Central Bankers Guessing Everywhere

Down under, Shops are struggling as interest rates halt spending.

Two major Australian retailers are on the brink of collapse thanks to sustained Reserve Bank interest rate hikes which have knocked the economic life out of our suburbs.

Sporting goods and apparel chain Paul's Warehouse is facing a nationwide shutdown while furniture retailer Dare Gallery is battling to find a rescue funding package. Both have been handed over to administrators. They blame their problems on a slowdown in sales caused by higher interest rates.

White goods manufacturer Fisher & Paykel yesterday sacked 740 staff across Australia and New Zealand, saying it was shutting down its Brisbane plant and relocating it to Thailand. The company blamed the decision on exchange rates, higher interest rates, and competition from low-cost labour countries.

The news comes as figures from the Reserve Bank yesterday showed the average credit card balance grew to $3085 in February -- at the slowest rate in more than a decade -- as consumers tightened their belts.

RBA takes hard line on bail-outs

Unconcerned about the financial health of retailers the Reserve Bank of Australia takes a hard line on bail-outs.

GOVERNMENTS around the world must not bow to pressure to bail out the private shareholders or managers of troubled financial institutions, the Reserve Bank of Australia governor, Glenn Stevens, said yesterday.

But they should be prepared to step in, via central banks, to act as a "lender of last resort" to protect financial systems if key institutions were to wobble as a result of the credit crunch.

While insisting the Australian banking system remained "in good shape", Mr Stevens said there were several lessons to be learnt from the near-collapse of British bank Northern Rock and the hasty marriage arranged by the US Federal Reserve of the crippled investment bank, Bear Stearns, and JPMorgan Chase.

Mr Stevens said in a speech at the Australian National University that ultimately it was a decision for governments, not the central bank, to decide whether to bail out a bank or financial institution.

But once that decision was taken, governments and central banks should communicate their intentions quickly and clearly to avoid a "run" on bank funds, as happened with Northern Rock.

Ideally, rescue loans would be provided as bridging finance only. If it became apparent longer-term funding was needed, this could be a big drain on public funds. If this were to happen, it was important that organisers and shareholders of troubled institutions wore some of the pain.

"Any such support should … come at considerable cost to the private owners and managers of the troubled entity. Public-sector support should not be used to 'bail out' private shareholders or those who were responsible for running the troubled institution," he said.

This was important to guard against "moral hazard" - where companies which knew they would eventually be bailed out without penalty would run higher risks, increasing the chance of getting into trouble.

Such penalties could include higher interest charged on loans, along with non-monetary penalties like sacking the chief executive, executives or board members of the company and ensuring private shareholders bear losses from the financial difficulty.

Hard Line Approach

Clearly the RBA is taking a hard line vs. the Fed's King Midas Approach and Swap-O-Rama free-for-alls. So far, Trichet and the ECB are standing pat as well.

Ireland Banks At Risk

In Ireland, Debt Risk Hits Banks Over Housing Concerns.

Credit-default swaps on Dublin-based Allied Irish Banks Plc, the nation's biggest lender, rose 5 basis points to 139, up from 38 in October, according to CMA Datavision. Bank of Ireland Plc, the second-largest, jumped 14 basis points to 152 and contracts on Irish government debt rose 6 to 31.

Ireland, where house prices quadrupled in the past decade as banks eased mortgage conditions, may follow the U.S. into a downturn, the International Monetary Fund said last week. The country's central bank cut its forecast for economic growth to 2.4 percent last week, from around 5.3 percent in 2007, after declines in home building and an increase in unemployment to the highest in nine years.

"Investors are looking to who's next in the credit crisis and the Irish property market looks vulnerable," said Olivia Frieser, a London-based credit analyst at BNP Paribas SA. "If you want to short the market it may be that it's cheapest and most liquid to do it through the larger Irish banks."

How is the ECB going to respond to that?

More importantly, how should the ECB respond to that? And how should the ECB respond to the blowups at German banks? What about the property bubble implosion in Spain?

What about the Bank of England? What should the BOE be doing? What about the Bank of Japan?

Caught In The Crunch

Please consider this UK headline: Caught in the crunch.

Mortgage lenders are to be told to pass on interest-rate cuts to their customers in return for easier and longer loans from the Bank of England as it tries to restore order to the housing market, The Times has learnt.

In a radical move to pour liquidity into the blocked lending markets, the Bank is preparing to tell banks and building societies that they will be able to use a wider range of assets as security for loans, and no longer have to rely on top-rated mortgage securities.

The move comes amid fears that a third of British estate agents could close their doors within 12 months because of the downturn.

The Bank will also follow the US Federal Reserve in offering more three-month loans to banks rather than concentrating on shorter terms.

The moves are being proposed as a way of encouraging banks to start lending to each other again. Their failure to do so has been a key factor in the worldwide credit crunch, and in Britain means that the lenders do not have enough money to finance loans.

But at a summit with Alistair Darling next week the mortgage lenders will be told that in return for the Bank helping to free up the market, they will be expected to pass on rate cuts, which many failed to do again last week after the latest Bank reduction.

They will also be told they will be expected to help householders who hit difficulties. They will be reminded of their duties to do all they can to avoid repossessions by reworking mortgages, offering people lower monthly payments while extending the term.

The deal has the full backing of Gordon Brown and Mr Darling.

What A Contrast

Does the BOE have any clue as to what it is doing?

Note the contrast between the BOE, the Fed, and the BOJ on one side, vs. the ECB and RBA on the other. The question is: Are any of them right?

The Fed, BOE, and BOJ are clearly guessing in one direction, but the ECB and RBA in the opposite direction. I applaud the hard line stance of the RBA (except in comparison to a free market approach) while at the same stance wondering if it is hard enough.

One key is that all central bankers are guessing, and not just on interest rate policy either. Another key is that no one has consistently guessed wrong more often than the Fed and Bank of Japan.

Quantitative easing did not help Japan one iota, but it did spawn massive carry trades elsewhere that are 100% guaranteed to blow up. The Fed helped spawn a worldwide property bubble by its actions. Banks in Germany, townships in Norway, and hedge funds in Australia have now all blown up as a result of that bubble.

US Implosion

In the U.S. 251 major U.S. lending operations have "imploded" according to the Implode-O-Meter.

Can't Anyone Here Play This Game?

With a tip of the hat to Casey Stengel I suggest they cannot. For more on this, please see the Fed Uncertainty Principle. The Fed, BOE, and BOJ, are as likely to be off in one direction as the ECB and RBA is in another.

The economic distortions caused by central bankers guessing what to do is staggering. More than likely they are all guessing wrong, some in one direction some in another, but not necessarily on everything at once. The result will be more carry trades and economic distortions that will eventually blow up.

Look how complicated things are. None of this guessing would be necessary under a gold standard with no fractional reserve lending allowed.

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com
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