The purpose of this article is to assess the macro-fiscal flows for Australia and determine what effect these flows will have on the stock market and the economy.
Three macro flows influence the markets and economy, and these are national government spending, the current account, and bank credit creation. This information is shown graphically in the charts below.
The chart below shows the national budget information to the present day over ten years tracked alongside the stock market. Cash injections are shown counter-intuitively as a minus. The chart is shown in terms of whether the government is receiving money or giving it out. If the latter then the private domestic sector is the recipient of that spending and records a surplus and vice versa.
The peaks on the chart are the time of least liquidity before the adoption of the new national government budget in May. There is a big spending splurge in the quarter following May as the new budget is expended. This is the time of maximum liquidity where markets might experience impulsive growth from the rapid injection of funds. End of year tax returns are submitted on or after June 30 and paid no later than October 30 unless one gets an extension.
Australia has just had a federal election, and the sitting party has been re-elected. One can expect more of the same in terms of fiscal policy and that it will tend toward conservatism and austerity. The counter-intuitive growth via cutbacks strategy that does not work, the best example being the Eurozone.
Both sides of politics brag about how they would produce the largest government surplus budget in the mistaken belief that the national government is a household or business and must save or book a profit each year. The truth is a government surplus by definition is the removal of money from the private domestic sector and a reduction of net financial assets belonging to private households and businesses.
The chart below shows how national government spending accelerates exponentially after the adoption of the budget and then tails off toward the end of the budget period.
The fiscal "signature" is not as pronounced as in some other countries that I have examined; however, it is there. There tends to be a peak after May, a dip in June and a series of lower peaks and troughs that match with the quarterly payment and refund cycle of taxes such as the good and services tax (VAT).
The federal government budget is crucial as it is the only positive fiscal flow of sovereign money, given that the current account is almost always in deficit.
The chart below shows credit creation for commercial banks over the same ten-year period. This is the supply of low powered credit money meant to be paid back at some point in time and issued at interest.
The credit industry is significant in terms of GDP and regularly contributes over two to three percent of GDP and is on a similar level of fiscal flow influence as the national government, if not more.
Australia has experienced a credit creation slowdown caused by the influence of the Royal Commission into Misconduct in the Banking, Superannuation and Financial Services Industry, see chart below. The Australian banking system has long been criticized for its loose, easy, and unfair banking practices. The Royal Commission found that this was mostly true and made many recommendations for change few of which will be implemented if any.
During the Royal Commission investigation, banks tightened their lending practices. The non-binding impact of the Commission report plus the re-election of the political party that made the poor lending culture possible has led to a recent burst of new lending that has yet to be reflected in official statistics. Australian banks stocks have made a relief jump at the news.
(MVB.ASX) is a relatively new Australian ETF that tracks the performance of the Australian banking sector. The first rally was in early February 2019 when the Royal Commission report was officially tabled and the second relief rally came in mid-May 2019 after the government, that made misconduct in the banking, superannuation and financial services industry possible, was re-elected.
One can now expect misconduct in the lending industry to resume as though nothing had happened. A whitewash. The big Australian banks will profit from this and investment in the following stocks a positive move for a five + percent dividend return and resumed share price growth after many years of flat to negative share price growth:
- Commonwealth Bank of Australia (OTCPK:CBAUF), (OTCPK:CMWAY)
- Westpac Banking Corporation (WBK), (OTCPK:WEBNF)
- National Australia Bank Limited (OTCPK:NAUBF), (OTCPK:NABZY)
- Australia and New Zealand Banking Group Limited (OTCPK:ANZBY)
Australia has one of the largest private debt to GDP ratios in the world. This begs the question of how long private credit growth creation can remain two to three percent of GDP going forward.
(Source: Professor Steve Keen)
There is much the Australian government can do to maintain the price growth in Australian real estate that underpins the capital debt structure shown above:
1. Increased home buyer assistance schemes at both the State and national level.
2. Lower interest rates. Many expect the next Reserve Bank of Australia [RBA] interest rate movement to be downwards from 1.5% to 1% or lower. The RBA has just this week lowered the bench rate from 1.5% to 1.25%. The first interest rate movement since 2016. This is on the road to Japanese and European style negative interest rates designed to support and enlarge a growing private debt load.
3. Increased property investor tax deductions.
4. Looser foreign ownership laws. Many foreigners that export to Australia earn Australian dollars in exchange for goods and services imported to Australia. These funds could be spent into the domestic markets such as the stock market and property market. Foreign 100% cash buyers of property did help the property price boom in Melbourne and Sydney since the GFC. Tighter foreign ownership laws and the banking Royal Commission brought the boom to an end and in the last twelve months reversed the boom to a ten to twenty percent reversal.
5. While Australia has tax concessions for an investment property, it has not yet introduced the same concessions for owner occupier property that is standard in the USA. There is huge potential here.
6. After graduating from university, Prime Minister Scott Morrison worked as the national policy and research manager for the Property Council of Australia from 1989 to 1995. The FIRE [Finance Insurance and Real Estate] sector are well in control of the political economy and will drive the lending and real estate bubble to undreamt of heights well into 2026 in line with the real estate cycle shown below.
7. Increasing immigration to stoke demand for more housing.
Point two above will have a profound effect on the Aussie dollar, as shown in the two charts below produced by Robert P Balan of Prescriptive Analytic Models. This outcome is already baked into the cake due to the lagged effects of fiscal and monetary flows and actions and is tradable.
The third and final major fiscal flow is the current account, and the following chart shows the current account over a similar period:
Australia's current account is as important and the same size in terms of GDP as the other main flows, the difference is that it usually is negative and is now trending upwards towards positive territory. The size of the flow in terms of GDP is shown in the chart below.
The chart above appears to indicate a direct correlation between the current account and the stock market. There is an approximate matching of peaks and troughs over the ten year sample period. A better current account result appears to create a rising stock market six months later and vice versa. This makes sense given that the other two main flows remain relatively constant over time at two to three percent of GDP.
Taking the above information for international and national macro-fiscal flows, one can calculate the sectoral balances. The table below shows the sectoral balances.
(Source: Trading Economics dot com plus author calculations)
*Estimate to be updated when the end-of-year numbers are known.
#Forecast based on existing flow rates and plans.
The table shows that the private sector surplus is in minus. What this means is that there is more money flowing out of the private domestic sector than is flowing in. The largest outflow is the external sector - Aussie dollars moving into foreign ownership in exchange for imported goods and services.
A private domestic sector in minus is poison for markets and not sustainable. The minus -0.9% of GDP or about -$11B is subtracted from the private sector's stock of wealth and also by way of loans from banks. Bank loans are, in effect, the private sector deficit. Both sources of funds are finite, and at some stage, the private sector will have run down its savings and also no longer be willing or able to borrow.
Impact On The Stock Market
The first chart above shows the effects of national government expenditure on the stock market.
Strong and accelerating government expenditure flows can buoy the economy and markets from May up until the end of June after the national budget is adopted and spending begins. The burst of liquidity is cut short after June due to the tax draw.
The key to understanding Australia's stock market is that its most significant influence comes from the current account.
There is no discernible yearly current account pattern. On the other hand, it is quite clear that movements in the current account have a six month lagged effect on the stock market. If one sees a particularly good or bad current account result, one can expect a movement and a trading opportunity in the stock market six months later.
An investor wishing to trade these stock market movements could do so using the following Australian ETF funds that mirror the broad stock market and currency.
iShares MSCI-Australia ETF
Invesco CurrencyShares® Australian Dollar Trust
ProShares UltraShort Australian Dollar
Franklin FTSE Australia ETF
VelocityShares Daily 4x Long USD vs AUD ETN
VelocityShares Daily 4x Long AUD vs USD ETN
First Trust Australia AlphaDEX Fund
iShares Currency Hedged MSCI Australia ETF
Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.