David French | 23/08/2010 10:23:42 AM

This article was first published in The Morning Bulletin under the heading Whats Next dated 21 August 2010.

People are still smarting over the impact of the GFC. The media continues to expose raw nerves that really need to heal. Here’s what I think happens next.

Data from the USA suggests that the worst is behind that economy. Orders for capital goods are trending the right way, households are repairing their balance sheets, interest rates remain low, and the Government is unlikely to turn off the stimulus at anything other than a cautionary rate. Monthly and quarterly data might vary, but overall the trend is positive.

Australia performed better than the rest of the world through the GFC. This results from a combination of lots of stimulus (albeit misplaced) in a small economy, a rapid improvement in the mining industry, and an economy where interest rates, exchange rates, and fiscal policy (tax and social security) work together to provide automatic buffers against trouble.

The European crisis never got to crisis point. As interesting as partygoers find Portugal, Ireland Greece and Spain they are not significant in economic terms. Germany and France are a quantum bigger and are growing very strongly. Their premium exports are boosted by a weak Euro – driven down, not because of a crisis, but because the big institutions are selling out of the Euro and investing in places they believe offer better future growth prospects – like the USA and Asia.

Our local economy seems soft, although car dealers tell me that business is actually quite good. CQ’s economy appears to be very interest rate sensitive, and the rural sector is finding life difficult as banks run tighter lending criteria and restrict access to working capital for seed and restocking.

Looking forward, interest rates are unlikely to increase at a rapid rate. The cash rate of 4.5 per cent is not that far off the neutral rate (neither expansionary nor contractionary), and consumers and corporations are paying down debt and hording cash. According to an article in The Australian, there is now more cash being held in the CBA’s Martin Place vault than there was across all banks prior to the GFC. Hoarding cash lowers economic growth. Other things being equal this is not consistent with interest rates rising. If the expectation is that interest rates are not likely to rise much more, then money will begin to flow to other asset classes. The share-market will be the first to benefit.

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