The Kākā by Bernard Hickey

TLDR: PM Jacinda Ardern has accused the banks of breaching their social license by making too much profit when many taxpayers at large are struggling in the wake of covid. She is right, and now needs her apparently reluctant Finance Minister Grant Robertson to take the next step and consider imposing a covid windfall profit levy on our big banks.

Not only have the big four Australian-owned banks massively increased their profits because of the Government’s covid response, but they are now more profitable than their parents and almost all their peers in other developed economies.

They can and should thank taxpayers broadly because they benefited from the Reserve Bank giving them massive lending tailwinds in 2020 and early 2021. Also, they are now able to turbo-charge that lending growth into higher profits because banks tend to increase their net interest profit margins when official interest rates are increased to fight inflation.

It’s a taxpayer-powered double whammy generating pre-tax profits at an annualised rate of $9.2b a year for four Australian-owned private companies. Simply imposing a levy equal to the one their parents already pay in Australia would generate extra tax revenues of $2.6b a year, which would be enough to either pay for a tax cut or extra social spending, or to return the Budget to surplus sooner.

Using such a windfall tax levy to effectively tighten fiscal policy, would actually help the Reserve Bank fight inflation and avoid some of the interest rate hikes that are actually helping inflate the profits of the big four.

How did we get to here?

Late last month the Green Party proposed an one-off excess profits tax that would increase the corporate tax rate from 28% to as high as 50% for large companies in some sectors such as supermarkets, banking and electricity retailing, with the money spent on extending the recent cost of living payments or student and welfare debt write-offs. The Greens policy proposal document included the idea of a more permanent increase in the corporate tax rate and that any one-off increase could be retrospective. I’ve included my interview with Green Finance Spokesperson Julie-Anne Genter above for more detail and background on that. Here was my report on that when the proposal was made. Ardern and Robertson said at the time they had no plans and were not investigating such a tax.

Then, almost two weeks ago, ANZ reported a record annual profit of $2.3b, up 20% from a year ago because it benefited from the higher interest rates the Reserve Bank is now cranking into the economy, and because of the extra $14b of home loans it made since covid, and over a time ANZ lent less to businesses and farmers and shed staff. Problematically and accidentally, the profit came on the same day Reserve Bank Governor Adrian Orr said extra unemployment was needed to fight inflation. Here’s my report on that from then.

It all came to a head yesterday when Westpac reported record-high core annual earnings of $1.551b, up 17% as it also benefited from extra mortgage lending during covid and higher net interest margins. Then, Ardern criticised banks for consistently producing very high profits at a time when others in the community are struggling, saying they had lost their social license. But she stopped short of calling for a windfall profit tax, suggesting the high bank profits were not a result of an act of God or Government that would justify any sort of one-off or ‘special’ tax, as has been seen in Europe and Australia with windfall taxes on energy companies benefiting from the Ukraine war shock to oil prices.

Then it all exploded today when Robertson reappointed Orr for a second full five-year term as Reserve Bank Governor until March 2028, over the top of objections from the Opposition. National Leader Christopher Luxon and National Finance Spokeswoman Nicola Willis said Robertson had over-ridden convention by employing Orr for a full term when an interim one-year term would have given any new Government freedom to appoint its preferred candidate after the next election due at the end of next year.

Luxon and Willis said they would immediately appoint a fully independent inquiry into the Reserve Bank’s actions during covid under Orr if elected next year, including whether its $55b of money printing, abandonment of LVR controls and $16.4b of subsidised lending by the Reserve Bank to banks through the Funding for Lending scheme had increased bank profits. Luxon said he did not favour a windfall tax because it might discourage bank investment, but he wanted a full inquiry conducted into the Reserve Bank’s actions.

So are banks ‘too’ profitable?

We know that the Reserve Bank deliberately encouraged banks to lend much more aggressively into the housing market from March 2020 and early 2021 to support the economy through the ‘wealth effect’, whereby home owners who see the value of their homes go up can spend an estimated extra three cents of every extra $1 in their net worth. Firstly, as Aotearoa was locked down in late March 2020, the Reserve Bank slashed the Official Cash Rate to 0.25% and started printing money to buy long-term Government bonds, which was designed to lower longer term mortgage rates. Within weeks it also completely removed LVR lending restrictions in place for nearly seven years. Combined, this sparked a frenzy of bank lending that pushed up house prices by 45% by mid 2021.

This Reserve Bank chart below showed how mortgage lending growth more than doubled to double-digit rates by early 2021, while new business lending collapsed and farm lending kept dribbling lower. Lending by the big four, ANZ, ASB, BNZ and Westpac, rose from $390b in the June quarter of 2019 to $447b in the June quarter of 2022, which is the last quarter we have complete data for. Lending by the big four grew $57b in those three years, including $47b growth in mortgage lending.

Then as the Reserve Bank started putting up interest rates from late October 2021, banks were able to grow both their net interest margins and their total lending.

The key detail for any banker is that rising interest rates allow banks to increase their profit margins on lending. This is partly due to banks interest margins tending to rise when short term interest rates are rising, as this June 2020 paper “Does Monetary Policy Influence the Profitability of Banks in New Zealand?” from the University of Waikato found.

KPMG’s industry-wide analysis from the June quarter, which included all the bank results, shows this too. The profit results are quarterly.

‘We helped you. Now you should help us’

The Crown can also rightly claim the banks benefit from an implied and unfunded Government guarantee to protect them, especially now the Government is building a deposit guarantee scheme and especially after the Government’s actions during the Global Financial Crisis, when the Government created retail and wholesale deposit guarantees in 2008/09.

During the GFC and covid, the losses were socialised in the form of higher Crown debts, while the profits were privatised in the form of higher bank profits. Recovering some of those privatised profits would not only be fair, but if done in a fiscally neutral way (ie not simply using the funds to increase spending elsewhere), it would tighten fiscal policy and help the Reserve Bank bring down inflation by not having to put up interest rates quite so much.

An Australian-style bank levy of 0.06% on the banks’ loans of $447b would raise $2.66b per year and reduce their current ‘run-rate’ of annual post-tax profits from $7b per year to around $4.3b per year.

Wonderfully profitable before covid too

The big four were very profitable before covid as well, as Deutsche Bank analysis in Australia concluded in their assessment of plans by the Reserve Bank to force banks to hold more capital.

Deutsche's Australian-based analysts Matthew Wilson and Anthony Hoo wrote in 2019 the big four Australian-owned banks then controlled 88% of system assets.

"This unique market structure, we are yet to find another one, generates oligopoly-like returns. The four banks print an average return on equity of 15% and remit 65%, or NZ$3.25 billion, of earnings bank to the parents as dividends," Wilson and Hoo said via this Interest.co.nz piece from Gareth Vaughan.

That was also clear in this Reserve Bank table showing the big four here were more profitable than their parents, and only just behind the Canadians as the most profitable in return on equity measures.

Ka kite ano

Bernard

This is a public episode. If you'd like to discuss this with other subscribers or get access to bonus episodes, visit thekaka.substack.com/subscribe

TLDR: PM Jacinda Ardern lectured bank boards and managers last night about their high profits showing they were not demonstrating their ‘social license,’ but she stopped short of suggesting any sort of windfall profit tax as used elsewhere and as proposed by the Greens last month.

Instead, Ardern said she hoped her jawboning of the banks would make a difference, even though it hasn’t in the past.

Paying subscribers saw and heard more detail and my analysis of the prospects for a windfall tax below the paywall fold and in the podcast above earlier, including the PM’s answer to my windfall profit tax question and the idea such a tax could help the Reserve Bank fight inflation.

Just jawboning? Or prep for a windfall profit tax?

Prime Minister Jacinda Ardern appeared to lay the groundwork for the introduction of a windfall profit tax or levy on bank profits yesterday, although her views are still a long way from any policy work.

Asked in her weekly post-Cabinet news conference about Westpac’s record-high core annual earnings of $1.551b, up 17%, Ardern criticised banks for consistently producing very high profits at a time when others in the community are struggling.

She did not suggest a particular policy to reduce or tax bank profits, but said banks were not demonstrating "social license" and needed to 'engage in some self-reflection.'

Windfall taxes on bank profit margins that are rising because of higher official interest rates have been considered in Britain and Europe. Australia imposed an annual 'Major Bank Levy' of 0.06% of the liabilities of banks with more than A$100b of assets in mid 2017, which included Commonwealth Bank (the owner of ASB), ANZ Bank, Westpac, National Australia Bank (the owner of BNZ) and Macquarie Bank. That extra tax on banks was imposed by a conservative Liberal-National Federal Government in July 2017 and is expected to raise A$1.85b per year by 2024/25.

Ardern's comments follow calls from Green Finance Spokesperson Julie-Anne Genter last month for a windfall profits tax on large corporates that benefited from Government support and implied guarantees during the Government's covid response.

‘Perhaps they’ll listen to me this time’

Ardern said the banks generally had not demonstrated 'social license' by repeatedly making very high profits at a time their community was struggling.

"They all seek the same social license. They exist in the community. They know that this is a time where New Zealanders are facing increases in the cost of living like many other of our international counterparts," Ardern said.

"The question I would pose to them is they may be operating as other banks are, but are they demonstrating social license? Are they demonstrating commitment to the communities they are serving by taking profits such as those in these current times. That would be my question," she said.

Asked if they were demonstrating social license, she said: "No."

Ardern agreed the banks were complying with the law on taxes.

"They're continuing to operate within the parameters in the rules that are set, but that doesn't mean that necessarily it's giving them a social license that you would expect from banks who claim to be operating as members of the community and within the community," she said.

"Some have said things like windfall tax. That's actually a very different set of scenarios usually for those where it is being applied. Offshore, you will see in different scenarios they've applied it to, for instance, energy companies who have benefited from particular events," she said.

"The argument here is actually this is a very different set of circumstances. We've seen repeated significant profits being drawn by banks in New Zealand. So this is not what I would argue is a one-off. We've seen this consistently, them posting significant profits. I think there's questions need to be asked to management of these banks as to whether or not they're serving their communities well."

'I don't have a policy solution. Yet.'

Ardern said the Government did not have a policy to address the high profits and said any questions on specifics should be addressed to Finance Minister Grant Robertson. She would not say if the Government was considering naming banking as the next sector for a market study by the Commerce Commission.

"We don't have any particular policy that would have an impact on what we are seeing, but not everything that should change, will change, at the hands of government," she said.

"It is not unusual, of course, for companies or indeed other operators in our communities to assess whether or not what they're doing at any given time is the right way from a corporate responsibility perspective to be behaving. It doesn't always take government intervention for that kind of self reflection to occur.

"I'm simply being frank with you around my observations around what is occurring with bank profits. Do I have a current solution from government on that? The answer is no. But I do share a view as obviously someone that takes a perspective on the behalf of the welfare of all these Zealanders that what we see I don't think is justifiable.

"So I'm not coming here with a policy prescription, but I'm sharing a view. I don't currently have in front of me a Commerce Commission market study that can tell me exactly that level of detail that I can for, for instance, for the grocery sector.

"We know that from the Commerce Commission's work, that the grocery sector in New Zealand is taking excess profit of roughly a million dollars a day. Now I don't have that evidence base in front of me now for the sector.

"I'm sharing a frank view, but beyond that I don't have a policy prescription."

'There is something wrong with bank profits'

Asked if there was something wrong with the level of bank profits, she said:

"In this environment, yes. I'm not speaking to every individual bank and the situation in this market. I'm giving a general response to a question that was asked without giving a policy prescription."

Asked if banks' job was simply to make the biggest possible profits for shareholders, she said:

"Sure. But then on that basis at the same time, you see some banks promoting the fact that they are taking an environmentally responsible line by for instance, offering lower interest rates, the decarbonisation initiatives buying EV cars, insulating your home."

"They frequently make decisions that may be seen to be less about profit and more about social corporate responsibility. I'm just asking them to broaden the remit of consideration in that regard, The point I'm making is normal solutions to these questions don't solely come from government.

"Maybe banks themselves may look at their profits that they're posting in this current environment. And ask the question of whether or not in this current environment there is a way that they can support their customers through this period as well."

Asked if 'self reflection' would be enough to change their views, she said:

"Obviously that self reflection has not bought change to date, but in this current environment where we are experiencing a significant cost of living issue for all New Zealanders, I feel a responsibility to call on all those who may have the ability to ease that pressure to consider how they may do so and I include the banks in that."

So what? - The PM was in floating mode yesterday. In previous weeks she has downplayed the idea of a windfall profit tax, as has Robertson. We’ll get another chance this morning to ask them both about their views.

What they should do - Taxes on windfall profits earned by banks when official interest rates are being lifted are nothing new or politically biased. Margaret Thatcher did one in the early 1980s. Scott Morrison did one in 2017, which is still in place for the very banks that would be subject to it here.

The case for a windfall profit tax or levy - Aotearoa’s Australian-owned banks benefited during covid from the removal of lending restrictions, the printing of $55 billion of money by the Reserve Bank to lower longer-term mortgage rates and the lending to banks by the Reserve Bank of $16.4 billion at discounted rates through the Funding for Lending Programe (FLP), including a further $400m as recently as last Monday, as this RBNZ data shows.

Now, as the Reserve Bank hikes interest rates to slow inflation caused partly by the money printing and cheap loans that pumped up residential land values by 45% or nearly $1 trillion, the banks are benefiting again as they are able to increase their net interest margins.

The Crown can also rightly claim the banks benefit from an implied and unfunded Government guarantee to protect them, especially now the Government is building a deposit guarantee scheme and especially after the Government’s actions during the Global Financial Crisis, when the Government created retail and wholesale deposit guarantees in 2008/09.

In my view - During the GFC and covid, the losses were socialised in the form of higher Crown debts, while the profits were privatised in the form of higher bank profits. Recovering some of those privatised profits would not only be fair, but if done in a fiscally neutral way (ie not simply using the funds to increase spending elsewhere), it would tighten fiscal policy and help the Reserve Bank bring down inflation by not having to put up interest rates quite so much.

An Australian-style bank levy of 0.5% on the banks’ loans of $535b would raise $2.66b per year and reduce their current ‘run-rate’ of annual profits from $7b per year to around $4.3b per year.

I’ll do a tweaked stand-alone version of this later on today after hearing from Robertson. Do paying subscribers want it opened up immediately?

Elsewhere in the news here and overseas overnight and this morning:

In geo-politics, the global economy, business and markets

China trade contraction - Data out overnight showed China’s exports and imports contracted in October from September, which was worse than expected and another sign our largest trading partner is slowing under the weight of covid lockdowns and a residential property implosion; Reuters

‘A highway to hell’ - United Nations Secretary General Antonio Guterres called on leaders attending COP27 in Sharm-el-sheikh to cooperate urgently to slash emissions or condemn future generations to a climate catastrophe “on a highway to hell”; Reuters

In real life - Facebook’s parent Meta will announce the sackings of thousands of its 87,000 staff as early as Wednesday, having added over 40,000 staff since covid, the WSJ reported;

Covid hits - Apple warned overnight of lower iPhone shipments because its factories in China had been badly affected by covid; Reuters

In Aotearoa’s political economy

‘Neck and neck’ - Polling from Labour’s pollster Talbot Mills emerged late yesterday to show Labour steady on 35%, National down three points on 35%, with ACT on 11%, the Greens on 9%, NZ First on 4% and Te Pāti Māori on 2.2%; prior month, with National down 3 points. This contrasted with a Newshub-Reid Research poll out on Sunday evening showing National-ACT able to govern alone and Labour at its lowest level since the election of Jacinda Ardern as leader. She said she took the Newshub poll with a grain of salt and thought the Talbot Mills poll was more accurate. NZ Herald

A breach of NZX rules? - The Auckland Mayor’s office leaked information about a $270m budget shortfall to the NZ Herald over the weekend, forcing the Auckland Council to send a note about the situation to the NZX, where its coporate bonds trade. The leak appeared to breach NZX rules about market sensitive information being made publicly available to all at once. The final detail referred in the article was published five hours after it appeared in the Herald and two hours NZX after trading began.

Another breach? - Mayor Wayne Brown then proceeded yesterday to give his first full and exclusive interview to NZ Herald-$$$ reporter Bernard Orsman, detailing plans to make $400m in property development profits on Ports of Auckland-owned waterfront land, potentially selling the Council's $18% share of (also NZX-listed) Auckland Airport for $2b and potentially slashing funding to local boards.

Fraud in Parliamentary office - The Parliamentary Counsel Office’s (PCO) Chief Information Officer (CIO) for 13 years, Paul Ivan De Wijze, was named yesterday as having been convicted of fraud after falsely invoicing the PCO for $55,200 for a cloud-based IT service as an act of ‘revenge’ after being laid off last year after 13 years in the job. The money was directed into his own account. He was convicted and sentenced to community work after he repaid the funds, the NZ Herald reported after his name suppression was lifted. De Wijze had applied for permanent name suppression.

Quotes of the day

When AC/DC meets Mad Max in a UN speech

"Greenhouse gas emissions keep growing. Global temperatures keep rising. And our planet is fast approaching tipping points that will make climate chaos irreversible," he said. "We are on a highway to climate hell with our foot on the accelerator." United Nations Secretary General Antonio Guterres via Reuters

Wayne Brown jumps off the Council’s financial difficulties

“The guy jumping off the tower and it falling down behind you. I expected it to be slow, bureaucratic, bloated and in financial difficulties and it met all of those, and it’s more financial difficulties than I thought. It’s like every time you lift a stone here, slaters run out in every direction.” Auckland Mayor Wayne Brown telling Bernard Orsman what his first weeks in the job felt like, in his first full interview. NZ Herald-$$$

Ka kite ano

Bernard

This is a public episode. If you'd like to discuss this with other subscribers or get access to bonus episodes, visit thekaka.substack.com/subscribe

TLDR: This week in geo-politics, the global economy and Aotearoa’s political economy, we learned:

* PM Jacinda Ardern didn’t take the Three Waters offramp offered to her by the new mayors of Auckland and Christchurch;

* Aotearoa kept growing jobs and real incomes at faster-than-expected rates in the September quarter;

* Reserve Bank stress tests found banks were so profitable and well stocked with spare capital they could handle a 47% fall in house prices;

* the US Federal Reserve and the Bank of England both hiked their key interest rates by 75 basis points, setting the scene for the Reserve Bank to do the same on Nov 23; and,

* Elon Musk bought Twitter, retweeted a crazy conspiracy theory, deleted the retweet, and then sacked the social network’s moderation and ethics team, while Substack launched a chat function on its iOs app for subscribers forming around writers and podcasters (including me).

What was in this week’s hoon

We talked with special guest University of Canterbury political scientist and IPCC climate change report co-author Bronwyn Hayward about this weekend’s COP27 conference in Egypt, including the geo-political challenges for emissions reduction and how well (or not) Aotearoa is responding.

Later, we talked about:

* the mid-term elections in the United States this coming Wednesday (NZ Time);

* the future of Twitter under Musk and the alternatives growing on Substack;

* the return of Binyamin Netanyahu in Israel;

* China’s Orwellian attempt (still) to eliminate covid ; and

* how rising real incomes and rudely healthy household balance sheets contrast with the gloomy rhetoric of opposition politicians calling for the biggest tax cuts for the wealthiest.

What was on The Kākā this week;

For examples of how I covered these issues for paying subscribers this week, here’s my deeper dive analyses of:

* rising real weekly incomes and the resilience of home-owners’ finances to rising interest rates and falling house prices in Thursday’s email;

* the Government’s decision to drive past a Three Waters offramp offered by Wayne Brown and Phil Mauger in Tuesday’s email;

* a Green call for a windfall profits tax in Monday’s email;

* whether this week’s big rate hikes in the United States and Britain were too big and fast for the global economy to handle in Friday’s email; and,

* how National’s tax cuts would deliver more than half of their $11.1b in lost tax revenues to the top 10% of income earners and landlords in Wednesday’s email.

Other places I spread my journalism this week

I talked on TV3’s The Project about rising real incomes and low debt

I podcasted about broken relations between councils and the Crown

I appeared on TVNZ’s Breakfast to talk about Three Waters

Charts of the week

Useful longer elsewhere for the weekend

Profundities, curiosities, spookies and feel-goods

Cartoons of the week

The Craic of the week

Mā te wā e hoa

Bernard

This is a public episode. If you'd like to discuss this with other subscribers or get access to bonus episodes, visit thekaka.substack.com/subscribe

TLDR: Wages and jobs figures out yesterday show the economy is actually driving weekly earnings up even faster than prices, while the Reserve Bank reiterated homeowners, businesses and banks are actually in rude health, despite all the sturm und drang around about the ‘squeezed middle’ being ‘under water,’ in ‘mortgage stress’ and fearing the arrival of bailiffs.

Nothing could be further from the truth. Weekly wage packets have been growing at double digit rates since the middle of last year because of hourly wage rate increases and many more hours being worked by (surprisingly) many more people. Those wondering why all the flights and hotels are booked out and why prices are still rising need only know two facts:

* total weekly gross wage payments averaged $2.7b in the September quarter, up 10.4% from the same quarter a year ago; and,

* the percentage of non-performing home loans from banks was 0.2%, just a sixth of what it was in 2009 when house prices last fell 10%.

Those warning of ‘mortgage mayhem’ from the ‘squeezed middle’ are just wrong.

Paying subscribers were able to see and hear more analysis, detail and charts below the paywall fold and in the podcast above earlier today. (It includes a longer version of the podcast. The original one was truncated and I have now re-recorded it. My apologies.)

There is no squeezed middle. Home-owners are just fine

Labour market running hot - Statistics NZ reported yesterday the unemployment rate was unchanged at 3.3% in the Sept quarter from the June quarter after 1.3% jobs growth in the quarter to 2.853m employed people and after the labour force participation rate rose 0.8 percentage points to a record high of 71.7%. The numbers were stronger than most expected.

Wages rose faster than prices - Average ordinary time hourly earnings rose 2.4% in the quarter and were up 7.4% from a year ago, meaning there was real earnings growth after annual CPI inflation in the Sept quarter of 7.2%. Private sector average ordinary time hourly earnings rose 8.6% from a year ago to $36.09/hour, which was stronger than expected. Private sector average weekly earnings, which include overtime for full time equivalents, increased by 9.1%, to $1,409, while public sector average weekly earnings rose 4.5% to $1,738. Just imagine if the Government had not ‘frozen’ wages last year. That pay freeze is currently under review as Government departments keep losing staff to the private sector.

Double-digit weekly gross wage growth - Gross total seasonally adjusted weekly earnings rose 10.4% from the same quarter a year ago to $2.684b. These gross earnings, which it could be argued are inflated by one-off bonuses, extra hours worked, people shifting from part-time to full time and more work done at higher over-time rates, have been growing at annual rates of between 10.4% and 12.3% in every quarter since the June quarter of 2021, except for the June quarter.

Not-so-squeezed middle - Anyone surprised by the ongoing strength of consumer spending need look no further. So many claims about the ‘squeezed middle’ and ‘real wage deflation’ are made without checking the weekly gross pay numbers, and without understanding just how much extra money and buffers homeowners have stashed away in home equity and savings since Covid. Homeowners are still over $550b richer than they were before Covid, with net worth of $2.35t as at the end of June, even after a sharp fall in house values and stocks this year.

Asset owners not shaken, let alone stirred or collapsing

Not so vulnerable balance sheets - Also yesterday, the Reserve Bank reiterated in its half-yearly Financial Stability Report that homeowners, businesses and banks are actually in rude health with record-low mortgage default rates, record-high capital levels and oodles of cash to pay for higher interest rates.

Te Pūtea Matua (RBNZ) did what it was supposed to do yesterday and told borrowers and banks and businesses to brace for financial stress that would "test resilience." It talked about dark clouds on the economic horizon and "risks skewed to the downside" in its half yearly stock-take of how our financial system is coping with spiking interest rates.

An alien arriving from another planet might think most home owners were deep under water with negative equity, drowning in high debt and were on the verge of being kicked out of their homes after the fastest spike in mortgage rates in living memory. Actually, nothing could be further from the truth. New Zealand's households, businesses and banks are all in rude health, with default rates at infinitesimally low levels and capital buffers stocked the gunnels.

You wouldn't know it by reading today's headlines. "Dark clouds over NZ's economy," warned Newshub. "Rising interest rates will test financial resilience," wrote 1News, cribbing from the Reserve Bank's own news release on its November half-yearly Financial Stability Report titled: "Global financial stress will test resilience." The NZ Herald heralded: "Negative equity warning for home buyers," while Stuff focused on a "growing number of households struggling financially" because of higher mortgage payments that were about to get much worse.

Yikes. Dark clouds. Negative equity. Financial stress. Struggling households. Things must be really bad. On top of the risk of nuclear armageddon, an unprecedented and ongoing global pandemic, and Taylor Swift having all ten of the top ten most popular songs all at once this week. Whatever next? A wave of mortgagee sales and young homeowners being turfed out onto the streets in a vortex of forced sales, triggering skads of mortgagee sales, bank losses and ghost developments? 

Yeah...nah

Actually, we should all just step back from the edge of the headlines and take a few deep breaths. We all need to take a class in financial stability and macroeconomic policy yoga. 'Namaste', Governor, rather than 'brace for it.'

Almost all of us will be absolutely fine, and even those who bought homes last year and are beginning to hyperventilate at the prospect of a 7%-plus mortgage should just take a chill pill, as the kids probably never said. Those with relatively high debts who paid prices that have now slumped 10-20% in the pixels of the valuation websites they check daily should remember that they were only able to borrow after passing their banks' seemingly ludicrously high test rates at the time of over 7%. They were put through the wringer last March or April with the assumption that they were able to handle a seven point something mortgage rate.

It seemed a pain in the proverbial at the time, but now it feels like prudent bankers operating prudently for the good of themselves, their shareholders, their customers and the economy. Anyone still in work won't be kicked out. It is only the dead and the divorced who need to worry, and they have other things to worry about.

The calculations showing they face paying more than 50% of their disposable incomes also assume their incomes have not changed. Most in this position will have seen double-digit disposable revenue growth since they took out their mortgages. It will hurt and the local purveyor of flat whites may not make so much money, but the world is not going to end.

The same prayers of thanks should be said for the high LVR rules reintroduced in early 2021, and then tightened in late 2021. All but a few buyers were forced to hold at least 20% equity before buying, with the investors having to hold at least 40%, and often a lot more.

Hardly any in negative equity or default

That means the share of buyers who are likely to get into negative equity once house prices have fallen the 20% forecast from peak to trough by the Reserve Bank is actually very low. What might have seemed to be a giant exercise in pointless party-pooping at the time, now feels like the grown-ups were in charge after all.

No one liked the LVRs when they were introduced in 2013. The banks, the brokers, the buyers, the sellers, the voters and the politicians all hated the LVRs, b******g and moaning all the way down the Terrace and across the road to the Beehive. Previous Reserve Bank Governor Graeme Wheeler even lost his job (well, didn't get a second term) because he introduced LVRs and then tightened them in the face of a fair amount of b******g and moaning from across the road. The ninth floor was livid before the 2011 election. 

Take a closer look at the actual risk

A closer look at the actual levels of negative equity, mortgage servicing stress and mortgagee sales in New Zealand's housing market, banking system and corporate balance sheets shows the nation in a rude state of health and easily able to handle a 7% mortgage rate, let alone a higher unemployment rate.

This week's FSR came out with a fresh stress test of our banking system showing even a 47% fall in house prices with a 9.3% unemployment rate and a cyber-attack couldn't bring down our banks. They were even profitable in all but one of the four years of the stress test timeline and their capital reserves remained more than twice the minimum levels.

Reserve Bank Deputy Governor Christian Hawkesby was also careful to point out in yesterday’s news conference that it was his job to put his serious hat on and warn against home buyers getting too indebted or bankers becoming too loose. But, he said, we shouldn't lose sight of the strength of the base we have.

"Just a reminder, this is our financial stability report, so this is the one where we put the gloomy hat on, deliberately. We benefit from a financial stability perspective from the strong, strong starting point that we have.

We have very high levels of employment. We have high levels of income, job security. And so all of those things benefit financial stability in the near term. We are conscious that in a rising interest rate environment that will slow the economy down, or that will result in a weaker labor market.” Christian Hawkesby.

'Praise be to the LVRs'

The central bank's manager of financial systems analysis, Chris McDonald, was also clear about the strength in our system.

"When you look across the household sector, households are in a good position. And that's because the house prices have increased over the past couple of years prior to the peak that we saw in the last year.

"And so the equity that they have has increased, so they have that buffer for potential price declines. In addition, we had the LVR settings that were in place since 2013. And that, again, is credited with increased buffers for households.

"Now, while in aggregate households are in a strong position, they're always going to be pockets of risk, And so we've put some numbers in the report that shows that right now, even with the 11% decline, only 2% of households are in negative equity. And partly that's just because house prices have only really fallen back to the level that they're at in May last year. So they're still high relative to where they weren't pre-pandemic.” Chris McDonald

'Keep talking to your banker and they should keep talking to you'

Governor Adrian Orr also pointed out banks were in a strong position to help customers that they (by definition) they had already put their trust in.

"My advice to people is to talk with their financial advisors and stay close to the bank. House prices falling don't create a financial crisis in and of themselves, it just means that you're living in the home.

"The servicing of mortgages is where you need to stay very close to the banks. If they have lent wisely, then you are the wise person they have lent to, and they should be able to work with you through through good times and bad," he said.

"So stick close to your banks and banks stick close to your customers, would be my suggestion. We are in a strong position to weather this international challenge." Adrian Orr

Hawkesby emphasised that mortgage servicing, rather than equity, was the key, and that delinquency rates were extraordinarily low.

"The really important part of servicing mortgages is your income and your participation in the labour market. So that's why having a strong economy and this strong starting point puts us in a good position.

"So that's a really key feature of your ability to service your mortgage, regardless of where the level of your house price is. And it's why when we think about financial stability and the types of stresses that we worry about, it is the ones where unemployment is high for a prolonged period."

But even then, a 9.3% unemployment rate and a 47% fall in prices aren't enough to take down the banking system. Not even close.

Adrian Orr quietly pointed out in this discussion that his much-criticised push before Covid to force banks to hold capital was now paying dividends in financial resilience terms.

"The resilience of the financial sector is is strong and open to an enormous amount of buffering. Is it infallible? No. So there's always that balance between levels of capital and efficiency versus security and precaution. And New Zealand sits at the more conservative end of that, because of the capital work we've been doing.” Orr

Some politicians talked yesterday of a looming catastrophe.

Non-performing loan ratios are at record lows. Unemployment is at record lows. Incomes are growing at double-digit rates. The middle is not squeezed.

Elsewhere in the news this morning:

In geo-politics, the global economy, business and markets

Pivot pointer? - The US Federal Reserve just hiked its key Federal Funds Rate range by 75 basis points to 3.75-4.0%, as expected, but it also noted it was now watching the ‘cumulative effect’ of its previous hikes and the lags involved in slowing growth and activity. Some saw that as signs it would start slowing its rate hikes from next month, which initially boosted stock and bond prices, although trading has been volatile in the first hour after the announcement. Reuters

Bluff called - Russia recanted overnight on its weekend cancellation of Ukraine’s grain export deal after the UN and Turkey defied Russia’s blockade, effectively calling Russia’s bluff.

Red lights - Maersk’s CEO Søren Skou warned overnight that recessions were coming in developed countries because every leading indicator the world’s second largest shipping container company could see was “flashing dark red.” Fortune

Incoming - The US accused North Korea overnight of secretly supplying artillery shells to Russia. Reuters

‘Turns out I’m free after all’ - UK PM Rishi Sunak tweeted overnight he would attend this weekend’s COP27 climate summit in Sharm el-sheikh in Egypt after all. He had earlier said he was too busy with domestic issues, but was criticised, especially after his predecessor Liz Truss blocked King Charles from going.

In Aotearoa’s political economy

Going empty handed - Our Climate Minister James Shaw is going to the COP27 summit, but wasn’t able to take an updated Paris summit pledge to reduce emissions, despite demands from the UN for even more emissions pledges to try to keep global temperatures from rising more than 1.5 degrees celcius.

Hurry up and wait… The UN said last week the current global policies were pumping in enough emissions to increase the warming to 2.8 degrees and more pledges were needed. Even if the current pledges were delivered, temperatures would rise 2.4 degrees by 2100, the UN warned, which could trigger unstoppable warming because various tipping points are near.

..for a High Court ruling - Shaw told Stuff’s Olivia Wannan he couldn’t take a new bigger pledge because the Government was waiting for a High Court ruling on the Lawyers for Climate Action case put in February that the current Climate Commission emissions reduction budgets breached the Carbon Zero Act because they were insufficient. It’s been eight months since the hearing before Justice Jillian Mallon​ and there is no ruling yet.The Craic

A fun thing

Ka kite ano

Bernard

This is a public episode. If you'd like to discuss this with other subscribers or get access to bonus episodes, visit thekaka.substack.com/subscribe

TLDR: Vacuums can be dangerous things if you don’t fill them fast enough.

CTU Economist Craig Renney has estimated National’s tax cut proposals would reduce Government revenues by $11.1b over four years, with at least half of that going to the top 10% of earners and landlords. However, National denies this, saying it has yet to release all the details, although it has promised to repeal the taxes valued at $11.1b.

Elsewhere in the news this morning:

National Finance Spokesperson Nicola Willis has launched a direct attack on Reserve Bank Governor Adrian Orr, CoreLogic has looked at forecasts of an 18% fall in house prices and US President Joe Biden is threatening oil companies with a windfall profits tax.

In Aotearoa’s political economy

Aspirational for the top 10% - CTU Economist Craig Renney published an analysis this morning of how big National’s proposed tax cuts would be and who would get them. He estimated total tax cuts of $11.1b over four years through higher income tax thresholds, the removal of the new 39c rate and various reductions to new taxes on landlords. He estimated the top 10% of income earners would receive almost half of the $8.5b worth of PAYE income tax cuts, while the bottom half of taxpayers would get just 6%. Landlords would receive a further $2.5b.

“It’s hard to understand why in a cost-of-living crisis that disproportionately harms the poorest,  you would design a package that is so heavily skewed to those who need it the least. More than half of taxpayers would receive either $2 a week or nothing at all.” CTU Economist Craig Renney in his analysis.

Here’s a summary of that analysis in table form, and the distribution of the benefits from the PAYE tax cuts below in bar chart form:

Yeah…Definitely Nah - National Finance Spokeswoman Nicola Willis was quoted as rejecting the analysis, saying National had yet to release the exact detail of its policies. She also questioned Renney’s motivations, given his previous job as an adviser to Finance Minister Grant Robertson.

‘And there’s this too’ - Elsewhere, Willis said Te Pūtea Matua (RBNZ) Governor Adrian Orr may have breached the Reserve Bank’s charter by giving a public speech on September 30 after receiving briefing papers on September 29 for a Monetary Policy Committee decision on October 5, but Reserve Bank officials said there had been no breach as Orr hadn’t read the papers before speaking, given he had been offsite during the previous day, the NZ Herald-$$$’s Thomas Coughlan reported this morning. Here’s Christopher Luxon this morning on Newshub as well.

Nearly there - CoreLogic released its estimates of house values in October, saying its House Price Index was down 0.6% in October from a year ago and has fallen 4.5% over the last three months. That was more than the previous record quarterly fall of 4.4% seen by the end of August 2008. CoreLogic included commentary about an assumed 18% fall in nationwide prices from the peak late last year. It noted Wellington values were already down 13% on an annual basis, including a 16.8% fall in Lower Hutt.

“All banks have revised their house price forecasts down in the wake of the latest data and if we assume an -18% fall from peak-to-trough, that would take the average price to $855,000, still a lot higher than March 2020. The average value prior to the pandemic hitting our shores in Feb 2020 was $723,000. To get back to that value would necessitate a -31% fall – not something anyone is forecasting, yet.” CoreLogic Head of Research Nick Goodall in his October report.

Just briefly:

Dozens of communities at risk of floods - RNZ

Parker’s Tax Principles Bill may slip past election - Stuff

In geo-politics, the global economy, business and markets

Slow runner - The Reserve Bank of Australia hiked its official cash rate for a seventh consecutive time yesterday afternoon, but looks to have finished the most aggressive part of its tightening. It lifted its rate by 25 basis points to 2.85%, as most economists had expected, despite hotter-than-expected inflation figures last week and despite the central bank increasing its forecast peak for inflation to 8%. Economists and the markets now expect Australia’s rate to rise to a peak of just below 4% late next year.

Ahead of the pack - These slower Australian rate hikes mean Te Pūtea Matua (RBNZ), which started sooner than other central banks, is now well ahead and still racing. Our OCR is already at 3.5% and is expected to be increased as much as 75 basis points to 4.25%, which is its last opportunity this year for a change. Economists here also expect our peak to go towards or even over 5%, well ahead of Australia on 4%.

Losing in translation - Britain’s Security Minister Tom Tugendhat said overnight Britain planned to close over 100 Confucius Institutes, which have been accused of being vehicles for China’s political influence programmes overseas, and are seen by new UK PM Rishi Sunak as a security risk.

Windfall profits tax - The British government should impose a windfall profits tax to help reduce its fiscal deficit, former Bank of England Deputy Governor Charlie Bean said overnight. Bloomberg

Just briefly

Biden set to threaten oil majors with windfall profits tax - White House Press Office via Twitter.

Musk considering charging US$8/month for Twitter’s blue tick WSJ

China moves Covid lockdowns to ‘stealth mode’ - Bloomberg

Russia orders wider evacuation of southern Ukraine - Reuters

Quote of the day

British political life

“They’re already coming for me, Kwasi.” Former UK PM Liz Truss, in tears on Oct 14, as she was about to sack her long-time friend Kwasi Kwarteng, as the Sun reported in a blow-by-blow account of her final days.

Chart of the day

Fiat currency creators like gold

Scoop of the day elsewhere

Profundities, curiousities, spookies and feel goods

Useful longer reads and watches

The Craic

Fun things

Ka kite ano

Bernard

This is a public episode. If you'd like to discuss this with other subscribers or get access to bonus episodes, visit thekaka.substack.com/subscribe

TLDR: Briefly, for an hour or two yesterday, the Labour Government looked to have been given an off ramp to abandon Three Waters for a much less politically divisive alternative that would have allowed for more investment in and consolidation of water assets, but without the compulsory co-governance or councils losing control.

Instead, Prime Minister Jacinda Ardern and Local Government Minister Nanaia Mahuta drove right on past, smiling and waving politely, seemingly unable to disconnect the self-driving software built for them by the policy wonks at Treasury and the Department of Internal Affairs, and powered by Labour’s Māori caucus.

Surprisingly for a median-vote-hugging group that usually course-corrects with the help of focus groups and polling, the sixth Labour Government has decided to barrel on and to hope the anti-centralisation and anti-co-governance backlash from the regions has subsided before next year’s elections.

In my view, ignoring the alternative for a much-less-disruptive set of reforms will cement in the loss of provincial and suburban votes that fueled the ‘red wave’ of 2020. Ardern and Mahuta may yet execute a big U-turn to take the off-ramp, but yesterday, the ladies were not for turning.

Paying subscribers saw and heard more analysis and detail on the Three Waters alternative below the fold here and in the podcast above earlier. The audio includes my questions and answers to the PM and Nanaia Mahuta in last night’s post-cabinet news conference. This article is updated with a full podcast, including my commentary for all to see, hear and share. Many thanks to paying subscribers for permission.

Three Waters plan effectively rejected by PM within hours

The new mayors of Auckland and Christchurch yesterday proposed an alternative to the four water entities being created under Three Waters, but it was all but rejected within hours by a Government that sees no alternative to complete ‘balance sheet separation’ and co-governance for all water assets.

The mayors’ alternative plan put forward yesterday afternoon would see councils retain ownership of water assets and not have to adopt co-governance with iwi, but would have access to Government investment and Government-guaranteed loans. Any consolidation and form of co-governance would be driven and decided by councils, rather than legislation.

Here’s the difference in how it could look, with the current Three Waters map first, and the suggested alternative below that.

The idea launched by Auckland Mayor Wayne Brown and Christchurch Mayor Phil Mauger was also backed by Waimakariri Council Mayor Dan Gordon and was put out for other councils to consider.

Here’s the key details:

* the creation of Regional Water Organisations (RWOs) that couldn’t be sold outside local authority ownership and would be directly controlled by councils in their region, without the need for an intervening committee, as proposed under Three Waters;

* the RWOs would have access to investment capital through a new Water Infrastructure Fund (WIF), administered by the Government’s Crown Infrastructure Partners (CIP), which funded the ultra-fast broadband rollout;

* CIP would act as the lead facilitator of financing and investment and could manage the balance sheet risk at the national level;

* the RWOs would form their own co-governance arrangements at regional level, if opted for by councils, rather than being made compulsory from the centre;

* the RWOs would be subject to regulation by the already-created regulator Taumata Aromai; and,

* smaller rural schemes not in RWOs would be able to apply for capital subsidies via the Water Infrastructure Fund, the Ministry for the Environment and Te Whatu Ora.

The Mayors said the election results effectively gave them a mandate to argue for another alternative and that the promises by the Opposition to repeal Three Waters undermined certainty for everyone in the long run.

“Everyone agrees tens of billions of dollars need to be invested over several decades to upgrade New Zealand’s freshwater, storm-water and waste-water infrastructure – and that requires maximum political consensus to deliver policy stability.

“As a nation, we need to find a way move forward in a positive and consensus manner - and stop the ugly and angry Three Waters debate that is dividing our county.” Mayors Brown, Mauger and Gordon in a statement.

Here’s their full news conference:

‘Talk to a very empathetic and smiley hand’

But any hopes the proposal might be a useful off ramp for the Government lasted barely 90 minutes before Prime Minister Jacinda Ardern and Local Government Minister Nanaia Mahuta politely ruled out any alternative that did not include ‘balance sheet separation’ and the ‘economies of scale’ of the four entities. Ardern said ‘balance sheet separation’ was a bottom line for the Government, which is currently driving Three Waters legislation through the consultation process in select committee.

Ardern told her weekly post-Cabinet news conference the Government’s bottom line was there would have to be balance sheet separation and economies of scale to get the benefits needed to avoid the higher rates and water bills projected with the status quo. (Hear more above in the podcast or see the exchanges in the video below)

Ardern and Mahuta were asked what they thought of the Mayors’ proposal in last night’s post-Cabinet news conference.

“We're at a juncture now where we've been receiving public feedback. And of course, we've said we're open to making refinements and changes that improve the reforms here that are just so necessary.

“But our bottom line is, we don't want to change those matters, which are focused on keeping cost of living in check. Without reform, ratepayers will see increases in their water bills. So we don't want to change the fundamentals of these reforms that are designed to make sure we don't see escalating bills.” PM Jacinda Ardern.

The video above is lined up to the beginning of the exchange, which includes RNZ’s Jane Patterson asking if the Mayors’ proposal to keep the assets and not make co-governance compulsory meant it did not comply with the Government’s bottom lines.

“Correct. That is key,” Jacinda Ardern said in reply.

The PM then followed up with this:

“But, look, I don't want to shut down what is, I think, in good faith, an offer here for us to keep working together, because I think the Mayors do have a focus on making sure that their rate payers don't experience that spike in cost of living. We've got the same focus, so let's see how we can keep working together.” Ardern.

Challenged again on whether the proposed plan breached her bottom lines, she said:

“We'd both rather not traverse a negotiation in this manner, but actually talk directly. But so long as, at its heart, we are all focused on making sure rate payers don't experience those large projected increases, we have common ground.” Ardern.

I then challenged the PM on how open the negotiation would be given she had just ruled out the basic structure of the Mayoral plan.

“Bernard, they’ve made a range of suggestions, and they’ve made them in good faith, and I’d rather us just have conversations with the Mayors directly, rather than traversing it here about their proposals.” Ardern

‘Just wait for the select committee report’

Both Ardern and Mahuta pointed to the ongoing select committee process, which is expected to produce a report to Parliament next week with any changes after the committee stage. If any changes are planned, this is where they would be made.

So what’s actually going on here? Why is the Government persisting with a policy that clearly is not supported by the bulk of councils and became the subject of a ‘backlash’ referendum in council elections this month. With Labour around 10 percentage points behind National in the polls and on track to be replaced outright by National and ACT late next year, it’s somewhat surprising the Government has yet to throw Three Waters under the bus and move on.

The dirty little secret of infrastructure financing is that it’s in the interest of residential land owners and the politicians who need their votes to do nothing to fix our infrastructure deficits.

Both the Mayors and the Government knows there is a real problem to solve. There is at least $100b worth of infrastructure under-funding built into our system from the last 30 years, before another $100b needs to be spent over the next 30 years to handle a population growth rate projected to be less than half what the 1.6% growth we actually saw over the last decade.

Water infrastructure is a crucial part of this. Without the pipes, there are no houses or roads or railways or offices or factories built. The Three Waters process has estimated up to $185b has to be invested over the coming 30-40 years to both fix existing infrastructure, handle fresh population growth and improve the quality of our drinking water, storm water and waste water.

The Government is currently planning $61.9b of infrastructure spending, which does not nearly fill the $200b hole already identified by the Infrastructure Commission. The investment is also needed to kick-start the housing and public transport investments needed to have any hope of solving our housing unaffordability, climate change inaction and child poverty problems. See more on that here in my analysis earlier this month about infrastructure and population.

Why Three Waters matters so much

Three Waters was the Government’s solution to this problem in a way it hoped satisfied the major constraint that both parties have effectively agreed to for the last 30 years. Both believe central Government taxes should be limited to around 30% of GDP and debt should be limited to 20-30% of GDP over the long run. That effectively means neither Labour nor National Governments can significantly increase taxes or create new taxes that generate net extra revenue, or use the Crown’s balance sheet, to borrow for a sustained and permanent increase in public investment in infrastructure.

Any party advocating for higher taxes and debt would get slaughtered by the other, so the status quo remains, although it is also a very lucrative policy for the median voters that both parties need to govern. That’s because these voters largely own standalone homes in suburban and provincial areas and have made $1t of tax-free and leveraged capital gains on their residential land values in the last 30 years. That, in turn, is largely because this infrastructure inaction and dysfunction between central and local Government has limited the land available for new housing.

Extra demand in the form of a higher population and lower interest rates turned into spectacular gains in land prices because land supply for new housing stagnated or was reduce. Any increase in Government debt or increase in taxes would increase interest rates (and therefore reduce land values) and/or reduce disposable income available for leveraging up into ever larger mortgages.

So voting to block new taxes and/or debt to stop infrastructure keeping up with population growth has been very profitable for land-owning voters and the politicians who need them. Meanwhile, old renters and their kids, are toast. All they can dream of is a ticket to a higher paid job, cheaper housing costs and a better life in Australia, albeit as a second-class citizen who pays full taxes but gets second-class benefits.

The (very) dirty (not so) little secret of our infrastructure mess

The dirty little secret of infrastructure financing is that it’s in the interest of residential land owners and the politicians who need their votes to do nothing to fix our infrastructure deficits. It’s also in their interests not to plan for population growth, and/or unleash massive population growth that is further stretches supplies of land available for housing. It’s the perfect combination when you realise your pathway to a comfortable retirement and leveraging up plenty of equity to help your kids into housing is to ensure no new land is available, migration is strong, taxes stay low and interest rates stay low.

Under our political economy’s dual 30/30 constraints on tax and debt, any large new infrastructure has to be funded privately through private debt or private equity, or at least far enough away from Crown and/or council balance sheets to avoid putting Aotearoa-NZ’s AA+ sovereign credit rating at risk. This is the whole point of Three Waters. It shifts the council-owned assets into new balance sheets that are also separate from the Crown’s, which would then be able to borrow against streams of water charge revenues unconstrained by politicians trying to avoid ratepayer revolts against water meters, water charges and higher council debt.

Three Waters was a way to allow ‘someone’ to borrow and apply water charges without having to get specific permission from either general election voters or council voters for higher charges, taxes and debt.

Unfortunately for the Government, the debate got meshed up with schemozzle about co-governance, which I think is a red herring. Anyone deeply involved in local Government, infrastructure and resource management and who understands co-governance has no great fear of it. For example, former National Treaty Minister Chris Finlayson thinks co-governance should be embraced, not feared. E Tangata.

But is Three Waters actually the best idea?

The debates around the actual merits of Three Waters as a vehicle for doing the necessary investment should be shorn of co-governance and judged on the cost, the logistical viability and the political sustainability of it. The off-balance-sheet structure adds hundreds of millions of costs in the form of higher borrowing margins and undermines its long-run politicial sustainability because it is at least a couple of arms lengths away from both sets of voters.

As soon as National and ACT said they would repeal it, Three Waters was in trouble. As soon as many of the councils said they were opposed, and the biggest ones were luke-warm, it was in deeper trouble. The local election results should have been the nail in its political coffin. But that hasn’t been the case yet.

‘But we’ve done what you want. What’s your problem now?

The latest counter-proposal from Auckland and Christchurch appears to have called the Government’s bluff. It addresses the investment financing issue, but still allows local control and does not force centralised co-governance. The PM’s dismissal-with-a-smile appears to have dug the Government even deeper into its mess.

If only it had been up front about what it wanted to do to start with, which was to unleash the infrastructure investment needed to underwrite housing growth for decades, then it would be in a stronger position. Then we would have had a proper debate about what amount of population growth we want, what level of taxes and debt we’d need to properly underpin that growth, and what type of direct governance we wanted. But that would have involved challenging and then changing the underlying shibboleth of the last 30 years: the 30/30 rule designed in an era of stagnant population growth to perma-starve the beast of Government

The bottom line: The Government has strapped itself to the Three Waters ship and can’t seem to untie itself from the orthodoxy hard-wired into it by Treasury and DIA. A captured Government is going to stay well under the water in the polls well while it holds on to Three Waters. The Opposition are now licking their lips, although they too will have to come up with their own solution before next year’s election.

We await next week’s (after Nov 11) select committee report with bated breath, but only for tweaks. It’s now unlikely there will be the wholesale change of approach demanded by our infrastructure needs and the inter-generational politics that will eventually come home to roost.

Here’s an interview I did this morning on TVNZ’s Breakfast programme with Water NZ Gillian Blythe on the proposed alternative and the political economy around that.

Banks pass super-stress tests with flying colours

‘No worries’ - Te Pūtea Matua (RBNZ) published results this morning of bank stress tests modelling a 47% fall in house prices, an unemployment rate rising to 9.3% and mortgage rates as high as 8.4%. It found the banks’ capital ratios only fell by 3.3 percentage points to 8.9%, almost double the regulatory minimum.

‘Seriously. No worries. Not even with a cyber-attack too’ - The stress tests found that even though they would have to book $6.81b worth of losses on their mortgage books and $20.85b of losses overall over four years, they would only be loss-making in one of those years and still book collective profits of $5.45b over the four years modelled.

The stress test threw in a 1-in-25 year cyber ‘event’ costing $1.3b and the banks still passed with flying colours. That result of only being barely unprofitable in one year also assumed the banks still paid their parents’ dividends and still paid taxes.

Reserve Bank Stress Test results for 2022 - Briefing Paper

So what? - This is the ultimate riposte to anyone who might say that the housing market and the economy is so indebted and the banking system so vulnerable to a housing market bust that such a bust would bring down the banking system. It’s not even close.

The bottom line: The banks have become so profitable that even the most gi-normous of shocks could not shake them. It’s either a good thing, if you main aim is a stable banking system. Or the banks make too much profit in normal times. If they made lower profits and reinvested their dividends in their capital buffers they would

Ka kite ano

Bernard

Elsewhere in the news yesterday, overnight and this morning here and overseas:

Blitzed it - Our banking system passed a Reserve Bank stress test released yesterday with flying colours, even though it assumed a toxic combination of unemployment at 9.3%, a 47% house price collapse and 8%-plus mortgage rates (see more below);

‘We’re sailing anyway’ - Ukraine said overnight 12 grain-exporting ships would sail through the Black Sea today, in defiance of Russia’s decision to reimpose its blockade on shipments and creating a risk of more direct clashes between the UN-authorised backers of Ukraine and Russian warships;

The wrong sort of record - The pressure remains on the European Central Bank to keep hiking interest rates after the Euro zone’s inflation hit a record-high annual rate of 10.7% in October, which was above September’s 9.9% and the 9.8% consensus forecast;

Economic chills - In another sign China’s economy is slowing under the weight of ongoing Covid lockdowns and an imploding apartment development sector, it reported its official manufacturing sector purchasing managers’ index was 49.2 in October, below the 50-point threshold separating contraction from expansion, and below economists’ forecasts for about 50.0; Reuters

B-52s to roam to Australia - The United States and Australia have agreed to station six nuclear-capable US B-52s in a fresh display aimed at deterring China, ABC’s Four Corners reported, and which China reacted badly to (see Quote of the day below); Reuters

This is a public episode. If you'd like to discuss this with other subscribers or get access to bonus episodes, visit thekaka.substack.com/subscribe

TLDR: This week in geo-politics, the global economy and Aotearoa’s political economy, we learned:

* China is retreating further into itself under a now completely dominant Xi Jinping;

* global investors think central banks are about to do a ‘dovish pivot’ on interest rates;

* but Adrian Orr isn’t ready to pivot yet and wants unemployment to rise first;

* our Employment Court ruled Uber drivers are employees and the Fair Pay Act passed;

* ANZ reported record profits and its economists forecast a 27% fall in real house prices; and,

* The UN forecast current climate policies would warm the planet by 2.8 degrees celcius by 2100.

What was in this week’s ‘Hoon’

In this week’s ‘Hoon’ live webinar for paying subscribers on Friday at 5pm that is in recorded podcast form above, co-host Peter Bale and myself talked with special guests Robert Patman from the University of Otago and Jason Young from Victoria University of Wellington about:

* Vladimir Putin’s unproven allegations Ukraine is planning to set off a dirty bomb and the latest signs his henchman in Russia are unhappy and organising against him;

* America and NATO’s continued solidarity behind Ukraine despite the occasional waverings of both some Republicans and Democrats ahead of key mid-term elections on Nov 8;

* President (for life) Xi Jinping’s clean-out of the rest of his rivals and any remaining ‘opening up and reforming’ influencers from China’s top leadership groups at last weekend’s five-yearly Party Congress, which further spooked international investors who should have known better; and,

* Why US moves to block exports of computer chip technology to China are so important.

Separately, Peter and I talked about:

* the unfairness of the Reserve Bank’s aggressive rate-hikes on covid’s losers, and how the Government itself could help to reduce inflation by cutting GST and other fees and levies;

* the Future of Local Government Review’s draft proposals to change council finances and governance, including ideas to lower the voting age, create four-year terms and create a co-investment fund; and,

* What Elon Musk’s takeover of Twitter might means and why Facebook’s valuation crash shows markets sometimes do better work than regulators.

What was on The Kākā this week

For examples of how I covered these issues for paying subscribers this week, here’s my deeper dive analyses of:

* the fairness of the Reserve Bank’s fast rate hikes in Friday’s email and podcast;

* the early signs of easing inflation pressures in Thursday’s email and podcast; and,

* how global investors and traders are positioning for a ‘dovish pivot’ by central banks later this year in Tuesday’s email and podcast.

Other places I spread my journalism this week

A discussion about the economy on TV3’s The Nation on Saturday

Scoops this week elsewhere

Useful longer reads, listens & watches elsewhere

Charts of the week

Right back to where we started from?

ANZ’s economists this week increased their forecast fall in house prices from the peak in November to a trough next year to 18% in nominal terms from 15% previously. It also forecast a wage-inflation adjusted 27% fall in real house prices back to pre-covid levels.

A good year for the bankers

ANZ reported its profit in the six months to September 30 rose 9.6% to $920m from the previous six months because of rising net interest profit margins as the Reserve Bank hiked interest rates and because it grew mortgage lending sharply in 2020 and 2021.

We’re doing nowhere near enough

The UN Environment Programme reported this week that that planet was on track to warm by a disastrous 2.8 degrees by 2100 with current policies.

Profundities, curiosities, spookies and feel-goods this week

Mā te wā

Bernard

This is a public episode. If you'd like to discuss this with other subscribers or get access to bonus episodes, visit thekaka.substack.com/subscribe

TLDR: Te Pūtea Matua (Reserve Bank) Governor Adrian Orr has argued the central bank needs to increase joblessness to control inflation, which is seen as meaning the RBNZ looks set to hike hard again next month, possibly by as much as 75 basis points to 4.25%.

Understandably, Orr is using the only monetary policy tool he has (interest rates) and is only restating the economic orthodoxy of the home-grown Phillips Curve relationship that shows the trade-off between falling inflation and rising unemployment.

It may work, but is that fair on the most vulnerable in our society? And does the central bank still have the social license to demand the public’s trust again after its over-loosening in 2020 and 2021 made asset owners dramatically richer and the resulting inflation shock thumped low-income renters with lower real disposable income.

This all came to a head again yesterday when Orr gave a speech highlighting higher unemployment was necessary to fight inflation, on the same day ANZ reported record profits because of both the higher interest rates the Reserve Bank is imposing and because of the surge in cheap mortgages used during Covid to create the wealth effect needed to rescue the economy.

Is it fair that low-income renters will be punished again, while the beneficiaries of a central bank policy mistake win again big time because of the way the central bank is fixing its mistake? Is it still appropriate for a Government body run independently of voters’ representatives to still make these sorts of big redistributive and social calls?

Paying subscribers were able to see and hear more in my commentary below the paywall fold (here) and in the podcast above first. They voted below to open this one up to the public fully (here).

Is the RBNZ's fast tightening fair to covid's losers?

It was the best of times (again) for some. It was also the worst of times (again) for others. But the net result is the same. Covid’s winners are mostly winning again and Covid’s losers are being punished again for the sins of the winners.

Aotearoa’s ongoing and fastest monetary policy tightening in a generation is throwing up all sorts of questions about the fairness of how monetary policy is operated in an economy that is now barely more than the world’s most expensive housing market with bits tacked on, and whether our central bank still has our societal agreement to do what it’s doing.

One thing we do know is that both the massive loosening in 2020 and early 2021 and now the fast tightening in 2022 has been the best of times for banks.

They are profiting now from all the extra mortgage lending they were encouraged to do by the Reserve Bank in 2020 and 2021, and from the higher interest rates the central bank created in 2022, which have lifted their profit margins. They’re also profiting because the aggressive rescue in 2020 stopped bad debts from increasing.

That is crystal clear in the latest bank profit results.

Happy days for the big four, and especially the biggest one

ANZ reported a record annual profit yesterday of $2.3b, up 20% from a year ago because it benefited from the higher interest rates the Reserve Bank is now cranking into the economy, and because of the extra $14b of home loans it made since Covid (over a time ANZ lent less to businesses and farmers and shed staff). Adjusted for the risk weightings of its loans and in outright terms, ANZ’s profit margins hit record highs and were higher than ANZ’s fellow divisions in Australia.

What the biggest bank does in a housing market with bits tacked on

ANZ’s strong performance as Aotearoa’s biggest bank is a reflection of how our economy is now completely dominated and driven by lending into the housing market, and how the incentives for savers and bankers are lined up to double down in the hunt for leveraged tax-free capital gains on land price appreciation, and to avoid investing in businesses, technology, training or infrastructure that doesn’t have access to that same leverage or those same tax advantages.

Here’s the detail in these two charts of how ANZ’s mortgage lending grew $8.8b in the last 18 months (first chart), while non-property business lending was flat and farm lending fell by $1.1b. The shift was even more pronounced in the last year (chart below), with home lending rising by $6b to over $100b for the first time in the year to September 30, while business lending fell by $2b.

ANZ’s mortgage book has risen from 61% of total loans just before Covid to 74.9% by the end of September. Our largest bank effectively became the biggest weapon in the Reserve Bank’s ‘wealth effect’ arsenal. In the process of rescuing Aotearoa’s economy from Covid, our independent central bank helped make 1.1m home-owning households $550b richer and has almost doubled the profits of our biggest banks to almost $7b per year.

Why bank profits rise when interest rates rise

The key detail for any banker is that rising interest rates allow banks to increase their profit margins on lending. This is partly due to banks interest margins tending to rise when short term interest rates are rising, as this June 2020 paper “Does Monetary Policy Influence the Profitability of Banks in New Zealand?” from the University of Waikato found.

KPMG’s industry-wide analysis from the June quarter, which included all the bank results, shows this too. The profit results are quarterly.

ANZ made the rising net interest margin clear in its explanation of its higher cash profits in the second half from the first half.

ANZ even included a slide in its group result showing how higher interest rates from monetary policy boost profits from net interest income (NII).

Now it’s time to fix the mistake. But who should pay?

It’s been a great year for the banks, but it’s been a bad year for the Reserve Bank itself, and for those low-income renters who saw prices of the things they spend all their disposable income on rise faster than their wages, including rents.

Asset owners, meanwhile, have seen their nominal asset values and the real value of their savings fall this year, but the hits to their spare disposable income and financial positions was relatively much less painful. They have buffers and savings to fall back on and they’re still sitting on net worth of $2.35t as at the end of June, up by $550b since Covid. Those who may have lost work and income during Covid and did not get the wage subsidy cash kept by their employers are on their own fighting consumer price inflation, without the buffers of savings or other assets.

The Reserve Bank has yet to acknowledge it publicly, but it over-stimulated the housing market and the economy in 2020 and 2021 by printing $55b to buy Government bonds to lower longer term mortgage rates and removed high LVR borrowing restrictions. That powered a 45% rise in house prices in 18 months and wiped out another generation’s hopes of home ownership. That monetary policy response, along with $20b worth of cash handouts to business owners that they banked, helped fire up inflation in 2021 and 2022 to over 7%.

To be fair, the Reserve Bank realised it had over-cooked the economy earlier than other central banks, stopping its money printing in mid-2021 and starting rate hikes in October 2021. It also reimposed and then toughened the LVR rules late last year, which finally put out the fire.

However, until now, it has defended its decisions and issued research, along with Treasury, that fudged on whether there was any inter-generational or inequality effects of its actions in 2020 and 2021.

Adrian Orr says unemployment will have to rise

The need to rectify the mistake was clear, without using the ‘M’ word, in a speech Governor Adrian Orr gave yesterday at an INFINZ conference, in which he detailed how more unemployment was needed, and that its ongoing reviews of monetary policy would acknowledge its mistakes.

He described how the central bank was actively looking to slow domestic spending to constrain inflation.

This means employment prospects will be increasingly compromised, as people delay their spending and investment decisions.

The trade-off of the long-run benefits of low and stable inflation versus near-term spending and employment is being confronted in virtually every country simultaneously.

New Zealand is relatively well positioned but inflation is still too high in an absolute sense. Adrian Orr in a speech.

He said the themes talked about recent IMF meetings in Washington DC were familiar. He pointed in particular to the need for higher unemployment and the risk of a financial markets accident further complicating the outlook. Here’s his summary (bolding mine)

The list of near-term pressures goes something like:

Returning to low inflation will, in the near-term, constrain employment growth and lead to a rise in unemployment. The actual extent of this trade-off remains unclear however, given the significant labour shortages globally and the very different means of employment being adopted post-COVID. Importantly, it is highly unlikely that we are at maximum sustainable employment if inflation is still high and variable. 

Rising nominal interest rates globally are, and will continue to, test the resilience of the financial system and all economic participants. The financial system is complex, making it hard to pinpoint what, if any, particular achilles heel exists in real time.

All we know is that the financial system has experienced many legal, operational, financial and/or reputational problems in the past – few of which were predictable in timing or scale. Most recently, for example, in the UK we saw liquidity issues rapidly escalate in their pension-investment industry as an unintended consequence of fiscal policy announcements. Adrian Orr  

Orr has argued since the onset of Covid that the best thing the central bank could do was to take a ‘least regrets’ approach to stimulating the economy, given preserving employment would reduce the harm for low-income people by the most relatively.

However, the inflation outbreak has hurt those in low-paid and precarious work the most, particularly when they are renters with little spare disposable income, unlike asset owners.

Inflation hits spare disposable income the hardest

It has been a very bad year for low-income workers and beneficiaries who rent and were stung with much higher living costs relative to their incomes this year, and who got no benefit from the ‘wealth effect’ created by the Reserve Bank to stimulate the economy in 2020 and 2021.

So how could the Government and Reserve Bank do things differently so that the beneficiaries of rectifying the mistake are those hit hardest during Covid, rather than those who did best?

The Government has various tools at its disposable that would both reduce inflation immediately and take pressure off both those who are renting on low incomes and have little spare disposable income, and the Reserve Bank itself, which is stuck with its blunt instruments of its Official Cash Rate and reversing the ‘wealth effect’ via the housing market. In my view, they could include a windfall profits tax on banks, as has been done in Australia, which would help pay for:

* immediate cash benefit increases and Working For Families increases for both those working and out of work;

* temporarily reducing the rate of GST overall and/or reducing GST on food;

* removing or rebating GST on council rates and paying rates on Crown land (current the Government does not pay) in exchange for rates decreases, along with rebating GST on building materials and building services to councils; and,

* cutting public transport and other Government fees that hit the poorest and youngest hardest, including drivers’ licence testing, student fees and doctors fees.

In summary then: the Reserve Bank over-stimulated our economy in 2020 and 2021 by encouraging banks to pump extra debt into our economy (in particular our housing market with bits tacked on). Now it is having to increase interest rates to control the inflation it encouraged, which is in turn is inflating bank profits at a time the Reserve Bank says more people will have to lose their jobs to solve the inflation problem. Meanwhile, the low-income renters who are bearing the most inflation pain and got none of its asset-inflation gain, are set to bear the most pain again as the Reserve Bank tries to create more unemployment.

That’s the news: The Reserve Bank said more people would have to lose their jobs because it had no choice but to reduce the inflation it created and which made homeowners and banks hundreds of billions of dollars to stimulate the economy during Covid. It said this on the same day the single biggest beneficiary of the inflationary spike reported it’s making $6m in profit per day.

Dumb question: So why isn’t there a bank profits windfall tax to soften the blow to come of rising unemployment and higher living costs for those who don’t own homes or bank shares? And why isn’t the Government using its own tools to reduce inflation from fees, taxes and charges, along with reducing living costs for the poorest?

Should this be public?

Elsewhere in the news overseas and here overnight and this morning:

* US economic growth data was stronger than expected, but in a ‘Goldilocks’ sort of way that allowed investors to continue believing the Fed will have to abandon its fast rate hikes ‘dovish pivot’ now expected later this year as the world’s biggest economy slides into recession;

* The European Central Bank doubled its key interest rate to 1.5% overnight, but its comments about future rate hikes and more cautious Quantitative Tightening (reversing money printing) reinforced the wishful thinking of those in financial markets who see a ‘dovish pivot’ coming as Europe’s economy dives even deeper into recession;

* The UN Environment Programme said overnight climate pledges were woefully inadequate and put the world on track for a temperature rise of between 2.4C and 2.6C by 2100; and,

* Russia’s ambassador to the UK said overnight Russia was not going to use nuclear weapons as Vladimir Putin appeared to soften his rhetoric by calling for fresh negotiations ‘between equals’ to end the war it started in Ukraine.

Coming up later today…

Finally…a draft - The Review into the Future of Local Government governance and financing is set to release its twice-delayed draft report later today on its website here. I’ll be attending a briefing and will update paying subscribers with the initial news and my analysis in the chat on the Substack App.

Also today, I’ll invite paying subscribers to my Ask Me Anything question and answer session on Substack at midday for an hour and The Kākā’s weekly ‘Hoon’ webinar with co-host Peter Bale at 5pm today for an hour.

And later tonight…the Bank of Japan is expected to leave its Yield Curve Control policy (money printing to buy Japanese Government bonds to keep its long term bond yields around 0.0% and below 0.25%) in place, but any change after six years to support a sagging yen could unleash global financial market turmoil. Inflation is now above the Bank’s 2% target.

And tomorrow morning…I’ll be appearing on the panel on TV3’s The Nation from 10.30 am from TV3’s Auckland studio.

In Aotearoa’s political economy

Off like Goff - In a surprise to no one, Foreign Affairs Minister Nanaia Mahuta announced former Auckland Mayor and former Labour Leader Phil Goff would be the next High Commissioner to the United Kingdom.

(Not) digging in the deep - Mahuta also announced Aotearoa would back a conditional moratorium on deep sea mining in areas beyond national jurisdiction.

Deputy Mayors - Laurie Foon and Desley Simpson were appointed Deputy Mayors respectively of Wellington and Auckland.

Sword attack - A 57-year old Coatesville woman was arrested after smashing the glass front door of Jacinda Ardern’s electorate office in Auckland with a sword.

In geo-politics, the global economy, business and markets

Head fake - Data out overnight showed US GDP bounced at an annualised rate of 2.6% in the September quarter, which was much better than the contractions of 0.6% and 1.6% reported respectively in the March and June quarters and better than expected. However, the number was driven mostly by weak consumer demand reducing imports and reducing the US trade deficit. The FT’s Colby Smith had this insight: “The most important proxy for underlying demand in the economy — final sales to domestic purchasers, excluding government spending — rose just 0.1%. That is down from 0.5% in the second quarter and 2.1%.”

Still recession bound - Most economists still see the US economy headed towards a recession by early next year because of the Fed’s tightening this year, which has been the fastest since 1979 and has seen 30 year mortgage rates jump from under 3% to over 7%. US house building and house prices are both now dropping fast.

Not so durable - The US Census Bureau reported overnight that durable goods orders rose 0.4% in September from August, which was less than the 0.6% consensus forecast. Orders for non-defence capital goods orders excluding aircraft, a closely watched measure of US business investment, fell 0.5%, which was the first monthly drop since February and well below the consensus forecast for a 0.5% rise.

So what? - The big question now is when the Fed pivots to slower tightening. It is expected to hike the Fed Funds rate another 75 basis points to a range of 3.75% to 4% next Thursday morning NZ Time (6am) and then signal a slowing in December and early 2023. Global markets saw the US GDP data reinforcing that ‘pivot’ narrative this morning. The US 2 year bond yield, a proxy for Fed Fund rate expectations, fell 9 basis points to 4.32% this morning and is down from a 15-year high of 4.61% last week.

The context - The key event in the last week was a Wall Street Journal piece by ‘Fed Whisperer’ journalist signalling a pivot from next month. The US 10 year yield, which sets the base for global interest rates and is closely watched here by fixed rate mortgage setters, fell decisively below 4% this morning. It fell 8 basis points to 3.92% this morning and is also well below last week’s 15-year high of 4.27%.

So really what? - This will take pressure off the big four banks here in Aotearoa to put up their best fixed mortgage rates by more in the next week before they see the whites of the Fed’s eyes, and we hear more comments from Adrian Orr next Wednesday.

We’ll see - A day before his takeover of Twitter is due to close, Elon Musk tweeted this to Twitter advertisers: “Twitter obviously cannot become a free-for-all hellscape where anything can be said with no consequences!” Having once tweeted that he hated advertising, he said he wanted Twitter to become the most respected advertising platform.

Double banger with a pivot - The European Central Bank doubled its key interest rate to 1.5% overnight, delivering a second consecutive 75 basis point ‘super-bazooka’ rate hike that was in line with market expectations and lifted rates back to 2009 levels. It said more hikes would be needed to shunt inflation lower. Euro zone inflation was 9.9% in September from a year ago. But ECB President Christine Lagarde appeared to soften her rhetoric about future rate hikes, saying the central bank was increasingly aware of the risk of a recession and its effects on the poor. Markets took this as another sign of a ‘dovish pivot’. The German two year bund yield fell 3 basis points to 1.97% overnight.

Climate failure - The UN Environment Programme said overnight climate pledges were woefully inadequate and put the world on track for a temperature rise of between 2.4C and 2.6C by 2100. The analysis of the targets announced by 194 countries, accounting for more than 90% of all greenhouse gases, found there was “no credible pathway to 1.5C in place.” “Global and national climate commitments are falling pitifully short,” said UN secretary-general António Guterres. “We are headed for a global catastrophe. The emissions gap is a byproduct of a commitments gap. A promises gap. An action gap.”

Faceplant - Shares in Meta, the parent of Facebook, fell 24% overnight to 2016 levels after it reported lower profits and lower ad revenue forecasts, which it blamed on a slowing global economy. The market value of Meta fell US$80b in a day to US$271b.

Charts of the day

European gas prices are down >60% from their late August peaks

Useful longer reads

Threads of the day

Spookies, curiosities, profundities and feel-goods

Fun things

Ka kite ano

Bernard

PS: Looking forward to seeing you all via the AMA and the Hoon later today.

This is a public episode. If you'd like to discuss this with other subscribers or get access to bonus episodes, visit thekaka.substack.com/subscribe

TLDR: This week in geo-politics, the global economy and our local political economy, our inflation was hotter than expected as profit margins rose, Xi Jinping doubled down on China’s zero Covid strategy, the Government loosened migration settings without a population plan or enough infrastructure, and Liz Truss resigned.

The podcast above is a recording of our weekly ‘hoon’ (plural for Kaka) webinar for paying subscribers, which co-host Peter Bale and myself regularly do on Fridays for an hour at 5pm. This week’s edition includes special guests Robert Patman, a Professor in International Relations at the University of Otago, and Kelvin Davidson, the Chief Property Economist at CoreLogic. We talked about:

* the chances of a Russian nuclear strike in Kherson this weekend;

* whether Russia might have cut undersea cables to Britain;

* why Iran sending drones to Russia is disturbing;

* how the faster-than-expected CPI inflation figures here on Tuesday led to mortgage rate increases and may cool a reheating housing market; and,

* what Christopher Luxon should learn from Liz Truss’ demise.

Here’s what I focused on this week

Ready fire aim - PM Jacinda Ardern denied the Government was flying blind on migration and hadn’t built enough infrastructure before removing its residency planning range and loosening visa settings (see my full analysis here from Tuesday);

It was the lettuce wot won it - UK PM Liz Truss resigned after 44 days in the job because global investors rejected her plans for unfunded tax cuts for the rich and an anti-climate approach, which offers lessons for Christopher Luxon here in my full analysis yesterday;

A profit-price spiral - Data on Tuesday showing CPI inflation in the September quarter of 7.2% from a year ago was higher than the 6.5% consensus forecast from economists, which I argued on Thursday is partly due to companies globally and here widening their profit margins because they have greater market power.

Some longer weekend reads

George Magnus is right on this. The Chip Choke is a very big deal.

Very worried Germans - Jeremy Stern’s piece in The Tablet this week about Germany’s fears about Russia and the winter is more than sobering. A chilling sample here:

“As many Germans see it, Ukraine’s dazzling advances do not leave Putin with the binary choice of accepting his own death and defeat or else embarking on Armageddon. He may instead be left with the potentially attractive option of deploying a tactical nuclear bomb to achieve a limited military objective in Ukraine, or of causing an “accident” at the Russian-occupied Zaporizhzhia nuclear plant and attempting to blame it on the Ukrainians. This would almost certainly trigger some sort of NATO attack on Russia—to which Germany would never, under any circumstances, ever agree. Berlin would instead lead a small dissenting bloc within NATO, including Hungary, refusing any use of its funds, communications, weapons, or territory. In other words, Germany would violate its treaty obligations—as Putin has likely judged.”

“NATO would thus officially break along the lines Putin knows it is already broken. The EU’s commitment to Ukraine would also fracture. The U.S.-German alliance would be no more. Even a small nuclear explosion would send markets crashing, and the German economy would grind to a halt. All of Europe would enter a depression more severe than anything Russia has experienced to date. It would no longer make sense to speak of “the West.” This, as much as reclaiming lost territories, would be Putin’s life’s work.” Jeremy Stern in The Tablet

Useful longer watches

Profundities, soberings and feel-goods

The Craic

Have a great weekend

Ka kite ano

Bernard

This is a public episode. If you'd like to discuss this with other subscribers or get access to bonus episodes, visit thekaka.substack.com/subscribe

TLDR: Liz Truss resigned as PM this morning after global investors forced her to abandon plans for unfunded tax cuts for the rich and to start fracking for gas under the British countryside.

Christopher Luxon should note how the global financial orthodoxy has moved away from trickle-down economics and is increasingly sceptical about Governments that shirk their international climate change commitments. It turns out global investors don’t want heavily indebted countries to further impoverish most of their workers to reward a small minority who have captured their Governments. And they don’t want them to stop or reverse action to address climate change.

Luxon still seems attached to the tax-cutting and climate-lite policies that are increasingly discredited by global capital pools. He denies the similarities with Truss’ disastrous pivot back to Thatcherite policies, but her demise in less time than it takes for a lettuce to dry up should be seen as a cautionary tale for the fundamentalists in the National caucus that Luxon appears drawn to.

Paying subscribers can see more detail and analysis below the paywall fold and in the podcast above. I’ll also be inviting paying subscribers to our weekly Ask Me Anything session on The Kākā at midday and our ‘hoon’ webinar at 5pm.

This time the bond vigilantes have a green tinge

Liz Truss was playing to her Conservative Party members and her wealthy backers when she promised them big tax cuts funded by borrowing and/or public spending cuts. Harking Back To The Future (1985) of Reagan-ite and Thatcher-ite thinking that tax cuts would speed up economic growth and make everyone richer, she had missed the actual research from the natural experiments of the last 30 years that showed those policies simply widened inequality, depressed investment, lowered productivity growth and destabilised social cohesion in democracies.

Others harking back to these trickle-down policies should take note, largely because the bond vigilantes of yesteryear are back with a vengeance, but this time they’re just as likely to be brandishing the United Nations Sustainable Development Goals and the Paris Agreement on climate change as a warning of a credit rating downgrade.

Fund managers looking after US$35 trillion in assets now class themselves as responsible investors, which means they avoid investments in and loans to companies and Governments “that systematically cause harm to the environment, society and the economy.”

Tax cuts for the wealthiest, welfare spending cuts that worsen poverty and policies that don’t reduce climate emissions are no longer part of the economic orthodoxy. They are anything but, as shown in repeated research and reports by the likes of the IMF, the World Bank and the OECD, in the last decade which showed the unreconstructed Reagan/Thatcher-era ideas about tax-cut-driven, trickle-down and supply-side economics simply didn’t work.

The straw that broke the camel’s back for Truss was a vote on fracking yesterday that turned into a vote of no confidence in the Government.

‘Growing the economy lifts everyone’ Really?

National and Opposition Leader Christopher Luxon’s first policy last year was an unfunded tax cut for the wealthiest, followed by promises to repeal taxes on landlords and home owners who are actually worth $2.34 trillion as at the end of September and were made $538 billion richer during Covid (even after the recent 12% fall in house prices and stock market slumps).

He has also promised to repeal a levy designed to reduce emissions from our largest source of emissions — farms — and his transport spokesman is an aggressive campaigner against mode shift and cycleways.

Luxon has also yet failed to say how the billions in tax cuts would be paid for and indicated earlier this week we would not find out until a month before next year’s election.

Luxon has also repeatedly argued tax cuts would grow the economy in a way that would ‘lift all boats’

“Growing our economy and raising productivity are the single biggest things we can do to improve the lives of all New Zealanders. And the National Government I will lead will be a government of action.

“We will bring the tide back in and lift all boats.” Luxon’s first speech as leader.

But his most detailed economic views were saved for a speech to the London-based thinktank, the Policy Exchange, which is video form below.

The Policy Exchange has been a promoter and supporter of the libertarian hard-right economic policies of Truss. This video from the day after the ill-fated mini-budget of September 23 gives you an idea of just how enthusiastic it is.

Luxon’s speech and Q&A to the London audience above was the one where he referred to businesses here as soft.

Luxon has also not used the same framing for tax cuts used in the ‘Big Switch’ engineered by John Key and Bill English in 2010, which was that the increase in GST and various income tax and Working For Families changes were distributionally neutral.

A tendency to play to his crowd and a tolerance for zealotry on economic and climate policies could trip up Luxon.

Elsewhere in the news to me this morning:

* US bond yields jumped 10 basis points to a 14-year high of 4.23% on fears the US Federal Reserve will have to shunt short term rates over 5% to control inflation;

* Boris Johnson is reported to be interested in bidding again to be UK PM to replace Liz Truss; and,

* Marlborough Lines has put Yealands Group up for sale fully to Australian investors.

What was news to me in Aotearoa yesterday

Mallard’s final suggestions on housing and monetary policy

Former Speaker Trevor Mallard’s valedictory speech in Parliament last night is worth watching, including for a couple of ideas he put up on housing and monetary policy.

We currently spend $4.7 billion dollars a year in family tax credits, in work tax credits and subsidies to landlords called the accommodation supplement.

We should use the strength of the one of the strongest crown balance sheets in the world and present value calculations to make available advance payments as we did for family benefit capitalisation for use as a partial deposit.

It would involve no extra cost to the crown in the medium term, a bit of belt tightening for new home owners – as is always the case – but enormous education, health and community benefit. The second order savings would be massive.

And now for the left field suggestion.

I’ve long been concerned that the Reserve Bank only has one instrument (other than printing money) to wind up or cool down the economy. With so many mortgages being fixed, the cash rate tool has become a bit like using a hammer to fine tune an EV. The results are both slow and unpredictable. An extra tool for the Reserve bank could be to give them discretion over say the last 2% of individuals Kiwisaver contributions.

They could increase or decrease net pay almost immediately and that way boost or tighten the economy- it would have much more immediate effect than interest rates.

And most of us would prefer to see a bit more of our incomes go into our Kiwisaver than to banks which put mortgage and loan rates up faster than petrol retailers and drop them just as slowly. Look at their profits. Trevor Mallard’s valedictory speech

Deck clearance - PM Jacinda Ardern announced that December 10 would be the day for the by-election for Hamilton West.

Yeah….nah… People in Aotearoa were slightly less worried about climate change in 2021 than they were in 2019, Gallup’s global risk survey for the Lloyds Register has found. The global survey of 125,000 people in 121 countries also included a survey of 1,000 people here in August 2021. Here’s the summary of the results from Aotearoa

It also found a slightly higher proportion felt less safe, but an even larger percentage felt more safe. Go figures…

It also found we thought transportation was the greatest source of risk in our daily lives.

Coal for power - Statistics NZ reported greenhouse gas emissions rose 1.7% or 320k/t in the March quarter from the September quarter, largely due to a 37% or 509k/g rise in emissions from the electricity, gas, waste and water production sector. This was due to up 37 percent (509 kilotonnes); manufacturing, up 2.8 percent (72 kilotonnes); and services excluding transport, postal, and warehousing, up 9.5 percent (62 kilotonnes).

Numbers of the day

9% - ASB’s economists forecast yesterday that their peak forecast for the Official Cash Rate of 5.25% early next year would see most fixed-rate mortgages peak within a 7.0% to 7.5% range over the year ahead, with floating rates peaking around 9%.

“Our base expectation is mortgage interest rates over the next decade ahead will be around or below the long-run averages of the past 20 years, rather than press to the higher levels seen prior to the Global Financial Crisis.” ASB Senior Economist Chris Tennent-Brown in ASB’s home loan rate report.

Quotes of the day

“I accept that I’ve never been a good politician.” Trevor Mallard

"I've had enough, I've had enough of talentless people putting their tick in the right box, not because it's in the national interest but because it's in their own personal interest to achieve ministerial position. And I know I speak for hundreds of backbenchers who right now are worrying for their constituents all the time but are now worrying for their own personal circumstances because there is nothing as ex as an ex-MP.

"A lot of my colleagues are wondering, as many of their constituents are wondering, how they are going to pay their mortgages if this comes to an end soon.

"I'm leaving Parliament at the next general election and I'm leaving voluntarily. But unless we get our act together and behave like grown-ups I'm afraid many hundreds of my colleagues, perhaps 200, will be leaving at the behest of their electorate." Conservative MP Charles Walker in an interview with BBC. The video is worth a watch.

HT to Peter Bale in his weekly world Bulletin.

Some useful longer reads

Some fun things

Ka kite ano

Bernard

PS: I look forward to seeing you all on the Ask Me Anything at midday and the weekly Hoon at 5pm. Here’s the link.

This is a public episode. If you'd like to discuss this with other subscribers or get access to bonus episodes, visit thekaka.substack.com/subscribe