Inflation battle tests the weakest links
‘Only when the tide goes out do you discover who’s been swimming naked,” sharemarket legend Warren Buffett once said. I hope I’m less prescient than Herald columnist Brian Fallow, who opened with that same line in August 2007. Fallow was writing about the credit crunch, an early warning sign of what eventually blew up into the 2008 Global Financial Crisis.
Buffet means that a high tide of cheap credit and bull market growth makes us all look good. When the tide goes out it exposes the reckless and unprepared.
The tide is now going out fast. So, crash, slump, correction or bust? Call it what you want, it is happening.
All the market noise is just the sound of central banks sucking cash out of the economy.
In 2008, when the global financial system froze, people complained that there was no warning.
This time the problem is that there have been so many warnings for so long that people stopped listening.
The credit crunch in 2007 and the market crash in 2008 were different to what we’d seen before.
The markets froze then as confidence evaporated in complex new debt derivative investments.
Central banks slashed interest rates and printed money to head off the total collapse of the system.
This time markets are faltering because central banks are hiking rates fast to beat inflation.
It’s actually a more traditional economic cycle. But it’s one we haven’t seen for decades because of the weirdness of the GFC.
The return to more normal pricing for debt should have happened years ago but recession risk kept delaying the rebalancing.
It was finally getting under way when the pandemic hit.
Faced with the threat of economic and social meltdown, central banks and governments everywhere prescribed the same stimulus medicine.
In hindsight the stimulus was overdone. Although I’d still rather have had it than not.
Those pointing the finger of blame now seem to have short memories and an inability to distinguish hindsight from foresight.
They also invariably undervalue the social importance of maintaining low unemployment — which the stimulus achieved.
I suspect the tide will go out for every asset class in the next year.
My teenage children, who have mates trading sneakers online, argue that limited edition Nike Air Force 1s will never lose value.
Maybe the sneaker market is the inflation-proof safe-haven investors are all looking for.
I doubt it, but I’m interested to watch just how far the great rebalancing spreads. Cryptocurrencies and NFTs are already under pressure. The big risk for New Zealand is property. Sharemarket falls aren’t great for our KiwiSaver funds but they won’t rip through our economy the same way a property crash could.
In 2008 and through subsequent years, the GFC took a terrible toll on the property sector.
The total collapse of propertyleveraged finance companies was a disaster for investors. New builds stalled and lack of supply led us to the next housing bubble. Boom, bust, boom, bust . . . it’s a cycle New Zealand needs to shake.
There should be a safer regulatory environment now but there are still storm clouds gathering over the construction sector and, to some extent, residential property.
Last week, Stats NZ figures showed building consents hitting another record high above 50,000 for the year to March. We also saw a Wellington property developer going into liquidation.
Supply issues and buildingproduct inflation risk creating delays and cashflow issues for developers.
Those issues will create serious problems for those with high debt as rates rise and banks get tough on lending.
Residential property, where most New Zealanders have their largest investment, should hold up better because people like to buy houses to live in them. So I don’t think we’ll see a house price crash.
But the forecasts are for a sizeable correction — as much as 15 per cent across the next two years according to Westpac’s latest report.
That’s still dramatic for a market that has grown accustomed to double-digit growth.
The Reserve Bank last week presented a range of scenarios, including “worst case” of a 30 per cent crash.
I’m summarising the finer points of the RBNZ Financial Stability Report here but it’s accurate to say they think this would be very bad.
Here’s hoping New Zealand is better placed to handle the down cycle this time. And here’s hoping the cycle itself isn’t as bad as last time.
If it’s short and sharp and deals to inflation then we should count it as a win.
It bears repeating: the pandemic did not make the world a richer place.
So wherever it may have inflated paper wealth — your house price, your KiwiSaver or the cash in your bank account — expect to see a rebalancing.
Hold on to your togs — the tide is going out. — NZ Herald