive risk-taking by companies and investors. It introduced greater regulation of Wall Street and increased the government’s power to intervene in the event of a repeat crisis.

It also created a consumer watchdog to oversee the sale and marketing of financial services to consumers, such as the mortgage companies and pay-day lenders that profited prior to the crisis. This was the idea of liberal Democratic Senator Elizabeth Warren and has been singled out as a source of wrath for Republicans as it is emblematic of state intervention in financial markets.
Tough on banks: Democratic Senator Elizabeth Warren. EPA/Michael Reynolds
On the chopping block

Scant detail of what Dodd-Frank will be replaced with is available at the moment. Some indication comes from Republican Party proposals to undermine post-crisis regulation, which culminated in a bill introduced by House Financial Services Committee Chairman Jeb Hensarling earlier this year.

The Hensarling plan would place heightened restrictions on financial regulators trying to write new rules, and give large financial institutions a way to ease their regulatory burden. Such institutions would be given the option to opt out of some government oversight if they agree to hold on to larger amounts of capital.

Huge portions of Dodd-Frank are up for elimination including the “orderly liquidation authority” through which regulators can shut down ailing banks. Perhaps more emblematically, the “Volcker Rule”, which bars banks from engaging in profit-seeking activity known as proprietary trading, would also be repealed. And Congress could also cripple the new consumer watchdog by taking control of both its budget and management. It may also lose the ability to ban financial products it deems to be “abusive”, and its ability to gather consumer financial data.

Expecting the unexpected

Isn’t an attack on government agencies and “bureaucracy” part and parcel of a Republican administration? Perhaps. But during the long electoral campaign many unexpected things happened in this new populist phase of American politics.

For example the Republicans joined forces with the left of the Democrats in asking for the restoration of the Glass-Steagall Act. This was one of the most important legislative responses to the failures that led to the Great Depression, particularly in the banking sector. The act’s backers were convinced that the banks had played a significant role in promoting unsustainable booms in the real estate and securities markets during the 1920s.
Market reaction to Trump’s election win. EPA/Justin Lane
Glass-Steagall prevented commercial banks from making unsound loans and investments that can lead to a housing market bubble. It also discouraged banks from making investments in securities that undermine their solvency during stock market downturns and stopped them from making loans to finance the purchase of securities.

It takes a few intellectual leaps to go from advocating the return of 1930s regulation to dismantling post-2008 crisis responses. Yet this is the direction that Trump’s team appears to have taken.

The markets, unsurprisingly, have reacted well. This should leave nobody wondering. With regulations up for the chop, banks reduce their compliance costs and can increase profit margins. The financial industry had a look at the first pronouncements of America’s new rulers, and liked what it saw.

Author: Ioannis Glinavos, Senior Lecturer in Law, University of Westminster

Australia can’t bank on an iron ore Trump bump in the long term

From The Conversation.

Trump’s fiscal policies could mean commodities rally in the short term, boosting the Australian government’s budget, but this could be undone in the long term as his trade policies are bad news for base metals and energy commodities.

Global growth and movements in commodity prices have important implications for the Australian economy. A significant component of economic growth and tax receipts derives from the sale of commodities, and so generally rising commodity prices are a positive for Australia.

The recent 2016-17 Federal Budget assumed an iron ore price of US$55 per tonne (currently US$79) and a thermal coal price of US$52 per tonne (currently US$105). Treasury also forecast that a US$10 per tonne increase in the iron ore price would raise nominal GDP by US$6.1 billion, and provide an additional US$1.4 billion in tax receipts over the next year. As a result, the government will receive a significant budget boost in the near term.
Author provided
As a Donald Trump victory became increasingly likely, investors were initially cautious. Risky assets, such as stocks, were sold and funds flowed into safe havens such as government bonds and gold. Within hours this reaction was reversed as investors considered the broader repercussions of the result.

Gold has proven to be one of the more volatile assets; the Trump victory initially pushing prices almost 5% higher, but falling 9% from a peak a week before. The price of commodities that are typically related to economic output, such as base metals and energy, have surged as markets hope that Trump will enact a fiscal expansion to boost growth.

Copper (nicknamed Dr. Copper owing to its status as an economic bellwether), which is used in pipes and wiring, has increased in price by more than 7%. More impressively, iron ore has risen nearly 19%.
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However these gains could be short lived as volatility sets in, in the long term.

Trump policies and commodities

Much of the volatility in commodity prices relates to uncertainty surrounding what economic polices President-elect Trump will actually seek to implement once he is inaugurated in January 2017. This task is made all the more difficult by the lack of honesty during the campaign and backtracking on policies in the days since. Until there is some resolution regarding Trump’s specific plans this market uncertainty will last – likely benefiting the gold “safe haven”.

Trump has already signalled that he will bring an end to fiscal restraint. He has vowed to drastically reduce taxes, increasing the federal debt by US$7.2 trillion in the process, and pledged to invest US$550 billion in infrastructure. Both measures are meant to boost growth, and both would be positive for base metal prices.

Trump is also not a believer in climate change and is intent on using more fossil fuels. This could be a positive for commodities such as coal (the price of which has more than doubled since the start of the year) and crude oil. However, the outcome is not clear as the promised removal of environmental regulations may also serve to increase oil & gas drilling in the US and produce a price depressing glut.

Greater demand for coal would clearly be beneficial for Australian coal miners (if not the environment). Although the prospect of lower oil prices would not be good news for operators of major LNG projects still struggling to break even, at least households would gain from lower fuel prices.

The more important factor for long term commodity prices is the risk that a Trump Presidency provides for global trade should his policy of protectionism be enacted. If this happens, then global growth will be adversely affected which would be bad news for base metals and energy commodities.

In Australia, this could push the Federal budget further into deficit, reduce economic growth, and increase unemployment (or at least ensure that wages continue to stagnate). Clearly, this would not support the Turnbull mantra of jobs and growth.

A “trade war” also could mean geopolitical tensions will increase, particularly between the US and China, and this would be positive for precious metals such as gold.

At the very least, the coming period will provide greater geopolitical uncertainty that may delay corporate investment, hamper economic growth and put pressure on commodity prices.

Author: Lee Smales, Associate Professor, Finance, Curtin University

Big housebuilders won’t dig a way out of the housing crisis on their own

From The Conversation.

The UK has long been in the grip of a housing crisis. Back in 2004, respected economist Kate Barker carried out a major review of housing, concluding that if the low rates of construction continued, it would increase levels of homelessness and continue to make housing less affordable.

Ten years later, it’s clear that these urgent warnings fell on deaf ears. In 2004/05, when Barker’s report was published, 205,000 houses were built in the UK. In 2014/15, only 153,000 homes were constructed. As each year passes, the backlog of demand for housing grows larger, leading to rising house prices and greater numbers of households in rented accommodation.

Currently, almost 80% of all new dwellings are built by private house builders. In 2014/15, just ten companies were responsible for nearly half of the new homes developed. But it has not always been this way. In the 1960s and 70s, there were several years when local authorities and housing associations developed more houses than all private companies put together.

Prioritising profit

The issue of who builds housing matters, because government has so little control over the decisions and actions of private house builders. And since the 2008 recession, what has become clear is that the biggest house builders have been growing their profits much faster than they have been building new houses.

Our recent research shows that from 2012 to 2015, the number of new houses built by the five largest private house builders grew by 31%. Meanwhile, their revenues increased by 76%, and their end-of-year profits (after taxation and various other deductions) increased by over 200%. It seems that maintaining the scarcity of new housing keeps sale prices high, which removes the incentive to significantly increase the number of dwellings being built.
Steep. Images_of_Money/Flickr, CC BY
Of course, profit-making can be helpful, if firms then reinvest in more house building. But in 2015, the five biggest house builders returned 43% of their annual profits to shareholders in dividends. Our research suggests that if this had been reinvested in building more homes, nearly 9,000 extra houses could have been built – equivalent to a 6% increase in annual output.

It could also be argued that shareholder investment makes such house building possible, and that dividends are a fair price to pay. Yet this still leaves us with an uncomfortable conclusion; that an increase in housing supply depends on whether just a few companies decide to reinvest or pay out to shareholders.

Changing direction?

For many years after the 2008 financial crash, senior politicians did little to highlight or address this issue. But recent announcements by the government suggest a shift in political direction. Sajid Javid, the government minister responsible for housing, recently declared that “the big developers must release their stranglehold on supply”.
Sajid Javid. Foreign and Commonwealth Office/Flickr, CC BY
This echoes the more general statements made by the new prime minster: Theresa May has suggested that her government will intervene in dysfunctional markets – and the market for new houses could well be the first in line.

The forthcoming Autumn Statement promises increased government investment in housing. A series of new measures were recently announced, including the £3 billion Home Building Fund. This will be targeted at small and medium-sized developers, and may work to lessen the dominance of the large firms.

What does not seem to be on the government’s agenda, however, is the introduction of measures that would increase building by local authorities, housing associations and other non-profit bodies – in spite of proposals by sector representatives which outline how this could be achieved.

The government could do much more to increase public sector house building. Possible measures include allowing not-for-profit and public bodies to use more of their reserves for housing, and lifting borrowing restrictions. A wide range of economists have advised the government to borrow for investment in physical infrastructure.

Housing is not currently categorised as infrastructure, but treating it as such could generate economic gains, while addressing the growing shortfall in housing. What is for sure is that the house building industry on its own will not supply the homes which the UK so desperately needs.

Author: Tom Archer, PhD Candidate, Sheffield Hallam University

Six things that successful crowdfunding projects have in common

From The Conversation.

Crowdfunding, as a way of raising money for a new venture, has become big business. From a small start in 1997 it was estimated to be an industry worth more than US$34 billion in 2015. But crowdfunding is still in its infancy and – as with any tool – it can be misused so that its potential for bringing innovations to the markets could be hampered.

We set out to research what distinguishes successful crowdfunded projects from those that do not achieve their goal. Our team from Anglia Ruskin University looked at 9,652 projects – both successful and unsuccessful – from the crowdfunding platform Kickstarter. Kickstarter is one of the largest reward-based crowdfunding platforms, having raised more than US$2 billion (£1.6 billion) since its creation in 2008.

Because all applicants for funding through Kickstarter are required to post specific and detailed information, it meant we were able to drill down into each separate scheme and develop an overall understanding of the traits each had or hadn’t got in common that enabled them to attract crowdfunded investment. We isolated six main traits that successful crowdfunding campaigns had in common.

Keys to success

Timing: Early funding and backing is key to successful crowdfunding. The more backers and funding received in the first few days of a campaign, the more likely it is to succeed. This suggests that designing a campaign to reward the early backers will lead to it being more successful. Successful projects on average raised 39% of their funding goals by the end of the first sixth of the campaign – with many securing their funding before this early limit was reached. This compares to failed projects which managed to raise on average less than 4% of their funding goal in the same time period.

Networks: It probably comes as little surprise that having large online social networks helps entrepreneurs achieve success when it comes to crowdfunding their ideas. When project proposers add an online social network link to their project’s pages, they indicate that they are intentionally using their social network in order to boost their crowdfunding campaigns. The successful campaigns on our dataset had an average of 1,024 Facebook friends.

Temper your ambition: Ambition is usually perceived as a key to success for innovators – after all it takes ambition to launch a crowdfunding bid. But we identified many projects which were simply over ambitious – as shown by the negative impact that a high funding goal has on the chances of a project’s success. Projects which failed on average received less than 6% of their funding goal, with some raising less than 0.0001% of their funding goals.
Funding goals, early funding and probability of success.
Impatience: Being impatient to get off the ground increases the probability of a project‘s success. This may seem counter-intuitive – as one would expect that giving a campaign more time would help it succeed. But when it comes to crowdfunding, backers are impatient – they want to get the projects they support off the ground as soon as possible. In fact, they are so impatient that the shorter the declared duration of the campaign, the more likely the project is to succeed.
Pebble raised US$500,000 to launch its smartwatch in 17 minutes. Altogether the company has raised more than £20m on Kickstarter. Kickstarter
Reputation: We identified a number of projects from entrepreneurs who had already successfully launched campaigns. This experience improved the chances of a project’s success, as it increased the reputation of this creator generating trust. This is very important in an environment such as crowdfunding where the entrepreneur knows much more about the characteristics of the new product or service to be launched than the potential backers.

Reciprocity: In a virtual community, such as that created by crowdfunding platforms, we found that supporting other people’s projects could be a good way to attract support for one’s own. The positive impact of reciprocity indicates that crowdfunding platforms are virtual communities – where altruistic behaviour makes innovators more likely to succeed.

Crowdfunding matters

Every single one of these characteristics was found to be significant in affecting the success and failure of the projects we looked at. We developed these features into a model which enabled us to correctly predict the outcome of more than 87% of Kickstarter campaigns.

Why does all this matter? Why should we care about crowdfunding? Crowdfunding is now a global phenomenon – around the world more and more people in more countries are using this method of raising funds to support their ideas. The map below shows the geographic distribution of the projects analysed.
Crowdfunding: a global perspective. Author provided
From this map two major points emerge. Crowdfunding is a global enterprise with a single crowdfunding platform raising funds in more than 100 countries. But it also demonstrates how crowdfunding is still limited in Africa and South America – the areas which may most benefit from using crowdfunding to get a good idea off the ground.

Many a massive enterprise has started small – and in a modern post-industrial landscape, using crowdfunding to bring a brainwave to life will be increasingly important in providing jobs and creating wealth.

Authors: Emanuele Giovannetti, Full Professor in Economics and Deputy Director of the Institute for International Management Practice, Anglia Ruskin University; William Davies, PhD researcher, Anglia Ruskin University